No phase of Public Finance, perhaps, has received so much fallacious reasoning as the economic effects of public expenditures. Many early statesmen and writers favored a large expenditure because it put money into circulation, increased the demand for labor, relieved the poor by giving them employment, removed the objections to taxes when the state returned much to the citizens, and for similar arguments. It would be a waste of time to elaborate upon these fallacies for modern students of economics. Let it suffice to remind them that lavish and useless expenditure does not create wealth. The more a state spends out of a given amount, the less is left for individuals to spend. The demand of the state for labor and goods is substituted for that of the individual. When the state demands materials and services, therefore, this demand is not added to that of individuals, as was formerly believed, but exists instead of the demand of individuals. The revenue exacted from industry to pay an army could have been used by industry to pay wages to men in the army had they not been employed by the state. The total demand cannot be increased by state expenditure - in fact, it may be materially decreased because of expenses in administering public funds.
Public expenditures, nevertheless, do have important economic consequences which should be kept clearly in mind. The answers to the above fallacies indicate some of them. When the state enters the market for materials or labor, it becomes a competitor with its citizens for these same commodities or services. Under normal conditions, because of the widespread activities of governments, the state is a large purchaser of goods and services. In an abnormal situation, such as a war, the demands of the state are enormous. Since states do not have to measure cost and value of the product, the price paid for materials and services is not based upon the same principle as in individual industries. In cases of emergencies, especially, as in the Great War, the state is likely to pay abnormally high wages in order to attract labor, and abnormally high prices for materials in order to secure the needed supply. A hardship is thus felt among individuals who demand similar services and materials, but who cannot pay such high prices. The abnormal wages cannot but have an effect on the worker. With his increased wages comes a higher standard of living, which he is desirous of maintaining. When the emergency is past, and the government demand ceases, he must seek employment where wages are determined differently. The tendency is now toward lower wages. The dissatisfaction caused by such shifts will have some effect in causing industrial friction. The artificial demand of the government for goods, with a subsequent cessation, will have much the same effect on commodity prices in particular lines.
The Unemployed. - The problem of the unemployed is one with which the state is confronted. Some contend, while recognizing the economic fallacy of the "make work" idea, that, from the effect on the individual, it is better that the state create some occupation than resort to charity. However this may be, a more sensible and economical scheme would be for the state to utilize labor for its needs when unemployment is greatest in other fields. Cities, for example, could carry on much of their work as well at one time as another, and would tend to ease the whole situation by employing labor when it is not otherwise needed, rather than by competing for it. The same is true, in a measure, with state and Federal activities.