Monetary and Fiscal Interactions in the US During the 1940s Cliometrica (2019) (Formerly: The WWII Banking Curse)
It is generally assumed that the buildup of liquid assets in the U.S. during WWII played a large role in generating postwar economic activity. Contrary to this assumption, I establish that military contract spending during the war slowed down the growth of bank balance sheets at the state level during the period 1940-1955. State level bank balance sheets are 10.8 cents smaller per $1 of total military spending by 1949 and 5.8 cents smaller by 1955. This is primarily driven by slower growth of demand deposits. The adjustment on the asset side is largely through reserves and Treasury holdings. Local lending also grows more slowly after the war, but this decrease is relatively small and temporary. This suggests that the local real economy was largely insulated from the slower growth in deposits by the wartime build up of paper assets. Historical evidence points to the fact that slower growth of deposits is likely driven by a relative decline in demand for deposits by large corporations in war industries.
Appendix A: Subperiod Analysis
Appendix B: Bank Charters
Appendix C: Regression Tables
Appendix D: Federal Reserve Districts
Appendix E: Tests of Historical Endogeniety
Appendix F: Data Sources
Appendix G: Reserves and Interbank Deposits
Using a simple fixed effects specification a detailed, underutilized, state level panel of personal income from the BEA I find that state level WWII military contract spending has a complex effect on both contemporary and postwar state level personal income. I find that wartime manufacturing income grows faster in states that receive military contract spending. However, after the war interest dividend and rental income grows more slowly in states that received military contracts. Nonmanufacturing earnings also grow more slowly after the war, though this effect is likely driven by region specific effects. I also find that wartime investment contract spending permanently increases the growth of manufacturing earnings and wartime military infrastructure contract spending permanently increases government payrolls.
WWII Contract Spending and the Great Compression
We find that the share of state level income captured by the top 1% of income earners falls by 1.73pp in response WWII contract spending. We also find a postwar
permanent decline in top 1% income shares of 0.85pp attributable to wartime spending. This is half the measured decline in inequality during the war and one fifth of the average postwar decline. We argue that institutional changes in the 1930/40s across government, labor and business were amplified by wartime spending shocks. To illustrate and explain these changes, our historical narrative contrasts the post-WWI strike wave with the post-WWII strike.”
Appendix A: Outliers and Subperiod Analysis
Revising the Revisionist Version of Reconversion
In this essay I revisit a debate about the nature of the post-WWII reconvesion process. I argue that supply-side explanations for the success of reconversion ignore important aspects of the data when arguing that lower labor costs and business optimism drove reconversion. However, I argue that the critique of the traditional explanations for the success of reconversion are useful. I also argue that the debate about the multiplier effect of WWII spending obscures the true institutional underpinnings of the reconversion success.
Tax Shocks, Financial Channels and Changes in Output
In this paper, I revise prior explanations for the differing response of the U.S. economy to tax shocks in the 1952-1980 and 1980-2007 sub-periods. I find the Fed is more likely to accommodate tax shocks after 1980. Also, consumption smoothing likely does not explain the change between sub-periods; rather, the shifting effect of tax shocks is driven by the fact that tax policy targets low and middle income households before 1980 and high income households after 1980. This suggests the change between sub-periods reflects different fiscal policy choices, not a change in the response of the economy to revenue shocks.