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The Political Economy of War Debts and Inflation

  • Herschel I. Grossman

This paper argues that before World War II the desire to maintain a trustworthy reputation for honoring war debts was an important factor in inducing deflationary postwar monetary policies in both the United Kingdom and the United States. The paper then asks why this policy objective did not serve to induce either a deflationary monetary policy or the honoring in full of war debts following World War II. The discussion focuses on differences in economic and political conditions after World War II, especially the extension of the voting franchise, the increased economic and political power of organized labor, and, perhaps most importantly, the large postwar demands on national resources with which the servicing of World-War-II debts had to compete. The analysis also argues that, because these postwar developments were unforeseeable, but verifiable, contingencies, the partial default on World-War-II debts was excusable and, accordingly, did not cause either the United Kingdom or the United States to lose its trustworthy reputation.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 2743.

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Date of creation: Oct 1988
Date of revision:
Publication status: published as "The Political Economy of War Debt and Inflation." From Monetary Policy for A Changing Financial Environment, edited by William S. Haraf and Phillip Cagan, pp. 166-181 and 210-211. Washington, DC: The AEI Press, 1990.
Handle: RePEc:nbr:nberwo:2743
Note: ME
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  1. Grossman, Herschel I & Van Huyck, John B, 1988. "Sovereign Debt as a Contingent Claim: Excusable Default, Repudiation, and Reputation," American Economic Review, American Economic Association, vol. 78(5), pages 1088-97, December.
  2. Barro, Robert J & Gordon, David B, 1983. "A Positive Theory of Monetary Policy in a Natural Rate Model," Journal of Political Economy, University of Chicago Press, vol. 91(4), pages 589-610, August.
  3. Herschel I. Grossman & John B. Van Huyck, 1987. "Nominally Sovereign Debt, Risk Shifting, and Reputation," NBER Working Papers 2259, National Bureau of Economic Research, Inc.
  4. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-91, June.
  5. Toma, Mark, 1982. "Inflationary bias of the Federal Reserve System : A bureaucratic perspective," Journal of Monetary Economics, Elsevier, vol. 10(2), pages 163-190.
  6. Taylor, John B, 1982. "Establishing Credibility: A Rational Expectations Viewpoint," American Economic Review, American Economic Association, vol. 72(2), pages 81-85, May.
  7. Taylor, John B, 1981. "Stabilization, Accommodation, and Monetary Rules," American Economic Review, American Economic Association, vol. 71(2), pages 145-49, May.
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