Getting Say’s Law exactly right

It is so rare for anyone to get Say’s Law exactly right that you must forgive me if I quote at length, specially since he quotes me. This is from an article by Steve H. Hanke, Professor of Applied Economics at the Johns Hopkins University in Baltimore, and titled, “GO: J.M. Keynes versus J.-B. Say”. It is found in the publication, Global Asia:

The French economist J.-B. Say (1767-1832) was a highly regarded member of the Classical School. To this day, he is best known for Say’s Law of markets. In the popular lexicon – courtesy of John Maynard Keynes – this law simply states that “supply creates its own demand.” But, according to Steven Kates, one of the world’s leading experts on Say, Keynes’ rendition of Say’s Law distorts its true meaning and leaves its main message on the cutting room floor.

Say’s message was clear: a demand failure could not cause an economic slump. This message was accepted by virtually every major economist, prior to the publication of Keynes’ General Theory in 1936. So, before the General Theory, even though most economists thought business cycles were in the cards, demand failure was not listed as one of the causes of an economic downturn.

All this was overturned by Keynes. Kates argues convincingly that Keynes had to set Say up as a sort of straw man so that he could remove Say’s ideas from the economists’ discourse and the public’s thinking. Keynes had to do this because his entire theory was based on the analysis of demand failure, and his prescription for putting life back into aggregate demand – namely, a fiscal stimulus (read: lower taxes and/or higher government spending).

The rest of the article deals with the new statistic that has just been released by the Bureau of Economic Analysis in the United States which has largely been undertaken because at the instigation of the great Austrian economist, Mark Skousen. The notion that consumption drives an economy is so nonsensical since consumer demand is the end of all forms of production, from mining coal to generating electricity and so to focus on consumer demand is focusing on nothing at all other than the end of the production process. But if we are looking at value added, as we ought to be, only about 5% of economic activity is directed at selling directly to consumers. The new supply side statistic that has been developed, which at long last gets this balance right, will make a great difference in how the economy is perceived, which should also make a difference in how it is managed, or at least it is to be hoped. Let me finish with one further quote from Professor Hanke:

Even though the always clever Keynes temporarily buried J.-B. Say, the great Say is back. With that, the relative importance of consumption and government expenditures withers away. And, yes, the alleged importance of fiscal policy withers away, too.

Contrary to what the standard textbooks have taught us and what that pundits repeat ad nauseam, consumption is not the big elephant in the room. The elephant is business expenditures.

If you really want to stimulate the economy, it is business at every stage of production you have to go through and not the consumer. How different that kind of economic policy would need to be, but at least it will have the merit of actually producing positive results.

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