Economists' Views on the Costs of War. Part II.

War’s Impact on Economic Life

We will start with English economist Charles F. Bastable, whose treatment of a state’s preparations for war, in terms of the organization of the military and the high cost of armaments, in Public Finance (1917, first pub. 1892) was featured prominently in the last Teacher’s Corner. In discussing the economic costs of war itself, he emphasized their relation to the state’s finances. In paragraph 22 of Chapter II, Book I of Public Finance, after making note of the direct costs mentioned above, he wrote that

There is, besides, the disturbance in the economic system which is a necessary result, and which may injuriously affect, not merely the national well-being, but the state revenues. Such consequences are hard to foresee, and vary widely in different nations. With regard to England, for example, the outbreak of war would materially injure her shipping trade, which forms so important a part of her industry; the diminished profits in that trade, and the innumerable dependent and connected occupations, would soon be shown in the reduced income-tax returns… and would so far affect the state receipts at a time of extra pressure…. A Continental State would probably suffer in a different way. Some of its territory might be occupied by the enemy, and its contributions suspended, or under the most favourable circumstances the productive powers of the community would be reduced by the withdrawal of so many men from their usual employments with the natural result of diminishing the yield from taxation.

Bastable focuses on the impact of war on a state’s treasury. Whether it is the case of English ships no longer being able to convey goods or that of Continental Europeans being pulled away from their normal jobs, what is more prominent than the disruptions to commerce is how they affect the state’s ability to collect revenues during a war, when revenues are most badly needed.

Gustave de Molinari, a French economist writing just a few years after Bastable, made a similar point in The Society of To-morrow (1904, first pub. 1899), that war interferes with a state’s ability to generate funds. Taking the point one step further, he also made mention that it is not just the warring countries that are affected. Countries on the sidelines also feel war’s disruptive effects. In paragraphs 7 and 8 of Chapter 4, Part I, he made explicit that the economic costs of war are not felt solely by the belligerents.

Besides winning profits for the victor, every war occasions loss and injury to the masses who are engaged in the productive industries, and these evils are felt by the subjects of neutral States no less than the subjects of actual belligerents. The very transformation which has been effected in the machinery of destruction has likewise increased the sphere of its effects, and the gravity of the ills which it entails.

The direct losses of war are those of life and capital, and these losses have grown side by side with that increase of power which has followed the growth of population, of wealth, and of credit, particularly among the States of the Old World and in the course of the last century…. Direct loss of this kind primarily affects the combatants, the area of indirect damage follows the extension of international interests. Markets are curtailed, the bulk of exchanges is diminished, the demand for capital and labour is arrested. In fact, while expenditure is suddenly increased, a check is put upon the action of those agencies which supply the means, nor are these losses and damages counterbalanced by any corresponding augmentation of the general security.

Against these costs of war, some writers argued that one must balance possible advantages to be gained through warfare. One such writer, the German economist Adolph H. G. Wagner, believed that among these advantages are “the ennobling effect of warfare on men, and even its value as an economic discipline” and “the fact that successful warfare may allow of the cost being placed on the vanquished.”1 To these propositions, Bastable had the following response in paragraph 23, Chapter II, Book I of Public Finance

These supposed gains are, after all, no adequate set-off against the certain losses. There is no evidence that war promotes higher social or economic training, and it decidedly deadens the higher moral feelings. Under given conditions, capitalists may gain by it, but only at the expense of other classes. The power of placing all the expense on the conquered party is not a diminution but simply a shifting of the burden, as happened in the Franco-German war of 1870-1. And the redistribution is not always purely beneficial to the winning side, while it intensifies the sufferings of the defeated State.

Unlike Bastable and Molinari, who devoted much space to the effects of war’s disruptions on a state’s finances, David Ricardo, an English economist, placed his focus on the commercial disruptions themselves, and more importantly on the reactions of people in response to those disruptions. Indeed, in Chapter 19 of On the Principles of Political Economy and Taxation (1821, first pub. 1817), Ricardo did not write about war so much as he did about sudden changes in trade, of which war was an obvious but not exclusive cause. Such changes require that resources be shifted away from certain industries and toward others, and during this transition resources are not always being used to their fullest capacity. In paragraph 1 of Chapter 19, when discussing a supposed commodity whose freight has become more expensive as a result of war disrupting shipping, Ricardo wrote that

considerable distress, and no doubt some loss, will be experienced by those who are engaged in the manufacture of such commodities; and it will be felt not only at the time of the change, but through the whole interval during which they are removing their capitals, and the labour which they can command, from one employment to another.

In paragraph 3, he elaborated further:

The commencement of war after a long peace, or of peace after a long war, generally produces considerable distress in trade. It changes in a great degree the nature of the employments to which the respective capitals of countries were before devoted; and during the interval while they are settling in the situations which new circumstances have made the most beneficial, much fixed capital is unemployed, perhaps wholly lost, and labourers are without full employment. The duration of this distress will be longer or shorter according to the strength of that disinclination which most men feel to abandon that employment of their capital to which they have long been accustomed.

Ricardo’s main thrust on this point was that when the regular channels of commerce are suddenly disrupted, whether by wars starting or ending, import restrictions being enacted or repealed, or some other factors, then resources will need to be adjusted to reflect the new economic circumstances. In the process of that adjustment, the resources are not always being devoted to their most valuable purposes, and this generates real economic losses for the society.

For example, suppose that as a result of a sudden war between Brazil and Colombia, overnight Brazil was unable to import any Colombian coffee. How might this affect the allocation of Brazilian resources? Because there would be so much less coffee available, there would be shift of resources toward domestic Brazilian coffee growing. While this was occurring, there would still be far less coffee to be sold in Brazil than there was, and at higher prices, so entrepreneurs would shift away from related businesses like running coffee shops and producing non-dairy creamer. Many of these sorts of businesses might close down, forcing their employees to look for jobs in some other lines of work.

During the period of transition, when all of these changes would be taking place, there would be a lot of resources that weren’t being used as fully as they had been. Time that a Brazilian farmer spends reading to learn how to grow coffee is time that he isn’t in the field tending to his original crops. A building that sits empty after the coffee shop that was in it closed down and before a new business moves in is unused capital. The labor of a laid-off creamer factory employee who hasn’t found a new job yet and who may need to move to a new city or develop new skills to find work is not being fully employed. All of these transitional factors represent economic losses of resources, losses that would not need to incurred were it not for the sudden changes in the channels of trade brought about by events like war.

War is an especially pernicious cause of economic disruption because of its temporary nature, coupled with uncertainty over precisely when any given war will start or end. No war lasts forever, so if the onset of a war causes sudden changes in commercial relations, the end of the war and the onset of peace will cause them as well, requiring another costly reshuffling of resources. Ricardo described this effect using an agricultural example in paragraph 7 of Chapter 19.

War, which in a commercial country, interrupts the commerce of States, frequently prevents the exportation of corn from countries where it can be produced with little cost, to others not so favourably situated. Under such circumstances an unusual quantity of capital is drawn to agriculture, and the country which before imported becomes independent of foreign aid. At the termination of the war, the obstacles to importation are removed, and a competition destructive to the home-grower commences, from which he is unable to withdraw, without the sacrifice of a great part of his capital…. If such exertions in a period of emergency were followed by risk of ruin on the termination of the difficulty, capital would shun such an employment. Besides the usual profits of stock, farmers would expect to be compensated for the risk which they incurred of a sudden influx of corn; and, therefore, the price to the consumer, at the seasons when he most required a supply, would be enhanced, not only by the superior cost of growing corn at home, but also by the insurance which he would have to pay, in the price, for the peculiar risk to which this employment of capital was exposed.

Ricardo thus points out a dilemma that economic disruptions caused by war can create for people in affected industries—either they fail to respond to the upheaval the disruptions cause (and pass up on potentially more efficient and profitable opportunities) by not shifting their resources, or they go ahead with the costly transition, knowing that at some unspecified point in the future, peace will be made and something akin to the original circumstances will arise. In the first case, consumers are forced to do without the goods that are no longer available; in the second, they can buy the goods, but at much higher prices as before due to both higher production costs and the need to compensate the producers for the risk they incur.

Further Readings on the Costs of War

For those interested in additional recent writings on the economics of war, a number of articles on the subject have been written since the end of the Cold War. For a discussion of post-Cold War changes regarding military budget levels and distribution, as well as contemporary arms industries, see Treddenick, John M., “Defence and Economics: Some Issues for the Post-Cold War World,” The Canadian Journal of Economics, Volume 29, Special Issue: Part 2 (April 1996), pp. S644-S648. A comparison of different methods for paying for wartime spending used by the United States can be found in Ohanian, Lee E., “The Macroeconomic Effects of War Finance in the United States: World War II and the Korean War,” The American Economic Review, Volume 87, Number 1 (March 1997), pp. 23-40.

One instance of the conventional wisdom that wars are generally stimulating for an economy is the widely held belief that in the United States, the Great Depression ended as a result of the increased spending and mobilization of the Second World War. Robert Higgs challenged this view in “Wartime Prosperity? A Reassessment of the U.S. Economy in the 1940s,” Journal of Economic History, Volume 52 (March 1992), pp. 41-60. His basic argument is that, given that during the war the United States operated to a significant degree as a command economy, traditional measures of economic activity and prosperity do not accurately capture the reality of the time. If more appropriate measures are examined, Higgs argues, a picture quite different from the traditional one emerges, in which the U.S. economy did not fully recover from the Great Depression until the late 1940s, after the last of the wartime command economy features had been removed.

In keeping with the above discussion on economic disruptions caused by war, two more articles look at examples of wartime disruptions from the two World Wars. For an analysis of how the economies of three European capitals were effected by the opening of the First World War, see Lawrence, Jon, Martin Dean, and Jean-Louis Robert, “The Outbreak of War and the Urban Economy: Paris, Berlin, and London in 1914,” The Economic History Review, New Series, Volume 45, Number 3, European Special Issue August 1992), pp. 564-593. For an analysis of the Second World War’s effects on U.S. profit rates, see Dumenil, Gerard, Mark Glick, and Dominique Levy, “The Rise of the Rate of Profit During World War II,” The Review of Economics and Statistics, Volume 75, Number 2 (May 1993), pp. 315-320.