Was Lawrence Klein Right About Why There Was No Post-War Slump?

by Don Boudreaux on October 22, 2013

in History, Scientism, Seen and Unseen, State of Macro

In his remembrance today at EconLog of the 1980 econ Nobel laureate Lawrence Klein (who died this past Sunday), David Henderson reprints in full his (David’s) biographical essay on Klein written for the Concise Encyclopedia of Economics.  In that essay, David points out correctly that, unlike many (especially) Keynesian economists in the mid-1940s, Klein did not predict that a recession would result from disarmament and demobilization following the end of World War II.  Here’s the relevant passage from David’s essay:

In 1946 the conventional wisdom was that the end of World War II would sink the economy into a depression for a few years. Klein used his model to counter the conventional wisdom. The demand for consumer goods that had been left unsatisfied during the war, he argued, plus the purchasing power of returning soldiers, would prevent a depression. Klein was right.

Klein’s prediction of no post-war slump was indeed accurate.  It is incorrect, however, to say, without more, that “Klein was right.”  Perhaps he was right, but it’s an error to infer from Klein’s correct prediction that Klein’s economic reasoning to reach and justify that prediction was correct.  If there are other, competing explanations for the post-war boom – explanations very different from aggregate-demand-driven ones of the sort that Klein offered – then perhaps one of those other explanations, rather than Klein’s Keynesian one, is the better explanation.

I believe that a better explanation is Bob Higgs’s regime-uncertainty theory.

Higgs’s theory relies not on the simple mechanism of greater aggregate spending to restore and ensure economic vigor but, rather, upon what strike me as far more important variables that affect economic activity – namely, anticipated levels of government taxation and other species of economic meddling.  The greater is such taxation and meddling – and the more real and widespread is the expectation that such taxation and meddling will intensify – the more sluggish will be the economy.  Higgs makes a powerful case that such a depressing expectation was real and widespread during the entire 1930s – and that that expectation suddenly was sufficiently diffused following the end of WWII with the death of F.D.R. and the G.O.P.’s surprising victory in the 1946 Congressional election.  According to this theory, the dramatic reduction in regime uncertainty – and not (as Klein offered) the release of pent-up demand - caused the post-war boom (or, at the very least, prevented any major post-war slump).

Of course, Keynesians will prefer Klein’s theory, and non-Keynesians – those of us unpersuaded of the centrality of aggregate demand as a causal force – will prefer Higgs’s theory.  (And, no doubt, there is yet a third and a fourth and a fifth and an nth theory to compete with these two and with each other.)  My goal here is not to make a case for Higgs’s theory over Klein’s.  My goal is the more modest one of noting that just because Klein correctly predicted that WWII would not be followed by an economic slump does not necessarily mean that he correctly identified the reason why no such slump materialized.

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