by David Stockman From David Stockman’s Contra Corner. Remarks to the Committee For The Republic, Washington DC, February 2014 (Part 5 in a 6-Part Series) Go to Part 1.
World War II soon delivered another blow to the old-time fiscal religion. Not only did that vast expansion of war production fuel the illusion that New Deal statism had alleviated an endemic crisis of capitalism, but it also became heralded as a splendid exercise in Keynesian deficit finance when, in fact, it was nothing of the kind.
The national debt did soar from less than 50 percent of GDP in 1938 to nearly 120 percent at the 1945 peak. But this was not your Krugman’s benign debt ratio— or proof that the recent surge to $17 trillion of national debt has been done before and had been proven harmless.
Instead, the 1945 ratio was an artifact of a command and control war economy which had banished civilian goods including new cars, houses and most consumer durables, and tightly rationed everything else including sugar, butter, meat, tires, shoes, shirts, bicycles, peanut brittle and candied yams.
With retail shelves empty the household savings rate soared from 4 percent in 1938-1939 to an astounding 35 percent of disposable income by the end of the war.
Consequently, the Keynesians have never acknowledged the single most salient statistic about the war debt: namely, that the debt burden actually fell during the war, with the ratio of total credit market debt to GDP declining from 210 percent in 1938 to 190 percent at the 1945 peak!
This obviously happened because household and business debt was virtually eliminated by the wartime savings spree; households paid off what debts they had left after the liquidation of the 1930s depression and business generally had no ability to borrow except for war production. Thus, the private debt ratio plunged from 150 percent of GDP to barely 60 percent, thereby making massive headroom in the nation’s bloated savings pool for the temporary surge of public debt.
In short, the nation did not borrow its way to victory via a Keynesian miracle. Measured GDP did rise smartly because half of it was non-recurring war expenditure. But even then, the truth is that the American economy “regimented” and “saved” its way through the war.
Supplementing the aforementioned “voluntary” savings spree were “mandatory savings” in the form of a staggering increase in taxation. Confiscatory levies on the wealthy and merely onerous taxation on everyone else caused the tax take to rise from 8 percent to a never again equaled 25 percent of GDP.
Compare that to the opposite circumstances of January 2013. Urged on by the Keynesian stimulators and election-minded “progressive” politicians, Obama signed a permanent extension of the unaffordable Bush tax cuts for the “bottom” 98 percent of households at a cost of $4 trillion in added national debt over the next decade. But unlike 1945, this came at a time when household, business and financial sector debt was 260 percent of GDP, not 60 percent.
Yet professor Krugman said don’t sweat it! FDR proved the national debt doesn’t matter. That wasn’t remotely true—but the persistence of this canard amounts to one more nail in the coffin of fiscal rectitude, and still another illusion that perpetuates the nation’s trillion dollar Warfare State.
[Reprinted with the author's permission.] Go to Part 6.
