With the rise in conservatism and the likely success of Mitt Romney in the upcoming presidential election, there will be a renewed effort to beat the war drum in regard to Iran. Given the disappointing economic conditions here in the U.S., there might be popular support for war, especially among some politicians and economists who believe that war will jump start our stalled economy. In a September 5, 2010 article in The New York Times, renowned economist Paul Krugman stated: “From an economic point of view, World War II was, above all, a burst of deficit-financed government spending” [that he believes was responsible for a long lasting economic boom]. He then concluded: “The economic moral is clear: when the economy is deeply depressed, the usual rules don’t apply.” Such a view is rooted in the belief that consumption is the main impetus for economic activity. Its effectiveness in modern time, however, may be open to speculation. To the extent that war necessitates a huge increase in government spending, it may have an expansionary effect on the economy. Workers would be able to find employment and earn income in war-related industries, and factories would produce more output to support a war. Additionally, the rebuilding efforts after a war could also help the economy.
We should notice, however, that while this was true in the past, this may no longer be the case because the current recession is not on par with the Great Depression in terms of causation, intensity, duration, and consequences. Those who draw a parallel between the two may be scantly right at best. Unemployment was 25% at the height of the Great Depression while it was less than 9% at the trough of the great recession of 2007. Many economists believe that the Great Depression was not basically triggered by lack of or insufficient spending, but rather by the tremendous loss of wealth due to the stock market crash, the increase in taxes on imports following the enactment of the Smoot-Healy Act, and the tight monetary policy of the Federal Reserve. Accordingly, massive investment in public works projects, which was beyond the will and ability of the private sector, was needed and was in fact instrumental in moving the economy out of the Great Depression and into a healthy recovery phase that lasted for more than three decades.
The Great Depression was primarily caused by years of reckless mortgage lending and risky asset-backed securities that were created and sold to investors worldwide. The resulting financial crisis then infected the real economy and brought it its knees, ultimately causing its meltdown. Furthermore, the nature of business fluctuations has changed over the past 50 years, thanks to more prudent formulation and implementation of fiscal and monetary policies that were lacking prior to the Great Depression, and the installment of safety nets such as the Social Security system that automatically kick in to counter the business cycles. Finally, the nature of war has changed in modern time. Wars are now more high-tech, like the popular drone war, and they are less expensive and less labor intensive. Since most expenses in the recent wars in Iraq and in Afghanistan are related to moving heavy equipment and personnel, this is not going to help the production sector of the U.S. economy as much as in WWII. In fact, war will likely be more economically helpful to those countries the U.S. attacks or invades rather than the U.S. itself.
It is illusionary to rely on war to stimulate economic growth. This is what economists call the fallacy of the broken window. If you spend $500 to replace a window in your house that was broken by the obnoxious kids in your neighborhood, your action surely creates jobs and incomes for those who replace the window. However, spending $500 on that window would prevent you from buying other things with that money, for example buying a new suit for yourself or a dress for your wife, thus creating an offsetting effect to begin with. In other words, some activities that look productive do nothing but divert resources from alternative and perhaps more efficient options. Just as you do not ask the neighborhood kids to break your windows so you can create jobs and incomes for others, government should not start a war for the same purpose. In a broader sense, should we resort to doing wrong things for right reasons, such as stealing food and money from some people for the sake of helping others or incentivizing poor people to sell their organs to help patients in need?
There is no phrase more famous in the English language than “there is no free lunch.” Well, at least there is none from an economics point of view. Even if something appears to be free monetarily, it is not economically. Every choice we make involves trade-offs or opportunity costs. That is, resources that are used to repair that broken window, or to produce armaments, could have been used for more valuable purposes. In other words, if a nation spends billions of dollars on war, it has to forgo the other things that could have been purchased with that sum of money.
Even if we ignore its colossal non-monetary costs, war is not going to generate real economic growth; its effects are only nominal at best and economically unimportant. To begin with, war mostly wastes the resources needed to rebuild the things that have been destroyed. Money that is spent on war could be used for something more productive such as education and public health, or saved for investment purposes. The crucial point is that the economy is not going to be better off as a result of war or repairing war-related destruction. War or no war, the economy will remain the same.
You may ask, what if the economy was in recession and war helped to utilize the idle workforce? Critics may claim many workers go back to work, thanks to jobs created as a result of war. This argument may be fictitious as well. Why do some workers always remain unemployed to begin with? In modern economies, some people remain unemployed for a variety of reasons regardless of the condition of the economy. They may lack the skills or the education needed to perform modern jobs; the economy may be in a recessionary cycle; or some big companies may move jobs overseas. War does not solve or alleviate any of these or other causes of unemployment. Under normal conditions, some unemployed workers will return to work shortly after the economy starts recovering. Today, unemployment is mostly rooted in structures that involve the permanent loss of jobs. Under such circumstances, either new jobs must be created by the private sector, or structural bottlenecks must be dealt with, often through well-designed government policies. This requires the collaborative efforts of both government and the private sector, and not an ineffective band-aid type solution that may be achieved through war.
The idea of stimulating the economy through an increase in government spending was first proposed by a British economist named John Maynard Keynes. The reason for its immense popularity was due to the reality that his theory came at the right time, when the U.S. economy was suffering from the deepest recorded economic downturn in its history known as the Great Depression. Keynesian prescription did in fact help the United States to successfully come out of this depression victoriously. But Keynes never meant that government should promote economic growth through war.
Since the Great Depression, Keynesian ideology has remained in the mainstream of American economics and politics. The key reason behind its effectiveness was the concept of multiplier, proposed by Keynes himself, in which he suggested that, over time, every dollar of additional government spending will create much more than one dollar worth of additional income and spending for the economy. In other words, the effect of government spending on the overall economy will be magnified over the long term. However, when it comes to the effect of multiplier, there are some serious considerations. First, it seems that multiplier has worked more effectively in the past, especially during a highly aberrant time like the Great Depression, but its effects in recent recessions has been feeble. That is, the streams of additional incomes and spending that are supposed to follow the government policy no longer have fully materialized, especially following the recent use of the so-called government stimulus package to contain the 2007 recession. People no longer respond strongly to policies such as spending more money due to tax cut unless other factors are also encouraging, including their own feeling about the economic outlook and their job/income security. If expectations are not optimistic, consumers are not going to spend enough and the multiplier will fail to fully function. I would argue also that at some point in time, especially in later stages of life, consumers develop a sense of aloofness to government policies because they have seen no useful results from them. They will no longer be avid spenders as they used to be once they reach a stage of life where their demand is mostly saturated, as evidenced by every room in their homes filled with stuff they wish to be rid of. This is true with perhaps the caveat that older people (retirees) might still harbor “pent-up” demand for dining out, visits to Mount Rushmore, Yosemite National Park, travel—generating jobs for cruise ships, resort hotels; plus failing health provides work for doctors, nurses, nursing homes, hospices, among other things.
More importantly, there is the “crowding out” effect which suggests that additional government spending eventually leaves a smaller amount of resources, including investible funds, for the private sector because of competition between government and private investors. Increase in government spending will also necessitate additional borrowing that causes interest rates to surge, making private investment more expensive. Also, government spending intensifies the already excessive budget deficit and national debt, forcing people to save more money instead of spending it because they expect that they will have to pay higher taxes in the future. Robert Barrow, a noted economist, seems to believe that the effect of government spending is weak and temporary otherwise there is no reason for government to stop spending if its effects on the economy are so robust. In the January 22, 2009 issue of The Wall Street Journal, Barrow states: “I have estimated that World War II raised U.S. defense expenditures by $540 billion (1996 dollars) per year at the peak in 1943–44, amounting to 44% of real GDP. I also estimated that the war raised real GDP by $430 billion per year in 1943–44. Thus, the multiplier was 0.8 (430/540).”
While there is no consensus among economists, or concrete proof concerning the efficacy of government spending, it seems most economists agree that government cannot remain completely neutral to economic slumps. In an extreme case, spending money, even on infertile but job creating projects, is better than a do-nothing approach. That is the main message of Keynesian economics. This does not, however, justify war to boost government spending. It seems many economists, regardless of their political persuasion, believe that government has an obligation to promote economic prosperity, especially when economic conditions are bleak. One can argue that war-related expenditures helped in the post-depression era not because of additional spending per se, but because the system was also suitable for the trickle down to happen. The evidence indicates that the U.S. economy was in fact on its path toward recovery even before WWII. Government spending simply reinforced that recovery; plus, the potential demand was already strong. People had earned a good deal of money during the long and expensive war and were waiting for a chance to spend their income. The opportunity to unleash their pent-up demand was provided once the war had ended. Some may still credit the war for pulling the economy out of the Great Depression; however, it was the proper government policy that paved the way toward economic expansion. The great prosperity of 1947–1975 did not happen because of the war, but because of prudent and meticulously crafted government policies complemented by favorable institutional settings and the changing of American culture in favor of mass production and mass consumption. Because of these things, war-related spending soon spilled over to the production sector of the economy.
The key concern is whether economic progress can be fostered through military spending. There is no question about the enormity of the U.S. military budget; currently it is $711.0, 4.7% of its GDP and 41% of the world’s total, and Mr. Romney has promised to raise it by $2 trillion over the next ten years if elected. There is no doubt that such spending contributes effectively to the coffers of some industries and to the advancement of some technologies that may also have commercial applications. However, such spending will also choke off the private sector’s investment by diverting resources and the labor force away from this sector and into military activity.
This whole discussion reminds me of an old television commercial. A man buys a Remington electric shaver and he likes it so much that he buys the whole company. Although the commercial was designed to promote a product, the underlying idea is really foolish if you think about. It brings to mind an old expression: you do not buy a cow just for a cup of milk!
This article is published simultaneously in Op Ed News.