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T.N. Vance

The Permanent War Economy
Under Eisenhower

An Analysis of Economic Trends in 1953

(April 1953)

From The New International, Vol. XIX No. 2, March–April 1953, pp. 89–99.
Transcribed & marked up by Einde O’Callaghan for the Encyclopaedia of Trotskyism On-Line (ETOL).

The Stalinist “peace offensive” has been a long time in coming, but it was inevitable so long as the military stalemate continued in Korea. Stalin’s death may have accelerated the new Kremlin line, although there is considerable evidence that the basic strategy and major tactics of the “peace offensive” were worked out under Stalin’s personal leadership during the past six months. Stalin’s heirs may require time to work out and consolidate the succession. They may also wish to take precautions against any bold foray by the advocates of “preventive war” in Washington; and in an atmosphere of “peace” counsels of military attack are not likely to make much of an impression. Above all, however, they must figure on the “peace offensive” strengthening already apparent deflationary tendencies in the American economy.

Initial reactions in the United States show that the Kremlin’s strategists have not entirely miscalculated. A front-page article on April 8 by ace political reporter of the New York Times, James Reston, is headlined, Soviet Tactics Give U.S. Problem of Avoiding Slump if Peace Comes. The dependence of American prosperity on war outlays is expressed by Reston in these words:

“So long as the Kremlin was waging war in Asia and crying havoc all over the world, the Western nations were able to achieve full employment at home and at least a measure of unity with each other.”

After pointing out that a host of problems in the field of foreign policy are pressing for solution, Reston goes on to state:

The drop in stock market prices immediately after the red doves were sent aloft in Moscow was another reminder to the Administration that the pace of its planning in the domestic economic field was also running behind the pace of world events.

Labor union leaders, concerned about the talk here of cutting the defense budget, already have started appealing to the President to plan at once for the day when the vast Government orders for munitions will drop off. This same thesis is being heard within the President’s official family, particularly from those officials who have been studying the meaning of the recent Soviet moves.

These officials see increasing evidence of an internal struggle for power in Moscow. They believe that, for the time being, the Soviet leaders may want to relax the tension in the world so that they can deal with these internal problems. But the observers think that at the same time the Soviet hierarchy is trying to bring the United States up against the major problem of keeping its people employed when it shifts to a modified peace economy.

In the Soviet mind, the capitalist world cannot close the gap between its production and consumption without vast expenditures for war. The Russians insist on believing that Americans have learned nothing about distribution in the last fifty years and that the only answer to unemployment here is to create international crises that put men to work in the munitions factories.

Even more forthright is Arthur Krock, in his column in the New York Times of April 5:

Though tragic is the jest that what officials fear more than dateless war in Korea is peace, the jest has a real foundation. The vision of peace which could lure the free world into letting down its guard, and demolishing the slow and costly process of building collective security in western Europe while the Soviets maintained and increased their military power, is enough to make men in office indecisive. And the stock market selling that followed the sudden conciliatory overtures from the Kremlin supports the thesis that immediate prosperity in this country is linked to a war economy and suggests desperate economic problems that may arise on the home front. (Italics mine – T.N.V.)

The possibility, even the probability, of a major change in the political and economic climate serves as an opportunity to review some of the major trends in the Permanent War Economy and to focus attention on some neglected aspects that are not without importance. First, however, it is instructive to recall the so-called “Varga controversy” that disturbed Stalinist circles in 1947. It will be recalled that virtually all Stalinist theoreticians took the position that there would be an immediate capitalist collapse following the cessation of military hostilities. Varga, however, disagreed. He maintained that there would be a short period of capitalist prosperity before any crisis developed. The dispute was important not only for its substantive features, but because it is alleged that Varga’s political mentor was Malenkov.

According to the authors of one of the reports of a Zhdanov-Malenkov faction fight, Zhdanov was the “internationalist,” basing his “revolutionary offensive” on the prospect of postwar depression in the capitalist world. Malenkov, however, is supposed to have been the “nationalist,” advocating concentration on Stalinland’s internal problems. Varga’s views were supposed to have been anathema to Zhdanov and to have been welcomed by Malenkov. When Varga was disgraced, it was presumably evidence that Zhdanov had the upper hand in his struggle with Malenkov. Why, then, Varga waited until 1949, after Zhdanov’s death in 1948, to recant is not at all clear. Be that as it may, if Varga played such an important role in the struggle for Stalin’s mantle, he has presumably been installed as number one economic advisor to the Kremlin now that Malenkov is premier. Thus reasons the “cloak-and-dagger” school of interpreting Kremlin actions, of which there are many and varied exponents in this country.

Regardless of whether Varga’s views were or are of political importance in helping to determine Kremlin policy, he has been the leading Stalinist economist and a summary of his views may well be instructive in providing some insight into the motivation for the Kremlin’s “peace offensive.” An article by Evsey D. Domar, associate professor of political economy at The Johns Hopkins University, in the March 1950 issue of the American Economic Review, entitled The Varga Controversy, summarizes the essence of Varga’s predictions (published in September 1946), as:

1. During the first decade after the war economic conditions will be a natural aftermath of the war itself.
    
2. The impoverished countries of Europe and Asia will suffer throughout the period from what he calls a “crisis of underproduction.”
    
3. The United States, Canada and other countries whose productive capacities were greatly increased during the war will enjoy a short, two-to-three-year prosperity after its end.
    
4. This short prosperity will be followed by a sharp crisis of overproduction, probably more prolonged than that of 1920–21.
    
5. When this crisis has been overcome, a new industrial cycle will begin. It will be not of the 1921–29, but of the 1929–37, type; i.e., its recovery will be incomplete. In its background there will be a sharp and prolonged agrarian crisis. (Italics mine – T.N.V.)

The above analysis conforms rather well to actual events, if one assumes that the outbreak of the Korean war prevented the “recession” of 1949–50 from developing into “a sharp crisis of overproduction.” Actually, of course, neither Varga nor any other Stalinist foresaw the development of the Permanent War Economy, but Varga’s expectations of “a sharp and prolonged agrarian crisis” are prescient. For the agricultural crisis has already started, as the Republicans are beginning to discover.

While the news of surplus butter, and threatened surpluses in wheat, cotton, tobacco, etc., is more dramatic, any Kremlin analyst working on trends in the American economy would be able to point up a number of significant developments indicating that a downswing in the economic cycle is at hand:

1. The raising of the rate of interest. The Federal Reserve rediscount rate has been raised from one and three-quarter per cent to two per cent. This has the effect of reducing business loans by commercial banks and raising the bank rate. The Eisenhower Administration has also raised the interest rate on long-term (thirty-year) bonds to 314 per cent, the impact of which will reinforce the tendencies already at work to raise the average rate of interest throughout the economy. A rise in the average late of interest is normally deflationary; in fact, it is because of a mistaken fear of further inflation that the Eisenhower Administration has admittedly used state power to bring about a rise in the rate of interest.
    
2. The falling backlog of orders in the machine tool industry. This was already evident at the end of last year, for the Wall Street Journal in its edition of December 29, 1952 was able to write:

“The heyday of new defense business for machine tool builders is about running out, at least for the time being. This is in marked contrast to the deluge of orders that poured in a year ago on an industry struggling feverishly to expand production ... Backlogs, meantime, continue to be further reduced as rated productive capacity goes up and new business falls off. The industry now has enough business on its books to keep it working at capacity for 11 months, compared with about 18 months at the start of 1952. However, the backlogs are not evenly distributed. Only about one-fourth of the industry can boast a six-month-or-more backlog. Included in the remainder, in fact, are many companies looking for business.”

And the machine tool industry, of course, is the prime mover in the production of means of production.

3. The slight, but steady, decline in wholesale prices. The wholesale price index for all commodities of the Department of Labor (which has a base of 1947–1949 equal to 100) declined during 1952 from 113 in January to 109.6 in December. While this is a decline of only 3 per cent, it indicates that the period of acute inflation in the primary markets is passed. As a matter of fact, for several months now virtually every raw material has been in distinctly easy supply. The final evidence, of course, is the abandonment of the Controlled Materials Plan, revealing that there is an ample supply of basic metals. While the Eisenhower Administration boasts of decontrol as part of its philosophy, the truth of the matter is that the basic decontrol steps so far taken were planned under the Truman Administration.
    
4. The parity ratio, comparing prices received and paid by farmers, shows a perceptible decline during 1952. The figure was 105 in January 1952, but declined almost 10 per cent to 95 in January 1953. Since the parity ratio is based on average prices received and paid by farmers in the period 1910–1914, which was a rather good period for American farmers, a parity ratio below 100 does not indicate that farmers are starving. But a decline of 10 per cent in a year is precipitous, and when the parity ratio goes below 100 (which it did beginning November) political storms start brewing in the Congressional farm bloc.
    
5. The deflationary attitude of the Eisenhower Administration as contrasted with the inflationary outlook of the preceding Truman Administration. This manifests itself in various ways, notably in announced programs to reduce Federal expenditures, to stretch out the defense program over a longer period of years, while at the same time there is an apparent refusal to reduce taxes and strict admonishment about the dangers in the expansion of consumer credit. The Eisenhower Administration is believed to be not averse to a mild deflation and to an accompanying modest rise in unemployment.

It is only natural, therefore, that the Kremlin should be aware of growing signs of a deflationary trend in the American economy and should seek to take advantage of them. If its “peace offensive” encourages a larger reduction in war outlays than already planned, the possibilities of American internal difficulties diverting attention from consolidation of alliances and strengthening the military position of American imperialism abroad are that much greater. Moreover, no careful analysis of the American economy is required to arrive at the conclusion that deflation is at hand. It is only necessary to read the public statements of responsible spokesmen of big business and organized labor.

For example, Fortune magazine in its March 1953 issue states:

A majority of U.S. businessmen expect some sort of decline in business activity in the next couple of years, according to a recent Journal of Commerce survey, as do a majority of economists and analysts of business. Fortune looks for a slight downturn as early as the second half of the year. But as for the larger and longer-term worries about recession or depression sometime in 1954 or 1955, we believe the readjustment is apt to be mild, if relatively prolonged.

After a discussion of semantics and defining a “readjustment” as a mild recession, Fortune takes an unusually forthright position (which accounts for this article being much quoted) by stating:

The present outlook is for “a mild but prolonged readjustment,” perhaps lasting a year and a half, because non-durable goods and services should grow as taxes come down (along with defense outlays), and because public works and exports should offset a decline in capital expenditures. This readjustment would wind up, according to Fortune’s “reasonable” projection of 1955, with G.N.P. and industrial output distinctly below prospective capacity and with possibly five million unemployed. (Italics mine – T.N.V.)

Unemployment of five million would mean an increase of 200 per cent over present levels, and would undoubtedly pose serious problems. Such a prospect naturally concerns organized labor, particularly its more articulate sections such as the U.A.W. One can, for example, quote at great length from the report of President Walter P. Reuther to the 14th Constitutional Convention of the UAW, held at the end of March at Atlantic City. A 20-page section on General Economic Conditions begins by stating:

“The national economy is now headed for a long-postponed showdown with basic economic realities. Since 1939, when 9½ million unemployed walked the streets, there has been no real test of the stability of our economy. In all the years since, this country has not had to face up to the question of whether we can raise our living standards to match our power to produce, and then keep both rising together.”

After recounting the increase in productive capacity (“Manufacturing capacity increased by 31 per cent from 1939 to 1946 and by 55 per cent from 1946 to 1952”) and the enormous currently unsatisfied needs of the American working class, as well as reviewing in a comprehensive manner the basic trends within the economy, Reuther concludes with an impressive non-sequitur that “our economy [must] move rapidly forward to constantly improved living standards, or collapse in depression.”

One should not fall victim to one’s own propaganda. Everyone will agree that the constant improvement of living standards is a desirable goal, but the probability of such a development is rather small. In fact, under the Permanent War Economy it is impossible over any extended period of time. It does not, therefore, follow – as Reuther (and others) would have us believe – that the economy will “collapse in depression.” On the contrary, an understanding of the Permanent War Economy would reveal that a sizable depression is excluded. This does not mean that a downturn is impossible. We have shown in our original series of articles on the Permanent War Economy that “the changes [in the ratio of war outlays to total output] are rapid and qualitative in nature, which is another characteristic of the Permanent War Economy stage of capitalism. The figures suggest that about 10 per cent of total output must be spent in the form of war outlays before the latter become significant in their impact.” (The New International, January–February, 1951, p. 38)
 

ACTUALLY, WHAT HAS HAPPENED IS THAT the ratio of war outlays to total output is beginning to decline. This trend was already evident prior to the start of the new Stalinist “peace offensive.” It appears likely that it will become more pronounced in the near future. There is still no evidence, however, that capitalism intends to abandon the Permanent War Economy. Both political and economic considerations clearly exclude such a variant.

If we revert to the analogy of “habit-forming drugs,” used in the introduction to Part III of the series on the Permanent War Economy, Increasing State Intervention (cf. The New International, May–June 1951, p. 132), we can refer to the economy as a drug addict. War outlays are the drug which has sustained a high level of economic activity. As is apparently the case with pathological drug addicts, a constantly increasing dosage is required in order to maintain the same effects of activity as previously. The measurement of the “dosage” is the ratio of war outlays to total output. Even a stable ratio of war outlays leads to a process of atrophy setting in. The “appetite” of the economy for war outlays increases steadily. If the ratio of war outlays to total output, although significant, merely remains level, tendencies toward a slackening in activity begin to appear in various sectors. If, on top of this, an actual decline in the ratio of war outlays to total output is to be recorded, then deflationary consequences are unavoidable. How much deflation is, of course, another question. There can be deflation without depression, in any recognizable meaning of the term.

Inasmuch as it is now more than two years since the basic calculations were made in the development of the theory of the Permanent War Economy, we can now substitute actuals for our estimates. This is done below for the period 1949–1952 inclusive.

Our concept of measuring the ratio of war outlays by comparing direct and indirect war outlays to net national product remains as heretofore stated. Our concepts of direct and indirect war outlays, however, have undergone some modification because in the interim Commerce has redefined and republished the Federal war component of Federal government purchases of goods and services. This has been in the form of a series entitled “national security,” which is broken down into “national defense” and “other national security.” The definitions, contained in the July 1952 issue of the Survey of Current Business, are:

“National defense purchases comprise the purchases of the Atomic Energy Commission, Defense Department, Maritime Administration (before 1950), National Advisory Committee for Aeronautics, and Selective Service System, together with purchases for the programs of defense production and economic stabilization, foreign military assistance administered by Mutual Security Agency (formerly Mutual Defense Assistance program), and the stockpiling of strategic and critical materials.”

This is a broader concept than we previously used, and involves shifting from indirect to direct war outlays such programs as atomic energy, foreign military assistance and military stockpiling. There can, however, be no objection to this revised definition of war outlays.

The “other national security” series of Commerce forms only one part of our concept of indirect war outlays, for it is defined as comprising those purchases of “the Maritime Administration (after 1949), National Security Council, National Security Resources Board, Philippine Damage Commission, and State Department, as well as purchases for the following foreign economic assistance programs: those now administered by the Mutual Security Agency, government and relief in occupied areas, India Emergency Food Aid, International Children’s Emergency Fund, and Yugoslav Emergency Relief Assistance." To this base, we have added purchases of the Veterans’ Administration, as well as certain minor governmental programs, as explained in Part I, p. 36 of the January–February 1951 issue of The New International.

The differences between our revised calculations and our earlier estimates may be seen by comparing the ratios of war outlays to total output, as follows:

Not only did we fail to take into account the degree of inflation that actually occurred (in fact, we deliberately made no attempt to forecast the amount of inflation), but we also underestimated the real increase in production and overestimated the amount actually spent on war outlays, as there developed a considerable lag between military expenditure plans and actual purchases. There was, in addition, of course, the conscious stretching out of the defense program by the Truman Administration. The trend line of our new series differs markedly from the old. War outlays have not reached the 20 per cent level, and the necessity for direct controls on production and prices has diminished. Moreover, the rate of increase in the ratio of war outlays to total production has been significantly less than predicted, thereby encouraging the process of atrophy to develop.

The pronounced change that has occurred in the economic outlook may be seen quite clearly from examining the 1952 data on a quarterly basis, while remembering that in our original forecasts we had expected the peak ratio of war outlays to be reached in 1953, as was at that time the apparent plan. On the assumption that net national product will show the same trend as gross national product, and the further assumption that our total war outlay series will correlate closely in trend with the Commerce series for total national security, we can construct index numbers for the quarterly ratios in 1952, with the first quarter of 1952 as base. We then obtain the following picture:

As can be seen from the above tabulation, the incidence of war outlays during the current military build-up reached a peak during the second quarter of 1952. A slight decline during the third quarter of 1952 was followed by a more significant decline in the last quarter of the year. Present information indicates that this trend continued during the first quarter of 1953. Here, then, we have cogent economic reasons for the setting in of a deflationary trend. The fact that the ratio of war outlays to total output can change in both level and direction during the epoch of the Permanent War Economy is a factor of enormous importance in appraising current trends in the economy, and one of the more neglected aspects of the theory of the Permanent War Economy.

On reexamination, therefore, we feel that our basic conclusions remain valid, although certain formulations may require modification and several of our short-term predictions are invalidated by faulty assumptions. We have, for example, referred to the chronic character of inflation under the Permanent War Economy. Over a period of years, this remains true; yet, as we did indicate, there will be ups and downs in the price level. Hence, a formulation such as “This rate of increase in the price level will continue to be maintained, regardless of controls, because inflation is unceasing and permanent” (Part II, Declining Standards of Living, March–April 1951 issue of The New International, p. 89) is incorrect. It has to be modified by the demonstrable fact that there is a marked variation in the ratio of war outlays to total output, and during the period when the ratio declines, the inflationary pressures are reduced and, in many cases, converted into their opposites – i.e., deflationary pressures.

The decline in the cost of living, as measured by the Consumers’ Price Index, new or old, of the Bureau of Labor Statistics, is clear-cut evidence that the peak of the present inflation has passed. The manner in which several large corporations have used this decline in the cost of living to reduce wages should serve as a reminder that the class struggle has not disappeared.

In retrospect, it is clear that our major error of fact was our gross underestimation in the amount of capital accumulation that could be expected to take place in the period following the outbreak of the Korean war. While we consciously underestimated in order to maximize the amount of civilian output available to sustain civilian standards of living, we neglected to take into sufficient account the fact that even at a 20 per cent level of war outlays there was room for sizable private capital accumulations that did not exist in 1943–1944, when the ratio of war outlays exceeded 40 per cent. As a consequence, we have underestimated the impact of capital accumulation in sustaining the inflationary boom. By the same token, we have not given full weight to the increase in productive capacity to which these unusually large capital accumulations have given rise.

It may help, therefore, if we set the record straight by presenting revised

actual figures on capital accumulation in substitution for our previous estimates. As before, we equate capital accumulation to net investment in the Commerce private capital formation series. This procedure possesses several weaknesses, especially a dubious treatment of inventory accumulation, but it is the only handy official series and serves the purpose of providing a broad picture of what has happened in this vital sector of the economy.

For the seven post-World War II years, 1946–1952, net private investment totals more than $174 billion, averaging about $25 billion annually. This means that on the average 10 per cent of the net output of each year has been added to the capital stock. There has, consequently, been an enormous increase in productive capacity. This substantial increase in capacity manifests itself first and foremost in durable goods, especially consumer durables. Passenger automobiles, for example, could be produced at a rate of seven million a year and production for 1953 is expected to exceed six million. Since this comes on top of six high production years in a row, there may possibly be some difficulty in disposing of the entire output. The Reuther report, previously cited, states (p. 64): “The industry as a whole, however, is becoming uneasy about future marketing prospects.” In fact, it is a rather open secret in the trade that what prompted the recent price reduction in the Chrysler line is that their cars are backed up all the way to the factory. In short, it may not be long before sales for the entire passenger auto industry fall short of production. Automobile production remains the bellwether of the civilian economy. A similar trend may be expected in several important durable goods lines, thereby adding to the deflationary forces enumerated above.

In discussing the increasingly high organic composition of capital in Part III, Increasing State Intervention, in the May–June 1951 issue of The New International, we stated (p. 150):

“Precisely where the breaking point is likely to be, no one can say, but it is clear that the composition of capital is already dangerously high and constitutes a sword of Damocles, hanging over the unsuspecting head of such a highly-geared capitalist economy that in a few years it is possible to produce all the automobiles, television sets, etc., that can be sold under capitalist conditions of production.”

While precise figures are not available, all available evidence indicates that the composition of capital has continued to increase. Theoretically, these trends ought to result in a falling average rate of profit. Empirical evidence indicates that both the mass and rate of profit did begin to decline in 1952.

If the net investment figures developed in the previous table are compared with net national product (total output) for the same years, 1946–1952, it will be seen that the ratio is 10 or 11 per cent in all but two years. These were 1949, when an “adjustment” took place, and 1952, when a plateau was reached and the beginnings of an adjustment are apparent. In 1949, the ratio of net investment to net national product was 6 per cent. In 1952, it was 8 per cent.

The pressures previously cited that would lead to increasing reliance on state foreign aid, given the continued low level of private exports of capital, remain. To what extent the Eisenhower Administration will curtail state foreign aid remains to be seen. In any case, exports of capital, both state and private, are unlikely to increase and cannot offset the deflationary trends analyzed above.

Some deflation is clearly in process of taking place. The question remains: how much? A sober consensus is given by Thomas F. Conroy in the New York Times of April 12, 1953:

“While the economy appears to be entering a deflationary transition period which may involve some setback and certainly intense competition, business and industry do not face another 1929. There are too many favorable differences between 1953 and 1929.”

In Part V of the Permanent War Economy, Some Significant Trends, September–October 1951 issue of The New International, we stated (p. 254):

“A sharp reduction in war outlays in the near future is therefore unlikely and would in a remarkably short time cause a collapse of the economy.”

There seems no reason warranting change of this forecast. The ratio of war outlays to total output may decline to 15 per cent or thereabouts, but there is no indication that any sharp reduction in war outlays is in prospect. In fact, peace or no peace in Korea, according to Anthony Leviero in the New York Times of April 8th:

“John Foster Dulles, Secretary of State, is planning to go to the North Atlantic Treaty Council meeting in Paris on April 23 with a restatement of this country’s defense policy predicated on ten or twenty years of tension.” (Italics mine – T.N.V.)

It does seem possible, however, that at a 15 per cent level it is possible to dispense with most direct controls, although it is worth noting that the Eisenhower Administration has been forced to set up a permanent control establishment in the Office of Defense Mobilization. This agency will undoubtedly be responsible for introducing the stand-by controls in the event that they become necessary.

While official forecasts are necessarily optimistic, indicating that there will be no deflation, it is apparent that some deflation, accompanied by rising unemployment, perhaps to the level of the five million forecast by Fortune, is the likely order of events over the next two years. There should, therefore, be a consequent eruption in the class struggle, with increasing strikes throughout the economy. Objective conditions are perceptibly ripening for a leap forward in the political level and class consciousness of the American workers, and it behooves the socialist movement to pay close attention to these awakening forces. Let us not go overboard with predictions of dire depression and mass unemployment. But let us not imbibe capitalist propaganda to the effect that “capitalism has learned how to solve the fundamental problems of the business cycle.” Both extremes are wrong and to be avoided in developing socialist policy for the current economic environment and that of the immediate future.

April 1953

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