Let me not deny that I am disappointed that The Economist did not print my letter to the editor in response to its article on Say’s Law but I am not in the least surprised. To even admit that there is a case for Say’s Law would discredit the whole of mainstream macro for the past three quarters of a century. It would also almost entirely remove the case for non-productive public spending as a stimulus to growth both during recessions or any other time as well. Here’s the letter which I will annotate as I go along
To the editor
It is very pleasing to see you dealing with the question of Say’s Law which has been virtually exiled from mainstream economic discourse since the publication of Keynes’s General Theory in 1936.
And having been for many years attempting to explain why understanding this principle is crucial if economic policy is not to continually ruin our economies through various stimulus packages, I am more than aware how difficult making sense of Say’s Law is if you start from modern economic presuppositions.
The Economist actually noted two of them which they instantly breached proving how difficult it is to keep modern presuppositions out of our reading of the classics. First the article correctly said this:
To grasp Say’s point requires two intellectual jumps. The first is to see past money, which can obscure what is really going on in an economy. The second is to jump from micro to macro, from a worm’s eye view of individual plants and specific customers to a panoramic view of the economy as a whole.
Don’t initially think about the operation of an economy using money which will only cloud your understanding. Money can only be brought in at the end after we have understood what is going on in the real economy. Then, not only should you bring in money but it is essential if you are to understand how the existence of money distorts economic relationships. And if we are discussing Say’s Law, the entire economy has to be in view, not just individual firms and industries. But with The Economist having noted you need to leave out money and ignore the micro side in discussing Say’s Law, the very next para reads:
Firms, like coal plants and cotton mills, sell their products for money. But in order to obtain that money, their customers must themselves have previously sold something of value. Thus, before they can become a source of demand, customers must themselves have been a source of supply.
Micro not macro, and immediately introduces money. A modern economist finds the conceptual structure of classical theory almost impossible. This is, moreover, not trivial. In the view of the classics, you will never get even the most basic stuff right if you break these rules. So let me go on with my letter.
So if I may, let me try this tack. First let me point out that the term “Say’s” Law was invented by the American economist, Fred Taylor, and popularised in his introductory text, published in 1921. Say neither invented the concept nor was he its best defender.
Second, the phrase “supply creates its own demand” is not classical in origin but was first used in print by another American economist, Harlan McCracken, in his Value Theory and Business Cycles and published in 1933 – a text Keynes is known to have read while writing the General Theory.
No Keynesian even tries to deny this, and I have brought this up with everyone. All they can do is ignore these facts which has so far worked very well for them. But the point I am making, which they understand all too well, is that the standard mythological story how Keynes came to write The General Theory is wildly incomplete. Taylor and McCracken are included in no one’s versions but my own. But their influence is undeniable. And it also turns Keynes from that honest broker thinking through these various issues into a less than fully honest scholar who was taking in other people’s material without acknowledgement. Now back to the letter.
The actual meaning of Say’s Law was described by Keynes as “Ricardo’s doctrine” [GT page 32] with its meaning clearly stated: “that it was impossible for effective demand to be deficient”.
But to argue that recessions do not occur because of a deficiency of demand does not in any way imply there are not many other potential reasons why an economy might end up in recession with high rates of involuntary unemployment.
Of course, Keynes’s great lie was to argue that classical economists had no theory to explain involuntary unemployment. But it was on the basis of this utterly fantastic untruth that he sold his theory to economists and political leaders, when the reality was that demand deficiency was, among classical economists, the single most discredited fallacy in the whole of economic theory even while they were discussing many other reasons for recessions and why they occurred. Modern macro is a classical fallacy. Why does no one know this? Because there is almost not a single economist you know who could tell you what the classical theory of the cycle and involuntary unemployment was. Try your luck. All economists are still taught classical economists had no such theory. It is possible that Keynes was only an ignoramus but that is the same to me. He knew nothing about the theory of the cycle and he has passed that ignorance onto everyone else. Back to the letter.
The article uses this as an example of the problems caused by demand deficiency: “In Britain government spending was cut by 40% after the Battle of Waterloo in 1815. Some 300,000 discharged soldiers and sailors were forced to seek alternative employment.”
Let me therefore point out that at the end of World War II there were even larger reductions in employment across the armed forces as well as massive cuts to armaments expenditure, with the budget immediately balanced in the United States as soon as the war had ended. The consequence was the most sustained period of rapid growth in world history.
They love to point out that it was only World War II that pulled our economies out of the Great Depression, but the dates of the Depression are 1929-1933. World War II starts in 1939. It is only in the US with its Keynesian New Deal that the Depression continued until 1940 when the War did finally pull the US out of the Depression. The great counter-example is, however, what happened when the war came to an end. Get a Keynesian to explain that without the magic words “pent-up demand”. Demand was no more “pent up” in 1945 than it had been in 1935. To the letter again.
There is always demand if producers supply what others wish to buy. That is not a truism. It is not only the basis for explaining why economies enter recessions since producers don’t always supply what buyers want, it is also an attempt to explain what Say’s Law means and why modern macroeconomic theory is misguided.
A brief statement of the classical theory of the cycle. Which leads to the conclusion.
A debate on Say’s Law is long overdue which I hope your article will help to provoke.
The Economist, along with almost the whole of mainstream economics, have not an answer to any of it other than to walk on by. By we are going to be plunged into poverty because of this bizarre belief fostered in every macroeconomics text, that spending is what makes an economy grow.
IN REPLY TO COMMENTS: Rob queried whether Say’s Law is not a truism, so I wrote the following which, I think, helps see the point at issue.
A Keynesian says that an economy can go into recession for lack of demand. It is not a truism because Keynesians specifically deny that “there is always demand if producers supply what others wish to buy”. If they said people have stopped spending because they have become alarmed by external events which had caused business confidence to fall, they would be repeating the classical theory of the cycle. But what Keynes did was argue that demand just falls off because due to the Marginal Propensity to Consume, as incomes grow, proportionately less output is bought and proportionally more is saved. Meanwhile, because of a falling Marginal Efficiency of Capital, investment does not rise fast enough to soak up all those now excess savings. Utterly idiotic, I know, but that’s the theory. And I apologise to our non-economist readers for the jargon.
My point is that Say’s Law is true but hardly obvious. Therefore, not a truism. That the general glut debate lasted as long as it did [according to Sowell from 1820 till 1848] shows how hard it can be to see the point. Meanwhile, Say’s Law has always appeared obvious beyond argument to me, but only since I learned what it meant by reading Mill. There is also no doubt it is far from obvious to most of the people I deal with. If you see it, you are definitely not your average ordinary everyday economist. I would never argue that Mill gets everything right, but I would argue that if he is wrong, he is wrong for very deep and abstract reasons that would take a lot of effort to see past.