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A revie w b y th e Federal Reserve Bank o f Chicago

Business
Conditions
19 5 9 November

Contents
Shift in meat packing

4

Metropolitan areas,
additions to the family

10

Plateau in defense spending?

12

The Trend of Business

2-4

Federal Reserve Bank of Chicago

OF
S ev eral indicators of business activity
dipped appreciably during the third quarter.
Total spending on goods and services de­
clined in this period after rising steadily
during the preceding five quarters. Indus­
trial production fell 5 per cent between June
and September. Wage and salary employ­
ment, seasonally adjusted, declined by 600,000 during these months; and retail sales,
which had been at a record level during July,
sagged in August and September. In the face
of a three-month steel strike, the surprising
thing about these developments is not that
they occurred, but rather that the repercus­
sions were not more severe.
Secondary unemployment, as a result of
the steel strike, was rising rapidly as nego­
tiations for a settlement continued past midOctober. The Department of Labor reported
that the number of workers idled by side
effects of the strike totaled 195,000 as of the
end of September and that the number was
rising rapidly, by possibly as much as 25,000
a week, as steel shortages became more
widespread. Furthermore, steel shortages
were expected to continue to grow worse in
the weeks following the end of the strike
since it would take time to get steel produced
and flowing to users in the needed kinds,
shapes and amounts. The fourth quarter of
1959, as well as the third, will show the
dampening effect of the extended shutdown
of most steel producers.
Although the Chicago area has about 20
per cent of the nation’s steel capacity and



BUSINESS

Detroit over 5 per cent, the most important
effect of the strike on the Midwest may re­
sult from its position as a user of steel. De­
troit, Chicago and Milwaukee rank near the
top of the steel-consuming centers. More­
over, despite rapid expansion of steel ca­
pacity in this region, steel consumption here
continues to outrun local production.
The important layoffs in the Detroit area,
of course, have been in the automobile in­
dustry. These were expected to become
much more widespread in November when
assembly plants as well as the plants of com­
ponents suppliers would be affected.

Steel shipments at record rate
in first half
per cent

million tons

1955

1956

1957

1958

1959
first half.at annual rate

pffS] co n ta in e rs
construction

|
----- 1 a u to m otive
all other

Business Conditions, November 1959

Aside from the Gary area, where the ma­
jor steel plants are located, only 4,500 man­
ufacturing workers had been laid off in the
Chicago area because of steel shortages
through the end of September. About 2,500
more were expected to be added to this
number during that month. This is a small
number in an area which employs about 1
million manufacturing workers. In Milwau­
kee, which employs about 200,000 in man­
ufacturing, it was anticipated that the num­
ber of layoffs would reach 5,300 by the end
of October. In Indianapolis, the effects were
relatively minor. Harder hit relatively than
the large cities were such centers as Peoria
and Flint, which have high proportions of
their employment in lines using large quan­
tities of steel.
These developments, serious as they are
to those affected directly, are not as impor­
tant as might have been anticipated at the
start of the strike in mid-July. One reason is
that the quantity of steel on hand was prob­
ably underestimated. Secondly, steel-using
firms have shown a good deal of ingenuity
in shifting supplies among alternative uses.
Employers have attempted to avoid lay­
offs in the face of a decline in production
which is expected to be temporary. It is
costly and time-consuming to rebuild a staff
of selected and trained workers once it has
been dissipated through layoffs. Further­
more, there is a desire to avoid the higher
liability for unemployment compensation
insurance which results from fluctuations in
numbers of employees.
In some cases, workers have been shifted
from a division short of steel to other jobs
within the firm. Another technique has been
to eliminate overtime or reduce the number
of days worked in the week. Typically,
metal-using firms have ceased to hire new
workers during the steel strike and have al


Instalment credit rising sharply
billion dollars

lowed normal attrition to reduce the size of
their work forces.
When steel begins to flow again, some
quantity will be available almost immedi­
ately because it is finished and ready for
shipment. But it will take several weeks be­
fore the mills reach their maximum rate of
output. Even then, availability of particular
types of steel needed by individual firms will
depend on the place the steel user has on the
order books of the steel producer and the
place the particular kinds of steel he needs
occupy in the production schedule. Not all
types of steel are being produced at a given
time. As a result, many steel users have
spread their orders among several produc­
ers hoping to obtain the kinds of steel they
need at the earliest possible time.
R e sid e n tia l construction declines

Except for home building, the drop in
business activity during recent months can
be attributed largely to the direct and indi­
rect effects of the steel strike. New housing
starts declined from a seasonally adjusted

3

Federal Reserve Bank of Chicago

annual rate of over 1.4 million in the spring
to 1.325 million in September. This is a
relatively small decline considering the high
level of starts last spring. However, housing
starts are commonly based on financing
commitments made several months earlier.
Since midyear, the volume of new commit­
ments has declined.
Demand for mortgage funds continues
strong, reflecting the current high, if some­
what reduced, level of construction. The 5
per cent notes issued by the Treasury in
October were attractive to many individuals
and resulted in some withdrawal of funds
from time deposits and savings and loan
shares, important sources of mortgage loans.
High-grade, long-term corporate bonds is­
sued in early October carried yields of
around 5 per cent. Because of servicing
costs, rates on mortgages must be higher

than those on corporate bonds to maintain
a large volume of new commitments. In re­
cent weeks, new conventional mortgages in
the Midwest have commonly been made at
6 and 6 V2 per cent. Many lending institu­
tions have been quoting these rates as their
minimums. On the West Coast, rates of 7
per cent and higher have been reported.
Consum er debt ris e s sh a rp ly

An area of spending where the effects of
tighter credit are less certain is consumer
instalment credit. In July and August, instal­
ment credit was rising (and thereby adding
to consumer buying power) at a 6 billion
dollar annual rate. Retail sales of autos and
other consumer durables were at or near
record levels. In the same months of 1958,
consumer instalment credit outstanding did
not rise at all.

Shift in meat packing

TL

closing down of slaughtering plants at
Chicago by the major meat packing firms
has brought into bold relief the steady evo­
lution in the location of livestock produc­
tion and slaughter. The abandoned, halfcentury-old structures at the Union Stock
Yards, and at some other markets, were
victims of technological progress, both in
terms of their efficiency and their location.
H isto ric a l sketch

A century ago, animals were “trailed”
from farms and ranches to the cities, often
hundreds of miles. Slaughter took place close
to the ultimate consumers because of the



impossibility of storing fresh meat or ship­
ping it any considerable distance, except
possibly during the winter in the northern
areas. Local butchers predominated in the
meat business.
Initially, commercial pork packing was
confined to the production of cured products
during the winter months, but, with the in­
troduction of ice for cooling, the activity
was extended to the summer months. There­
after, pork packing, which had developed
earlier around Cincinnati, began expanding
further west.
By 1870, mechanical refrigeration was
being generally adopted in the industry,

Business Conditions, November 1959

making possible meat packing in its modem
form. With effective refrigeration and im­
proved rail transportation, perishable meat
products could be moved great distances
without suffering serious deterioration. In
response to the rapid industrialization and
urbanization of the East, increases in live­
stock production in the Middle West and
Southwest and extension of railroads in these
regions, large livestock markets and pack­
ing plants had developed at the major rail­
road centers in the Middle West at the
time of the first World War.
Chicago, an early giant among terminal
markets, reached its peak as a slaughtering
center in 1918. In that year, Chicago ac­
counted for 17.4 per cent of all commercial
slaughter of cattle in the United States and
15.7 per cent of all hogs—proportions never
again reached. That was the record year also
for number of cattle slaughtered, but it
wasn’t until 1923 that the number of hogs
slaughtered reached its highest mark.
Tru c k s, te rm in a ls and technology

The basic reason for the decline in rela­
tive importance of livestock markets and
meat packing plants located at a number of
the major railroad terminals was the intro­
duction of the motor truck and the extension
of hard surface roads. These changes in
transportation set the stage for important
changes in the marketing of livestock and
meats.
The locational advantage of the rail ter­
minal began to fade. Farmers no longer were
“tied” to the railroads as the most con­
venient means of shipping livestock to mar­
ket. The location of terminal markets, which
had been convenient for rail shipments,
proved to be inconvenient for shipment by
truck. Traffic congestion and distance were
important handicaps. On the other hand,



reduced “shrinkage” of animals in transit,
together with reduced expenses in market­
ing, made the “interior” markets attractive
to both packers and farmers. Similarly, on
the distribution side, refrigerated trucks less­
ened dependence of the packers on rail
transportation, and freight rates in some
areas favored local slaughter at interior
points and shipment of dressed meats in
preference to live animals.
While changes in transportation and geo­
graphic shifts in livestock supplies were af­
fecting the optimum location of meat pack­
ing plants, technological changes in the
packing processes and equipment began
making the old, multistory plants obsolete.
Assembly line techniques of new, single­
floor plants were replacing the top-to-bottom
material flow of the earlier buildings.
Quicker chilling methods reduced the needs
for huge refrigerated meat coolers, and fast,
new curing methods reduced the space and
time needed for that purpose. Mechaniza­
tion of many operations permitted more to
be accomplished within a given space and
called for changes in layout of plants.
Manufacturing employment in Chicago
and other large cities has expanded greatly
in the war and postwar periods and put
heavy pressure on wage rates and the supply
of labor for the packing plants located at
terminal markets in these cities. Location of
packing plants at interior points has been
advantageous both in terms of wage rates
and dependable supplies of competent labor.
Even where union contracts call for uni­
form wage rates, in high wage areas these
rates may attract less competent labor than
in low wage areas.
As a result, local markets increased in
relative importance, and plants located at
interior points became more important as
outlets for farmers’ livestock.

5

Federal Reserve Bank of Chicago

The shift to interior markets has been far
more important in the case of hogs than
cattle. Of those hogs slaughtered under
Federal inspection, 77 per cent1 were sold
through terminal public markets2 in 1923.
By 1951, this proportion had declined to
42 per cent with most of the decrease tak­
ing place prior to 1940. For cattle, the de­
cline was far smaller—from 90 per cent to
73 per cent. Since 1951, evidence indicates
these trends continued, but, in contrast with
earlier years, the rate of decline has been
greater for cattle than for hogs.
The types of marketing channels which
have developed to supplement terminal mar­
kets have quite pronounced regional varia­
tions. In the North Central region—includ­
ing Kansas, the Dakotas, Ohio and Kentucky
and the intervening states—over one-half of
the hogs marketed in 1955 were sold direct
to “local” packers or country buyers. In the
South, over half the hogs were sold at
auction.
This shift from terminal to interior mar­
kets has been accompanied by a decline in
distance traveled to market. In Indiana in
1956, over 90 per cent of the hogs sold on
local markets originated within 25 miles of
these markets, while only 7 per cent of hogs
sold on terminal markets came from within
that distance. Farmers also marketed more
frequently, selling smaller lots— a practice
encouraged by the shorter distance to mar­
ket and the trend toward a more uniform
distribution of farrowings throughout the
year.
In addition, improved market news serv­
ices have permitted farmers to compare price
1These proportions would be smaller if nonFederally inspected slaughter were included.
^Terminal public markets in 1951 included 65
livestock trading centers for which the U. S. De­
partment of Agriculture assembled information.




quotations at various interior as well as ter­
minal markets and have placed an additional
premium on flexibility in transportation and
selling of livestock.
In the case of cattle, the shift away from
the terminal markets has been greatest in
the marketing of feeder cattle and calves. By
1940, the proportion of feeders shipped into
the eight major feeding states of the Com
Belt which were marketed through terminal
markets had declined to 65 per cent from
over 85 per cent in the late 1920’s. The
proportion increased temporarily during the
war, but, by 1956, over half of the feeder
cattle were marketed through direct sales by
ranchers to Com Belt farmers or dealers, or
through local markets.
One result of this is that the proportion of
calves purchased at terminal public markets
for slaughter under Federal inspection has
declined more than that of any other kind of
livestock—from 85 per cent in the early
1920’s to less than 40 per cent in recent
years.
The North Central region has had the
highest proportion of cattle marketed
through terminal public markets. This region
accounts for well over half the total number
of cattle marketed in the United States. Un­
like hogs, marketings of high-grade fat cat­
tle have not shown a sharp diversion from
the terminal markets. Apparently, with sub­
jective judgment of paramount importance
in determining, the value of these animals,
farmers prefer to offer them for sale at the
larger public markets.
Production and sla u g h te r

As the points at which livestock is sold
have moved closer to the areas where live­
stock is produced, the place of slaughter has
tended to move away from the midpoint be-

Business Conditions, November 1959

tween the source of
livestock and the mar­
ket for meat. Thus,
the decline in market­
ings at terminal mar­
kets has been accom­
panied by a decline
in slaughter at those
points.
Probably the great­
est impact of these
changes has been on
the Chicago terminal
market. During World
War I, Chicago was
more than three times
as large a hog market
as its nearest compe­
tition — Omaha, East
St. Louis, Indianapo­
lis and St. Paul, which
at that time were all
about equal in vol­
ume. In 1958, Chi­
cago ranked third be­
hind South St. Paul
and East St. Louis
and was barely ahead
of Omaha and Indi­
anapolis. In cattle,
Chicago has main­
tained its position as
the largest market,
primarily due to its
growth as the largest
shipping market for
the top grades of
slaughter cattle. How­
ever, the relative im­
portance of markets
other than Chicago
has increased greatly
since World War I.




Omaha replaces Chicago
as leading meat packing center
CATTLE

HOGS

commercial slaughter

commercial slaughter

million head
0

5

10

15

million head
20

25

0

15

30

45

60

75

1920

1920
total U.S.

1939

1939

terminal slaughter

thousand head
0

1,000

1920

2,000

3.000

4,000

5,000

5.870

1939

j

St. Paul

St. Louis

Sioux City

m m
St. Joseph

^

■

1

I F

m

Indianapolis

n
|
iH n H M H n iii

i

K a n sa s City

m
7

Federal Reserve Bank of Chicago

Hog production climbs in Illinois,
as well as Iowa, but slaughter
drops in Illinois
per cent of US.

Omaha was only half as large as Chicago
at that time, but in recent years has been a
very close second. And, as packers at Chi­
cago have taken a declining proportion of
cattle marketed there, Omaha has replaced
Chicago as the leading slaughtering center
for cattle as well as hogs in recent years.
As the truck has loosened the tie between
terminal markets and slaughtering plants and




as location of livestock produc­
tion has become much more im­
portant in influencing location of
slaughtering plants, a notable
change has been the sharp de­
cline in importance of Illinois as
a place of slaughter of both hogs
and cattle. At the time of World
War I, Illinois had more than 20
per cent of the U. S. slaughter of
both cattle and hogs. By last year,
the proportions had both fallen
to less than half that figure (see
charts).3 Iowa, on the other
hand, has gained sharply in hog
slaughter and, in recent years, in
cattle slaughter as well. In the
past thirty-five years, Iowa and
Illinois have almost completely
reversed positions in hog slaugh­
ter. In cattle and calf slaughter,
Iowa exceeded Illinois for the
first time last year; whereas,
thirty years ago, Iowa ranked
fourth.
In the 1920’s, half again as
many hogs were slaughtered in
Illinois as were produced on the
farms in that state. Last year, the
number of hogs slaughtered was
55 per cent of marketings. Iowa
farmers, on the other hand, used
to ship out of the state 55 per
cent of their hogs but now ship
only 30 per cent as live animals for slaugh­
ter in other states. Nebraska, interestingly,
has become a net importing state for hogs;
that is, more hogs are slaughtered in the
state than are produced there. This reflects
the westward movement of hogs from Iowa.
A similar pattern emerges for cattle. Illi3Data based on Census of Manufacturers
through 1939, on commercial slaughter since 1944.

Business Conditions, November 1959

nois farmers marketed only onethird of the total number slaugh­
tered in that state in the 1920’s,
but, in recent years, slaughter has
fallen below farm marketings.
And cattle slaughter as a pro­
portion of farm marketings in
Iowa has climbed from one-third
to 62 per cent in the past 35
years. In Nebraska, cattle slaugh­
ter has nearly caught up with
farm marketings in recent years.
Hog production in Indiana has
remained a fairly constant pro­
portion of the United States to­
tal, but slaughter has climbed in
the postwar years. Part of this
growth in slaughter in Indiana
may be explained by the increas­
ing tendency for hogs to be
moved eastward from Illinois
farms in the general direction of
the large consumption centers for
slaughter, bypassing Chicago.
Such movement, of course, would
reflect a pattern of market prices
favorable to that trend.
Rapid population growth on
the West Coast has also had an
important impact on livestock
movement and location of slaugh­
tering. With the rapidly growing
demand, the supply area for West
Coast markets has been pushed
eastward. In the case of hogs, shipments of
live animals are made to California from as
far as Illinois. Iowa and Missouri account
for nearly 40 per cent of live hogs shipped
into California for slaughter. However, most
of the pork consumed in California is
shipped in as dressed meat. With more west­
ern Iowa production supplying the West
Coast, both marketing and slaughtering of



hogs at a nearby terminal market become
logical developments and may help explain
the growth of Omaha as a hog market in
recent years.
In the case of cattle, the decline of slaugh­
ter in Illinois as a proportion of slaughter in
the U. S. has not been offset by the growth
in Iowa and Nebraska. Further, when ac­
count is taken of the decline of cattle slaugh-

Federal Reserve Bank of Chicago

ter in Kansas and Missouri as a proportion
of the U. S. total, the Midwest as a whole
has declined significantly in cattle slaughter.
Part of the explanation lies, of course, in the
development of cattle production in other
areas of the country. The South has had an
important shift to grassland beef production
as acreage controls have forced alternative
uses of land formerly in cotton. The growth
of grain sorghum production on diverted
wheat acreage in the Southwest has similarly
encouraged beef production in that area.
California, Colorado and some other areas
have had great increases in cattle feeding
based on by-products of crops such as sugar
beets and citrus fruits. Yet the proportion
of cattle marketed in the midwestern states
has remained nearly constant over the years,
as feed grain production and cattle feeding
have kept pace with increases in total cattle
production. The rest of the explanation must
be found, then, in the movement of some
slaughtering previously done at the midpoint
between production and consumption closer
to consumption centers.

Illinois has been the exception to the
growth of slaughtering in the surplus live­
stock areas. In spite of the downward trend
in slaughter in Illinois in recent years, the
meat packing industry still has considerable
strength in the state. Swift and Company,
the nation’s largest meat packer, recently
announced plans to build a packing plant at
Rochelle, Illinois, about 75 miles west of
Chicago. Armour and Company, the second
largest, has continued operating full force at
Peoria, midway between closed plants at
East St. Louis and Chicago. And John Mor­
rell and Company, the fourth largest packer,
has acquired plants at both Chicago and
East St. Louis, its first slaughtering opera­
tions in these two areas. If these moves
should prove to be indicative of a trend, they
would indicate that the decline of meat pack­
ing in Illinois has about run its course, and,
given time for needed adjustments, the in­
dustry would stabilize or even show some
expansion based upon the “local” slaughter
of a larger proportion of livestock produced
in the state.

Metropolitan areas,
additions to the family

10

T h e past year has brought a number of
changes in the list of Midwest communities
which qualify for the label, “standard metro­
politan statistical area.” Four communities
have been added: Anderson, Indiana; Ann
Arbor, Michigan; Champaign-Urbana, Illinois; and Muskegon, Michigan (see map).




The boundaries of two other areas, Milwau­
kee and Lansing, have been enlarged to in­
clude counties adjoining those in which the
central cities are located. What was formerly
the Chicago metropolitan area has been di­
vided into two areas, Chicago and GaryHammond-East Chicago, and an additional

county has been included in each of the
newly defined areas. These latest changes
bring to 34 the number of communities in
the Seventh Federal Reserve District which
have been specified as standard metropoli­
tan areas.
W h a t is a m e tro p o lita n area?

The standard metropolitan area is essen­
tially an integrated economic unit with a
large population in a relatively small area
and with a labor force primarily engaged in
nonagricultural pursuits. As defined by the
U. S. Bureau of the Budget, a metropolitan
area must have as its “hub” a central city (or
cities) with a population of 50,000 or more.



However, to be a meaningful economic unit,
the area may need to include more than the
city itself. Economic and social characteris­
tics, unlike speed limits, do not change ab­
ruptly at the city boundaries. Nonagricultural
economic activity and residential areas fre­
quently are outside the city limits, yet are
closely related to the central city. Thus, the
boundaries of standard metropolitan areas
follow county lines rather than the more re­
strictive city boundaries. If counties adjacent
to that in which the central city (or cities) is
located serve as places of residence or em­
ployment for a concentration of nonagri­
cultural workers, these counties may be in­
cluded in the metropolitan area. The extent

Federal Reserve Bank of Chicago

of integration, or interdependence, typically
is measured in terms of the volume of inter­
county commuting between residences and
jobs.
W h y de fine m e tro p o lita n areas?

Studying areas with similar characteristics
can frequently be an aid to understanding
current and prospective trends. The “Corn
Belt” and the “Wheat Belt” are examples of
definitional areas, helpful in describing agri­
cultural activity. The standard metropolitan
area serves a similar purpose in the exam­
ination of nonagricultural activities.
The 34 areas shown on the accompanying
map, for example, account for about 67 per
cent of the population in the Seventh Federal
Reserve District, but they have had roughly
81 per cent of the total population growth
over the past decade. The metropolitan
areas’ shares of District nonagricultural em­
ployment and income are even greater and
have been increasing. In the past decade,
then, metropolitan areas have been the foci
of District growth.

Although metropolitan areas are similar
in terms of integration and relatively large
populations and labor forces, they are not
necessarily alike in other respects. For ex­
ample, Midwest areas differ greatly in their
economic specialization. Some are primarily
producers of manufactured commodities,
while others engage primarily in the provi­
sion of services. Within the services sector,
some are seats of state governments or uni­
versities, while others are primarily trade
centers. The metropolitan areas also differ
widely in absolute size and in current and
prospective rates of growth.
Much statistical information is assembled
on a standard metropolitan area basis. Two
purposes are thus served. First, this is a
convenient and useful way of breaking up
national data to show the diversity in both
levels and trends among areas. In addition,
a good deal of indispensable data are pro­
vided for analyses of local problems and
developments that may not have any par­
ticular counterpart in national figures or
those for some other areas.

Plateau in defense spending?

12

I n recent months, the nation has been
spending at an annual rate of 41 billion dol­
lars to maintain and strengthen its armed
forces. Total defense-related expenditures—
including atomic energy, military aid and
stockpiling—have been at a rate of 46 bil­
lion dollars. Except for a temporary inter­
ruption in late 1957, these outlays have been
trending upward for two and one-half years
under the pressure of rising prices and the




development and introduction of new
weapons.
Ever since the capitulation of France in
the spring of 1940, the United States has
been channeling a substantial portion of its
total output of goods and services to defense.
Both the large volume of military expendi­
tures and fluctuations in this total have im­
portantly affected movements in general
business activity. At the conclusion of each

Business Conditions, November 1959

previous war, the nation’s armed forces had
always been slashed to the point of relative
insignificance.

Missiles taking larger
share of defense procurement
billion dollars

A m a tte r o f m agnitudes

The magnitude of an annual expenditure
totaling 46 billion dollars probably can be
visualized only in comparative terms. It is
approximately equal to the rate of spending
by state and local governments for all pur­
poses; it is double the current rate of out­
lays for new residential construction; it is
three times as large as consumer expendi­
tures for new automobiles; and it accounts
for one dollar in every ten spent on goods
and services by consumers, business firms
and governments combined.
Although expenditures on military pre­
paredness have remained significantly large
since 1940, there have been substantial vari­
ations during the period. These outlays
reached a high of 89 billion dollars in 1944,
the year which marked the beginning of the
end of World War II. In that year, such
expenditures accounted for 42 per cent of
the nation’s total output of goods and serv­
ices. In the early postwar years, this pro­
portion declined sharply, dropping below 5
per cent in 1948. The development of nu­
clear weapons by Russia and the outbreak
of hostilities in Korea sent the proportion
up to 13.5 per cent in 1953. Then, a reevaluation of defense needs and the ending
of the Korean War brought a reduction in
military outlays. For the past five years, na­
tional security outlays have accounted for
between 9.6 and 10.1 per cent of the total
output of goods and services.
If the current dollar level of military out­
lays were to be maintained, as present plans
indicate, the proportion of total output go­
ing for defense purposes would gradually
decline as the over-all economy continued



to grow. In five years, the current propor­
tion of 9.5 per cent would decline to less
than 7 per cent if the economy were to grow
at the average rate of the postwar years.
Another way to evaluate the defense bur­
den is through the volume of employment.
About 70 million persons are now employed
in activities of all types, including the mili­
tary. Of these, 2.5 million are in the armed
forces. Another million are civilian em­
ployees of the Defense Department. Perhaps
1.5 million factory workers are engaged in
production for military needs, along with
some hundreds of thousands of nonfactory
workers in private employment. Altogether,
at least 5 million persons—about 7 per cent
of the total work force—are engaged in the
defense effort in some capacity.
W h o g e ts d e fense d o lla rs ?

The budget of the armed forces is divided
about equally between operating costs—in­
cluding personnel, supplies and maintenance
—and outlays for procurement, construction

13

Federal Reserve Bank of Chicago

14

and research and development. The second
group of expenditures might be thought of
as capital outlays for defense purposes. In
other words, about half of the outlays made
by the Department of Defense relate to the
nation’s present ability to wage war and the
other half is related to the future.
At least three-fourths of the expenditures
on major procurement and construction are
related directly or indirectly to missiles and
aircraft. Missiles were a small item only a
few years ago, but expenditures in that field
have been accelerating rapidly and are ex­
pected to reach and surpass the declining
aircraft component within a few years.
For fiscal 1960, spending for missile pro­
curement is budgeted at 3.9 billion dollars,
13 times as much as was spent in fiscal 1953
when the over-all budget was larger. Re­
search and development outlays, in which
the missile influence is dominant, are ex­
pected to total 2.6 billion as compared with
1.4 billion in the earlier year. These trends
are believed likely to continue.
The de-emphasis on conventional arms
since 1953 and the discontinuation of con­
tracts with secondary suppliers of military
aircraft and engines have greatly reduced the
relative share of defense business going to
firms located in the Midwest.
In fiscal 1953, the general procurement
category, including tanks and motor vehi­
cles, totaled 7.2 billion dollars. In fiscal
1960, this category will be only 1.4 billion
dollars. The aircraft and missile categories
combined totaled 7.7 billion in the earlier
year and will be 10.4 billion in the latter.
Obviously, the Midwest, which has a rela­
tively small stake in the production of air­
craft and missiles, has seen the dollar amount
of military hardware on order decline
substantially.
Published data do not permit pinpointing




of the locus of defense work. However, com­
pilations have been made of procurement
contract awards by the location of the head
office of the prime contractors. During the
Korean War, Michigan, Illinois, Indiana,
Wisconsin and Iowa firms received 22 per
cent of the prime contracts. In the three years
ending last July, these states accounted for
less than 9 per cent of the total. Michigan
witnessed the largest decline between these
periods—from almost 10 to less than 3 per
cent.
Nevertheless, many Midwest firms engage
in important defense work. Various com­
ponents for aircraft and missiles are manu­
factured in this area, along with processed
foods and other items. Electronics firms sup­
ply defense equipment and components and
play important roles in research and devel­
opment work. But the large producers of
planes and missiles are located primarily in
the West, the Southeast and the East.
D isarm am ent and busine ss a c tivity

The Soviet Premier, during his recent visit
to the United States, proposed a complete
abolition of military forces throughout the
world. No concrete plans for achieving such
a goal were offered and, reflecting past ex­
perience, the idea has been received with
considerable skepticism. Nevertheless, the
mere suggestion of universal disarmament
has centered attention on the relationship
of military spending to general economic
activity.
Our past experience indicates that a large
cutback in defense outlays need not pose a
serious threat to the general economic health
of the nation. Wholesale cancellations of
Government contracts began immediately
after the World War I armistice in Novem­
ber of 1918. For a few months, activity
slumped and unemployment rose. Recovery

Business Conditions, November 1959

was rapid in 1919,
Defense outlays have risen since 1955,
with total output of
but proportion of total spending has been stable
goods and services
per cent
billion dollars
about as large as in
100
1918. This recovery
was followed by a sec­
ond postwar recession
beginning in the late
spring of 1920.
A painful adjust­
ment was anticipated
after World War II.
National defense out­
lays dropped from 76
40
billion dollars in 1945
to 19 billion dollars
in 1946. However,
private spending rose
sharply as goods be­
came available, and a
major adjustment was
made with surpris­
ingly mild repercus­
sions on total output or employment.
dollar reduction which was largely accom­
After reaching a low point in the spring
plished within the space of a single year.
of 1947, at an annual rate of 10 billion
The impact of the reduction in defense
dollars, defense outlays began to move up
spending in the 1953-54 period was felt
once again. In the third quarter of 1949, the
throughout the economy, and a recession did
rate of expenditure was 14 billion per year.
follow. But the duration and extent of the
Then, an economy drive reversed the trend.
decline were moderated by substantial re­
The rate was back down to 12 billion dollars
ductions in tax rates, which were made at
when the Korean War began in June of
the start of 1954, and other actions. There­
fore, while the Federal Government was
1950. Nevertheless, coincident with the re­
slowing the flow of “defense dollars” into
duction of defense expenditures in late 1949
and the first half of 1950, general business
the economy, it was also taking fewer dol­
activity was rising vigorously.
lars out via taxes. The adjustment, as meas­
ured by changes in aggregate output or em­
In the spring of 1953, plans called for a
ployment, once again was relatively mild.
further rise in defense spending of perhaps
The experience of 1919, 1946, 1949 and
10 billion dollars from the 50 billion dollar
1954 indicates that the natural resiliency of
level then in effect, and business planning
the United States economy, aided by appro­
was commonly based on the likelihood that
priate tax and monetary policies, is such as
this rise would occur. However, instead of
the contemplated rise, there was a 10 billion
to withstand the impact of large and rapid



15

Federal Reserve Bank of Chicago

16

changes in military outlays. There is no need
to support an excessive military establish­
ment merely to maintain prosperity, or an
inadequate establishment to avoid inflation.
Rather, defense expenditures, by and large,
can be viewed as a subtraction from the po­
tential output available to supply civilian
markets.
Although a reduction in military outlays
would be desirable, if it could be achieved
without endangering the nation’s security, it
should not be supposed that a millennium
would result. As stated above, these expen­
ditures currently account for less than 10 per
cent of total output of goods and services. It
is generally believed that the economy can
be expected to grow at an average rate of 3
to 4 per cent per year. Therefore, total aboli­
tion of the defense outlays would provide the
possibility of doubling the growth rate in
output of nonmilitary goods and services for
only about four years, even assuming that
the resources released by defense cutbacks
would be absorbed smoothly in other uses.
In contrast to the pleasant thought that a
substantial reduction in armament outlays
may be realized in the future, there is the
possibility also that the world situation could
deteriorate and that a large increase in these
expenditures would be deemed necessary.
Various proposals have been made in recent
years to increase outlays to modernize and
enlarge the armed forces, provide for civil
defense, increase anti-submarine defenses,
enlarge the programs for the delivery of
nuclear weapons and similar actions. In
total, these suggestions add up to many bil­
lions of dollars.
If military outlays were as large relative to
total production today as they were in 1952
and 1953, the current rate would be 65 to 70
billion dollars. Such a proportion could be
achieved only by diverting output from non­




military purposes. To do this without intol­
erable inflationary pressures would require
additional transfer of purchasing power from
the private sector to Government, preferably
in the form of increased taxes.
A rather successful attempt to neutralize
buying power during a defense build-up oc­
curred in late 1952 and early 1953. Despite
a rise in defense expenditures from a rate of
12 billion dollars in the second quarter of
1950 to over 50 billion dollars in the second
quarter of 1953, increased tax receipts held
the cash deficit in fiscal 1953 to 5 billion
dollars. Inflationary pressures had been so
well contained that it was possible to aban­
don price controls in April of 1953 without
an appreciable rise in the general price level.
In summary, defense expenditures absorb
a sizable slice of the nation’s output of goods
and services. Probably, this will continue to
be the case for many years to come. Never­
theless, there is no assurance that the total
will not decline or rise appreciably in rela­
tion to total output. It would perhaps be
complacent to suggest that these changes
can be taken “in stride.” But the record of
the past indicates that the impact of shifts
in defense spending need not undermine the
basic strength of the economy nor seriously
deter its growth.

Busine ss C onditions is published monthly by

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