The Macroeconomic Effects of War Finance in the United States: World War II and the Korean War

Abstract

During World War II, government expenditures were financed primarily by issuing debt. During the Korean War, expenditures were financed almost exclusively by higher taxes, reflecting President Truman's preference for balanced budgets. This paper evaluates quantitatively the economic effects of the different policies used to finance these two wars. Counterfactual experiments are used to explore the implications of financing World War II like the Korean War, and financing the Korean War like World War II. The author finds that using a Korean War policy during World War II would have resulted in much lower output and welfare relative to the actual policy. Copyright 1997 by American Economic Association.