An email on Say’s Law

On Friday, I received the following email.

Dear Professor Kates,

As perhaps the only lay person in the United States to have read the two books by Sowell and Hutt, as well as Anderson’s book and some of the articles you cited in your book, I consider myself pretty knowledgeable about the logic and rationale behind Law of Markets and I must say, yours is the best I have seen on the subject.

Your classical views pretty much line up with Austrian theory, especially in their criticism of the “lack of aggregate demand” theory accepted today as being the root cause of recessions, although it would not appear that you are totally sold on their link of recessions with “expansion of money supply” and consequential “malinvestment” in production– leading to the proverbial “cluster of errors” referred to by Robbins. You seem to believe that the malinvestment can occur without the expansion of the money supply. Austrians would agree, but they would maintain that malinvestment would not cause anything but micro level adjustments or perhaps a mild slowdown and not an outright macro-recessionary period. Dispute seems to be more about degree and semantics on how to define recessions rather than serious dispute on substance. Clearly, you and Austrians do not buy the general glut argument.

Your book was excellent overview of history of economic thought, at least from early 19th C. onward. It points out how wrong Keynes was on history of economic thought, either by ignorance, or as I believe, by design. He set up a false historical narrative in developing his straw man to make it easier to take down.

Your point that the acceptance of the “lack of aggregate demand” theory by economists since 1936 has set the science of economics on a terrible path cannot be understated. Failure to understand cause will almost always result in bad policy, as can be seen by measures taken in recent years by the “policy makers”. J.B. Say: “Thus, it is the aim of good government to stimulate production, of bad government to encourage consumption”. Contrast that with:

“Simply put, we live in a world in which there is too much supply and too little demand,” star economist Nouriel Roubini of New York University …

Ugh! That is the media’s “star”. How far the profession has fallen. Unfortunately, guys like Roubini, Stiglitz and Krugman now rule the day.

I have been working on a book for several years challenging most all of modern day macroeconomic theory, with one of the first fallacies being the lack of aggregate demand theory. (The deflation bogeyman is another.) I also bought your “Free Market Economics” and just started it last night. It looks like you beat me to the punch. Keep up the good work.

Kind Regards

So today, I wrote back.

Thank you very much for your kind and encouraging letter. We are so obviously on the same wave length that it is uncanny. I had thought that once the failure of the stimulus had become perfectly clear to everyone, there would be a groundswell of some kind to think through what had gone wrong, and that, perhaps, there would be a closer re-examination of the Keynesian macro that has ruined economic theory along with most of our economies. I must therefore confess to no little astonishment to discover that Keynesian economics is even more embedded within economics than ever. I suppose that to confess to such a massive error, as would need to be done if economists rose up and said, “come to think of it, Say’s Law seems to have been right after all and Keynesian economics wrong”, would have been a gigantic step too far. But even if not that, some kind of re-thinking about how an economy works, and whether valueless public spending really can generate growth, might have been in order. Such is not how it’s been. It is therefore not a little frightening that the cures continue to be administered from the demand side.

About the way I look at the cycle, “mal-investment” gives the impression that if entrepreneurs had been more clear-eyed about the future, that the downturn would never have occurred. For me, the recession that I grew up on was the downturn that followed the OPEC oil boycott of the 1970s which was followed by a massive inflationary pulse that led to an international wage explosion. The dislocations that rolled across the world were neither caused by nor could have been cured by monetary policy. Certain categories of investment – such as those that depended on low-cost energy – were left high and dry by these major changes in the economic environment in ways that no one could have foreseen. I also think that it helps me see these things because I live in one of the more remote provinces, where domestic monetary policy will seldom be the cause of a downturn. I therefore see recessions as a consequence of government policy generally and the effects of major international instability. The GFC started in the US, and while I think we in Australia should for the most part have ignored it so far as policy went, there was never any chance we were not going to be affected irrespective of the monetary policies we might have run, either before or after. My main point is that recessions are structural and not caused by too much saving (or supply!). My chapter 14 on the cycle is a summary of the classical view, which I have synthesised from Haberler. Chapter 15 looks at the role of government, which was not a classical perspective but it is mine.

I do hope you write your own book. The one thing I know from having written what I have is that you only truly understand what you think yourself by trying to write it all down. The things that end up on the page often surprise even you. Please let me know how you go. And if I may, I will attach a paper I did on the origins of the Keynesian Revolution. Just to be able to mention Fred Manville Taylor and Harlan McCracken is often a showstopper for someone trying to argue with a Keynesian. Try it out and see how you go.

With kind regards and many thanks again.

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