The productive horse must come before the spending cart

These are selected comments that followed Per Bylund’s article on the Mises website where he discussed More Spending does not Drive more Employment. I have emphasised those that supported Per’s argument. I will provide a bit of a commentary to see where things are going. I might add that the one and only text that carries all of this at an introductory level is my Free Market Economics now in its third edition.

A discussion on the use of our resource base in maintaining and building capital

Diane Merriam: Maintaining anything is still a cost, so it still needs a market.

Demand equals supply at a given price. Without the price mechanism demand can be infinite and supply zero.

There have been too many cases, when it’s only government involved, that haven’t been far off from that case … think the Bridge to Nowhere :). If maintenance of something *is* going to be done, there’s still a market for getting it done.

The only value available for investment is value that hasn’t been spent on current consumption.

It doesn’t matter how much how many people work, how hard, how much they invest, any of it. If what they produce isn’t what people want at the price it is offered for, it has *no* value. Value is assigned by the purchaser and, even then, only at the time of any specific exchange. You can’t simply put a price tag on something and say that is what it’s worth. If people won’t buy it at that price, then it’s *not* worth the price.

All business decisions are forward looking with no guarantee ever of a positive return

Q: What do you think: “…when business people see a profit opportunity. …” means?

DM: [Businesses] may *think* they see a market opportunity. But more often than not, when a new product or more of an old one actually gets to the market, they find they were wrong.

Q: You should have more faith in our private sector job creators.

DM: I don’t have faith that they will do any better than they already are. The FACT is that most new businesses and even large expansion of existing businesses FAIL. If they could reliably predict what will and won’t sell for how much, they would already be doing it. They can’t. Distortions of the market will make analysis even harder, resulting in even *higher* rates of failures than now.

Value added is what matters most

Q: But if there are people available to work, the business person will hire them and create MORE VALUE.

DM: Again, it doesn’t matter how many people are working. Unless what they produce is worth the price it’s offered at to the final buyers, *no* value was created.

There is *no* demand until *after* something is created. Every investment is a risk because of that very basic fact. And once something is created, there is still no guarantee that people will want to buy it, much less at more than the total cost of making it, or even enough more that a business wants to keep making it.

*Risk* is the defining characteristic of *any* investment. A consumer saying “I want something” means next to nothing economically. Even “I want something particular at less than this price at this specific moment given what else I could buy and also want” says nothing about what that consumer will want tomorrow or what they’re willing to pay for it tomorrow or that something new will not come out such that they don’t want any more of what they bought today afterwards.

Even then you’ve only scratched the surface of risk evaluation. As a business person, it’s not only guessing at what demand might be tomorrow or next year and at what price. What if the minimum wage goes up another 80 or 90%? What if the cost of this or that material needed to make what I produce goes up? If I want to invest my current available savings (or even what I can borrow) in product A, what will that do to my line of product B? What if inflation jumps back up again or interest rates go up? I see all this “new” money floating around and I know that is going to increase inflation and interest rates. By how much? How soon? For how long? I see a lot of cost increases coming down the road and I see that what I earn is going to be worth less than it is now. Can I risk even expanding current production? Can I afford to lose what it’s going to cost?

And even after all that analysis, most new businesses *still* fail.

All production is driven by entrepreneurs and not by those who might buy the product after it has been produced

Q: What about if consumers wave money in front of the noses of the job creatos and say “wakey wakey”

DM: The business owner would look at them and know that *they* are wakey wakey and have no idea what they’re talking about. Business owner looks at what they say they want, then how much they are willing to pay for it, then sees what the potential upside *and* downside is, then looks at costs and what they can afford to invest and what they can afford to lose if it doesn’t work out. By the time it’s all said and done, what people say quite often doesn’t work out in the real world.

The normal progression for business that open simply on the basis of what people say they want is funds invested, attempts made, followed within a year or three by bankruptcy. It’s just not that simple.

“For every complex problem there is an answer that is clear, simple, and wrong.” – H. L. Mencken

Look at the three states, I think it is now, who tried to implement a single payer plan … until they got the dollar figures on what it was actually going to cost, and that was under best case scenarios. All three attempts just quietly went away.

Simply because some people say they want something doesn’t mean it’s the right or affordable thing to make.

Jobs are not created by spending

Phil Miller: “The jobs are created by spending”

Jobs are created by entrepreneurs who take risks to satisfy consumer wants. You can’t have spending unless you have entrepreneurs first taking risks and producing products. You’ve got the cart in front of the horse.

Q: “Value and wealth are created by entrepreneurs and indeed money if they borrow it.”

PM: Wealth must first be created before it can be borrowed. You can’t borrow something that doesn’t exist.

Understanding the meaning of wealth and wealth creation

DM: Wealth does not equal value. Wealth is nothing but a numerical accounting of the assumed value that a person or business has at their disposal to spend or invest. It’s one of those loose words, along with others like inflation and money, that make it easy to obfuscate economic understanding among the general populace (and even many economists).

Of course entrepreneurs can’t create money. Neither can governments or anyone else. First the value has to be created. *Then* that value can be traded, either directly (as in barter) or indirectly (using an generally accepted form of value storage called money).

You can throw trillions of pieces of paper around and not one job will ever be created. Without the intermediary steps of deferred consumption (savings) and risk taking entrepreneurs you have nothing.

Money, in the formal definition, must be an actual commodity that has value in and of itself. The best commodities to use are durable, have high value per volume, are easily divisible, and do not *need* to be consumed.

Paper currency, when it is a claim on actual money, makes it even easier to use as long as the receiving party trusts that the actual money is and will always be available upon demand. When that convertibility is taken away, a major trust support is lost. Even the value as an intermediary of exchange becomes subject to the whim of the printer. If the printer prints more, then prices have to go up. Which prices go up and by how much can be any mix of end user prices and/or investment vehicles and everything in between. More paper, in and of itself, does not and can not create value.

Production comes first and demand only later

Leopardpm: It is just pure crazy that their are still folks in the world that are so confused as to think that ‘spending’ precedes production or increases demand. All one has to do is reduce the economy down to 1 or 2 folks and see how things work – this strips away the myriad of confusing layers and distractions which seem to plague peoples minds.

These people completely lose their ability to think just because a fiat currency is introduced into the equation, as if it acts as some magical incentive to drive folks all ‘wakey wakey’ in their search for wealth.

It is simply a logical impossibility for spending to drive the economy, no matter what a study may conclude or a person may ‘feel’ should happen…

Entrepreneurs are a breed apart and do not need to be coddled to get them to produce

DM: Entrepreneurs do not need a *good* economic climate, but they do need one that at least makes profit possible. The worse the climate, the worse the returns and therefore the less the growth that investment will result in.

Leopardpm: Suppose you and another person are in a forest and he has an item you desire and you have nothing that he values to trade for it – can you simply ‘spend’ to obtain it, or do you need to produce something first in order to trade for it?

Even though way over-simplified, it still highlights the underlying, fundamental point: someone, somewhere, somehow must first produce something before it can be ‘spent’. Debt can alter the time frame (ie: you could trade a debt for the item, but that debt must either be repaid or any future ability to trade debt will be greatly devalued), but not the principle.

Why do you insist that I am creating a strawman here? This article is about creating employment through spending, and it follows that it also is referring to the greater thought of ‘Spending drives the economy’… my ‘strawman’ is both of these….

“Your claim that there is someone claiming that spending preceeds production is just childish.” You must not get out much – the idea that spending proceeds production and thus is the main driver in the economy is repeated throughout the media and economic circles: “Spending accounts for 70-80% of the economy (or economic growth)” etc… perhaps you are not understanding the concept, or maybe do not hear what is said by the news et al?

Structure of production

Bob Robert: Your failure is in not understanding the structure of production.

In order to be used to build final products, the “capital” machines must be produced. Production precedes consumption.

In order to be used to produce the machines, the “capital” factories must be produced. Production precedes consumption.

In order to be used to build the factories, the “capital” bricks, iron, flywheels, electrical generators, and on and on endlessly (see: I, Pencil) must be produced. Production precedes consumption.

In order to be used to build all those things, the “capital” of individual laborers must be produced. Production precedes consumption.

It’s called “structure of production”, and it is something which both Marx and Keynes ignored utterly.

Summing up

Noah: ” the entrepreneur will employ people before demand is known — in fact, even before demand can be known”

Exactly. Well phrased.

” capital replaces labor (by making it more productive) ”

Which is represented by the “good” form of wealth inequality, since the return on output logically returns to the capital that is increasingly invested in greater proportion than to the labor that is reduced. Both the rich and poor get richer in real terms, but the return on investment/capital (that is replacing labor to increase output) means the rich get richer at a faster pace than the poor get richer.

What’s the problem, if this system is actually allowed to work (which it increasingly is not) under limited credit expansion? Unlimited credit expansion means ONLY the rich get richer, at least in nominal terms.

“the Keynesian avalanche”

What a wonderful phrase! This is very good article in the realm of those that show production/supply is primary over consumption/demand (rather than the other way around, as the the Keynesian avalanche led many to believe.

Perhaps too scattered as all such conversations are but an interesting and quite high level discussion.

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