Sunday, March 20, 2011

Keynes' General Theory Chapter 7, The Propensity to Consume I

This chapter goes into what Keynes considers to be the "objective factors" that affect levels of consumption. If by "objective," one means that lower income results in less consumption, and higher income results in more, then there is little to argue with here. He also argues that short-term, slow changes in interest rates are unlikely to affect behavior much, even if long-term changes will. Again, this is probably correct. Am I more likely to save money if the interest rate goes from 3.0% to 3.1% over the month? Probably not. However, Keynes then goes into objective government factors:

If fiscal policy is used as a deliberate instrument for the more equal distribution of incomes, its effect in creasing the propensity to consume is, of course, all the greater. (95)

Since Keynes' concern is precisely that of encouraging consumption, I think this is very telling regarding what he considers to be desirable fiscal policy. I do love how he states that this is "of course" the case, and does not bother to even make an argument. We can derive an argument from his earlier statements in the book that the rich don't consume like they should (according to Keynes), so if we take their money they are refusing to spend on consumption and give it to those who will consume more rather than save/invest their money, then the economy is in much better shape. He also argues this same thing later in Ch. 7 when he says that "men are disposed, as a rule and on the average, to increase their consumption as their income increases, but not by as much as the increase in their income" (96), a statement which is, on the face of it, true. But what do they do with the excess? Selfishly refuse to spend it? Or do they invest it? Keynes here is of course inverting not only economics as generally understood, but the morals which state that saving for a rainy day is virtuous and reckless spending is vice. I suppose that's to be expected from a self-described "immoralist." But that is something which should be taken into consideration when trying to understand Keynes' ideas.

Next, let us consider Keynes on "austerity measures," which is to say, government attempting to reduce debt:

We must also take account of the effect on the aggregate propensity to consume of Government sinking funds for the discharge of debt paid for out of ordinary taxation. For these represent a species of corporate saving, so that a policy of substantial sinking funds must be regarded in given cirsumstances as reducing the propensity to consume. It is for this reason that a change-over from a policy of Government borrowing to the opposite policy of providing sinking funds (or vice versa) is capable of causing a severe contraction (or marked expansion) of effective demand. (95)

So, if government stops deficit spending, it will cause a contraction, while if it starts deficit spending, it will cause a marked expansion. On this logic, the reduction in deficit spending after WWII and by the Clinton administration once it was forced to do so by the Republican Congress (this latter resulting in an actual reduction of debt for a few years) should have caused a severe contraction. Instead, we saw economic booms in both cases. And G.W. Bush's deficit spending should have kept the economy growing well, but it was in fact rather anemic in the aftermath of the tech bubble bursting, until the housing bubble took off (caused by Fed manipulation of interest rates and Federal housing policy), and it certainly did nothing to either prevent the Great Recession or to reign it in. Krugman and other Keynesians of course argue that Obama did not deficit spend enough, but that's part of the brilliance of believing such nonsense -- no matter how much you spend, if it doesn't get you out of the recession, it just wasn't enough. It's rather convenient that it's not able to be disproven that way. It's much like those Marxists who insist that Marxism was "never really tried." No matter how bad the outcome of following the policies set forth, those policies can't be held reponsible because they were never really tried. Anything that cannot be disproven no matter how much evidence you bring to bear isn't a science -- it's a religion.

In Section III Keynes develops more the argument that increasing income stays ahead of increasing consumption and that, as a result, full employment is not reached. We can see, though, that this doesn't make the least bit of sense if the economy is a positive sum game. Let us say that we have an economy in which we have "full employment." Everyone's wages stay the same except for 10% of the population, whose incomes all go up 10%. Let us say that they consume only half that increase and save the rest. How does that reduce employment? The same people are making the same number of products as before to be consumed at the same rate as before, only now there are some people with more income and who are willing to spend more, meaning in fact there is more demand for products, so more products will be produced. It sounds to me like there will be more demand for labor. And of course those who have saved money will not just stuff it into their mattresses; they will invest the money in different ways, providing capital for business expansion or the creation of new businesses. More products are produced, more people are needed to work. In a positive-sum economy like a free market economy, an increase in income for anyone does not reduce employment, but rather increases it, as well as the income of those who are already employed. Only if the economy is a zero sum game does Keynes' redistributionist policies make sense.

Keynes ends the chapter by arguing that the more capital we have available for investment, the more disinvestment we will have. This is true only if the capital is "easy money" in the sense of low-interest rate loans encouraging risky ventures. But Keynes does not make this distinction (one cannot expect one who thinks in aggregates to make distinctions, I suppose). He simply argues that an "object produced previously" is a disinvestment (105). Previous to what? The immediate demand? What would one call "immediate" in this case?

To whatever degree this is in fact a problem during normal economic times (i.e., not a bubble created by easy money), it seems that in the modern economy that this is less and less a problem. More and more we are seeing products able to be created literally on demand. If you shop online, you can pick a t-shirt with an image that can be put on the shirt only after you have chosen the color, size, and image. Books are another product that are on the verge of being created on demand (with Kindle, etc., this is even more true). There are still going to be products that have to be mass produced, though, and there will be calculations as to how many to produce based on prices. Under normal economic conditions, it seems unlikely that disinvestments will be more than marginal. That's the beauty of prices.
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