I Studied the Economic Fallout From World War I. This Could Be Worse Than We Expect.
By Jamie Martin
Dr. Martin is an international historian at Harvard University.
In 1910, a British journalist published “The Great Illusion,” one of the worst-timed best sellers in history.
The author, Norman Angell, argued that the growing interconnection of the world economy meant that no one could ever truly win a world war. Even if Germany were to invade Britain and take all the gold held in the Bank of England, the integration of Europe’s banking systems guaranteed a financial crisis that would leave the Germans worse off than if they’d just stayed home.
This fact did not make war impossible, Mr. Angell wrote. But it made conflict much more costly and destructive for everyone. Four years later, World War I began. In the hyper-connected world of 1914, the war’s shocks reverberated far beyond the battlefields, leaving enduring political and economic instability in their wake.
Now that the United States and Iran have declared a two-week cease-fire, the question is whether the war’s economic disruption will be short-lived or lasting. The lessons from history are sobering: In an interdependent global economy, the shock of the outbreak of war can produce long-term instabilities overnight, many of which become apparent only over time.
When the United States attacked Iran, it should have come as no surprise that Iran would blockade the Strait of Hormuz. Yet few could have foreseen the exact downstream effects: not just the worst disruption to oil supplies in history, but also shortages of materials that not many people realized they relied on — urea and ammonia used to grow the world’s staple food crops, helium for making computer chips and naphtha, a petroleum product crucial for the manufacture of many household plastic items, including garbage bags and water bottles.
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The history of World War I shows us how long destabilization can last. In 1914, before war was officially declared, it quickly became clear that a major conflict would have unintended economic consequences. While the assassination of the Austrian archduke Franz Ferdinand and his wife, Sophie, did not cause markets to collapse, the ultimatum Austria-Hungary presented to Serbia about a month later — interpreted as making war inevitable — prompted a chaotic flight to financial safety around the world.
Investors and depositors dumped risky assets and raced to get gold. Bank runs broke out widely, and nearly every stock exchange closed — from London to Johannesburg, Shanghai and Sydney. Banks in London, the financial center of the world, nearly collapsed. Traders everywhere lost access to the credit they needed to do business.
Then global shipping seized up. In the face of a conflict of uncertain scale and duration, the cost of marine insurance fluctuated significantly. Vessels and cargoes sat idle; ports around the world grew congested. Meanwhile, the blockades and German invasions of Belgium and France prevented continental Europe’s largest markets from absorbing more than a small fraction of the normal quantity of imports.
Before any trenches even appeared on the Western Front, world trade was thus hit by a crippling triple whammy: the disappearance of credit, ships and markets. The effects were immediate, worldwide and severe: unemployment, spiking inflation and mass unrest. By 1915, global commerce, at least among the allied countries and neutral countries, seemed to be recovering. Ships began to sail again, trade was redirected along different routes and to new markets, and the war unleashed incredible demand for goods, such as nitrates from Chile and jute from India.
But lasting damage had already been done.
The British government, acting alongside the Bank of England, saved Britain’s leading banks from insolvency in August 1914. But the panic that broke out that summer weakened Britain’s banking sector, which allowed Wall Street to replace it as the world’s financial center. Almost overnight, the global balance of financial power shifted sharply.
Then, the shortage of ships, combined with rising insurance premiums and freight rates, increased the price of goods around the world, particularly for food and other necessities. As the war continued, these pressures worsened; by 1918 and 1919, they had reached unprecedented heights. In the United States, the price of bread doubled between 1913 and 1920.
Finally, the combined losses of credit, shipping and markets caused the total volume of world trade to plummet. It took years to recover to prewar levels. The economic historian David Jacks has estimated that, over the first two years of the war, world exports fell by nearly 25 percent in real terms — more than after the financial crisis of 2008.
Even the European victors of the war lost ground. After the war, Europe’s share of world trade had fallen. In the war’s opening days, supply chains and trading networks were rerouted away from Europe, which benefited two rising powers: the United States and Japan. European trade never fully recovered.
Of course, the Iran war has been nowhere near the scale or duration of World War I. Yet even if this shaky cease-fire holds, there are reasons to believe that its shocks will be felt long after.
First, energy prices are unlikely to fall immediately to prewar levels. Snarled supply chains will take months to untangle, and damaged production facilities in the Persian Gulf will take even longer to repair. Shipping won’t all come back online at once, either — particularly since Iran has discovered that it need only threaten a few tankers with cheap drones to have a major effect on global trade. If Iran now charges fees to ships passing the Strait of Hormuz, and threatens to sink those that don’t pay, freight rates and insurance premiums will remain elevated.
Now, there are fertilizer shortages at the beginning of the spring planting season for foods including rice, which means that we may eventually see reduced crop yields and higher prices. As the experience of the Covid pandemic made clear, supply chain disruptions like these can produce inflationary surges with long tails, which, before they abate, can have damaging secondary effects, from higher mortgage rates to fiscal crises to political unrest.
It’s impossible to know for sure how the dust will settle. Yet, as was true with the other supply shocks of the 2020s, low- and middle-income countries will most likely bear the brunt. While rising costs of food and energy can bring economic hardship and political turmoil to wealthy countries like the United States, they can, quite literally, be a matter of life and death elsewhere. Some countries in the Horn of Africa that are already facing severe food insecurity depend on imported fertilizers that ordinarily pass through the Strait of Hormuz.
If these are the consequences of just a month of war, imagine the effects of a larger and more protracted conflict — one whose likelihood, some believe, is greater now than at any other moment in recent history.
Looking out over a devastated Europe in 1919, the French prime minister, Georges Clemenceau, said that it was “far easier to make war than to make peace.” The same is true when it comes to the world economy: It’s much easier to spark a global panic than to deal with its long-term fallout.
Jamie Martin is a history professor at Harvard University and the author of “The Meddlers: Sovereignty, Empire, and the Birth of Global Economic Governance.” He is currently writing a history of the global economic consequences of World War I.
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