What Did Paul Samuelson really say about the Post-WWII US Economy?

Austrians are fond of pointing to various failed predictions of Paul Samuelson about America’s economy after WWII. For background, see my post here.

The relevant predictions by Samuelson can be found in these articles:

Samuelson, Paul A. 1943. “Full Employment after the War,” in Seymour E. Harris (ed.), Postwar Economic Problems, McGraw-Hill, New York and London. 27–53.

Samuelson, Paul A. 1944. “Unemployment Ahead: (I.) A Warning to the Washington Expert,” New Republic, September 11, 297–299.

Samuelson, Paul A. 1944a. “Unemployment Ahead: (II.) The Coming Economic Crisis,” New Republic, September 18, 333–335.

I will focus on Samuelson (1943) in what follows, though I will look at the last two articles in an update.

From the very beginning Samuelson was clear that he did not expect a depression on the scale of the early 1930s:

“... I do not mean to imply that there is a serious prospect that we shall return to national income levels such as characterized the deep depression of 1932-1933. ... The real danger lies in the possibility that we shall lag ever farther behind our true productive potential — that we shall be content with a half loaf instead of insisting upon the whole loaf which can be ours. The thing to fear is an ever-widening gap between our attained levels of output and employment and our true productive potential. It has taken the heavy wartime expenditure to show us how big the gap already is.” (Samuelson 1943: 28).

For Samuelson, then, one of the problems of the post-WWII economy was an output below America’s potential GNP.

Samuelson analyses the nature of consumption and saving when income increases (Samuelson 1943: 29–37), and then the problem of what to do when excessive saving occurs which drains the economy of income and reduces investment.

Samuelson (1943: 37) was also clear that there were fellow economists who were optimistic about a post war boom, on the basis of “private demand alone,” and he listed three types of such economists. The second group of these “optimists” appears to me to be some of his fellow Keynesians:

“[sc. the “optimists” argue that if] ... we add to this the forced saving plans which the future will certainly bring, as well as postwar tax refunds to corporations, it will be seen that the real backlog of deferred demand as a result of wartime depletion of capital will be accompanied by the financial means to make it effective.” (Samuelson 1943: 46).

Certainly this is not dissimilar to what Keynes said about the post-WWII period:

“Keynes harshly rejected the risk of post-war stagnation, holding that because of Social security there would be a large reduction in private saving and so that would be no problem.” (Colander and Landreth 1996: 202).

So here we have evidence from Samuelson that other Keynesians in 1943 were in fact optimists about a boom after WWII.

As an aside, Samuelson also makes some interesting remarks on the post-WWI boom: he notes that the boom of 1919–1920 was also the result of government war spending which continued into 1919 and the surge in demand for American exports in Europe (Samuelson 1943: 48–49), not merely private sector investment and consumption spending.

Now here is the crucial paragraph from Samuelson:

“When this war comes to an end, more than one out of every two workers will depend directly or indirectly upon military orders. We shall have some 10 million service men to throw on the labor market. We shall have to face a difficult reconversion period during which current goods cannot be produced and layoffs may be great. Nor will the technical necessity for reconversion necessarily generate much investment outlay in the critical period under discussion whatever its later potentialities. The final conclusion to be drawn from our experience at the end of the last war is inescapable – were the war to end suddenly within the next 6 months, were we again planning to wind up our war effort in the greatest haste, to demobilize our armed forces, to liquidate price controls, to shift from astronomical deficits to even the large deficits of the thirties – then there would be ushered in the greatest period of unemployment and industrial dislocation which any economy has ever faced. This does not deny that there may be a boom after the war. In this the experts may still be correct. For the release of controls upon demand coupled with plentiful amounts of monetary demand might well give rise to price increase, inventory buying, feverish speculation and all the superficial earmarks of a boom. But it would be the antithesis of a prosperity period, constituting instead a nightmarish combination of the worst features of inflation and deflation. Nor, having spent itself, could it be expected to evolve into healthier channels. Instead, the final outcome would undoubtedly be a cumulative hyperdeflation from which, at best, we should lose a decade of progress and which, at worst, our democracy would not survive.

Of course, this is not intended as a picture of what will in fact happen. For there is every reason to believe that we shall not be lulled into a feeling of false security by the last war’s experience or by the half-truth that the end of the war will witness a boom. No doubt, we shall retain direct controls for a period after the conflict ends. We shall taper off war production gradually. We shall undertake income maintenance in the form of dismissal pay for soldiers, unemployment compensation, direct and work relief expenditure. It is probable, although less certain, that, in addition, the Federal government will initiate employment maintenance measures such as large scale public works, etc. But even these will not be adequate to maintain full employment or any approach to it.” (Samuelson 1943: 51).

When we read this carefully in context, this passage shows us that Samuelson’s predictions were not as erroneous as Austrians and libertarians make them out to be.

For Samuelson said pointblank: “Of course, this is not intended as a picture of what will in fact happen.”

Samuelson’s dire prediction of the “greatest period of unemployment and industrial dislocation which any economy has ever faced” was all dependent on the assumption of the following:

(1) the war ending suddenly within 6 months after 1943;

(2) very rapid termination of war effort and production;

(3) rapid demobilization and liquidation of price controls, and a sudden shift from astronomical deficits to the large deficits of the thirties, and

(4) absence of any “income maintenance in the form of dismissal pay for soldiers, unemployment compensation, direct and work relief expenditure.”

Samuelson was both right and wrong. He was wrong in that he underestimated that private sector investment and consumption boom after 1945.

But he was right on a number of other points. For example, the US did not suddenly dismantle price controls as soon as the war ended: it was not until 1946 that Truman lifted many of these controls.

Samuelson was right that dismissed soldiers would receive “unemployment compensation” and other support: for the Servicemen’s Readjustment Act (or G.I. Bill of Rights, July 1944) gave extensive unemployment benefits to demobilised soldiers. The act also gave soldiers four free years of college education, which must be counted as a significant measure that prevented unemployment from rising as well, since many returned servicemen took college degrees and did not seek work.

The US government still had massive budgets in 1946 and 1947: it did not suddenly reduce the amount of government spending to, say, 10% of GDP, where it had been in 1934-1935. Samuelson was therefore partly correct in saying such measures would in practice avert the “greatest period of unemployment and industrial dislocation which any economy has ever faced.”

Samuelson was also well aware that pent up demand (or what he called “deferred demand”) would be a source of post-WWII growth (Samuelson 1943: 52), but argued that this would fade out after 18 months to 2 years – not an unreasonable assessment at all.

But, above all, the point that emerges from all this is that other Keynesian economists did not share some of Samuelson’s more pessimistic views (and he cited their opinions as those of his second group of “optimists”). And Keynes certainly did not.


BIBLIOGRAPHY

Colander, D. C. and H. Landreth (eds). 1996. The Coming of Keynesianism to America: Conversations with the Founders of Keynesian Economics, E. Elgar, Cheltenham.

Samuelson, Paul A. 1943. “Full Employment after the War,” in Seymour E. Harris (ed.), Postwar Economic Problems, McGraw-Hill, New York and London. 27-53.

Samuelson, Paul A. 1944. “Unemployment Ahead: (I.) A Warning to the Washington Expert,” New Republic, September 11, 297-299.

Samuelson, Paul A. 1944a. “Unemployment Ahead: (II.) The Coming Economic Crisis,” New Republic, September 18, 333-335.