Practical Lessons in Budget Cuts: The WWII and Canadian Experiences

According to some polls, more than 70 percent of Americans believe the stimulus is not working. They worry that Washington isn't offering effective solutions to our persistent economic malaise. Instead of the endless -- and useless -- debate over whether stimulus theory works, let's look to concrete examples of how countries can escape a debt crisis, according to David R. Henderson, a research fellow with the Hoover Institution.

Cutting spending is the recipe for economic growth. Several historical examples make this clear. How can we learn from the lessons of the past and the example of our neighbors?

After World War II, Keynesian economists predicted that 10 million service men suddenly joining the labour market, at the same time the government stopped spending money on war, would result in "the greatest period of unemployment... ever faced."

Fortunately, they were dead wrong.

The economy's ability to absorb 10 million new workers (as well as keeping half the "Rosies" in the workforce) as government slashed spending shows that people can shift quickly to productive private-sector employment, if investors have a high degree of certainty about property rights and the rules of the game.

In Canada, a left-wing government turned a federal debt of 70 percent of gross domestic product (GDP) to 29 percent and a surplus of 1.8 percent GDP in 10 years -- without raising individual income taxes or losing control of the parliament, says Henderson.

Reforms came more than 85 percent from spending cuts, the remainder in closing tax loopholes or limiting growth in spending.

The architect of the budget reform, Paul Martin, issued a specific plan for how to make cuts both for the first year and then how to make other cutting decisions in the future, creating a standard to judge politicians' performance.

Martin was consistently re-elected for nearly 10 years and was later elevated to Prime Minister.

Source: David Henderson, "Practical Lessons in Budget Cuts: The WWII and Canadian Experiences," Mercatus Center, December 8, 2010.

For text: http://mercatus.org/video/practical-lessons-budget-cuts-wwii-and-canadian-experiences

For more on Economic Issues: http://www.ncpa.org/sub/dpd/index.php?Article_Category=17

FMF Policy Bulletin / 21 December 2010