Category Archives: Economic theory and policy

The socialist nightmare – Venezuelan edition

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This is about the collapse of the Venezuelan economy post-Chavez. It has seemingly taken place almost out of nowhere. Things limped along for a longish while and then, almost overnight, fell apart.

The problem in being unable to recognise what’s going on is due in large part to our economic notions now so firmly based on “flows” rather than “stocks”. We look at how much we are able to buy and not at the underlying productive apparatus. A bridge collapses and the effect on GDP is either nothing at all or perhaps even leads to an increase in output as more effort is required to get from place to place while there is activity in re-building the bridge. That’s the flow side of the story. The stock side, however, is to note that the actual productive apparatus of the economy has been impaired. It cannot produce as much as it could the day before the collapse.

What happens in a socialist economy like Venezuela, or the US at the moment, is that there is a time during which the capital is being run down and there is little recognition that there is major structural damage taking place. Then, in what seems almost inexplicable, the entire economy falls apart all at once. This is from an article on the collapse of the Venezuelan economy.

Welcome to Hugo Chavez’s Venezuela, a country with the fifth largest oil reserves in the world and absolutely broke. It’s a remarkable achievement for Chavismo. A just-wow moment. Socialism is useless at everything except for smashing things in record time. There it excels. It’s hard to imagine that as late as the 1980s Venezuela had the highest standard of living in Latin America. But then in 1960 Detroit was the richest city in the world in per capita income. Now it’s well … Detroit. . . .

The genius of the Left — Chavez’s for example — is that it destroys things from the inside out. They pervert religion, collapse the mores, abolish the family, shred the constitution and gradually expropriate the property. The differences from one day to the next are apparently imperceptible, but it is harder and harder to go back until finally there is no reversal of ‘progressive gains’ possible at all. The public is finally faced with the stark choice between chaos or authoritarianism. And most people will chose the Boss over the Mob.

The capital, both physical and social, is eaten away and then completely breaks down. Building is hard and requires patience. Destruction from the inside by socialists looks great for a while while the wealth is spread around. But when it falls, not only does it crumble, but no one knows how to put it together again, least of all the socialists who promise everything but deliver nothing but misery in the name of equity and justice.

If the SHOE fits

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There has been a kind of hammer and tongs discussion at the Societies for the History of Economics (SHOE) website that began when I posted that the President of France had stated in support of a more “austerity”-oriented economic policy that, L’offre crée même la demande. Or in English, that supply really does create demand, a principle known in English as Say’s Law. Every economist is taught from the first day of macro that Say’s Law is wrong and that a Keynesian stimulus is the answer to recession. Sounded better five years ago but today, who would suggest more public spending even though our economies remain as dismally placed as they are. But part of what I found so charming is that the suggestion is made that I am near enough the only economist in the world who thinks “the strong version” of Say’s Law is true. How weird is that! But of course, that doesn’t mean that I think that I’m wrong, specially since all the evidence is so one way.

The SHOE website is filled with interesting discussion over a vast range of economic issues. You definitely do not have to be an economist either to join or to listen in on the discussion. You can register here. Meantime, this is my latest post on how I see the role of the history of economic thought.

I am rather charmed by Barkley Rosser’s last post, to wit:

So, my final comment will be directed very directly at Steve Kates and James Ahiakpor. Can you guys not figure out that you have totally and utterly lost this debate? Nobody here agrees with you, nobody. You have lost, period. Sure, you can get the occasional Per Berglund to sort of attempt to help you out by questioning details of the critiques of your arguments, but even those folks in the end do not come down on agreeing with your defense of a strong version of Say’s Law. Deal with it, please. We have all had more than enough.

I am more than aware that so far as numbers go, we are on the wrong side of the ledger. When I began to argue in public against the stimulus back in 2009, there were attempts made by that solid mainstream to have me sacked from my university appointment. There are risks in taking such positions. What protects me now from such attacks is the unbelievably dismal outcomes from the stimulus. You may not understand what I’m saying. But there is no doubt that, so far as the way our economies have performed, I have little reason to think anything other than that Mill was right, that the “strong version of Say’s Law” is valid, and classical economists knew what they were talking about. The modern Keynesian fashion, on the other hand, has little to show for it. Does evidence count for nothing?

But I come onto this thread firstly to thank our moderator for his willingness to let the previous thread on L’offre crée même la demande continue to its end. But there is more to it than that. I wrote my book on Defending the History of Economic Thought, not just to explain why making the effort to understand the economic theory of the past is an extremely good way to deepen an economist’s understanding of economic theory, but also to argue that HET is the place where economic theory goes to regenerate itself. This is the one and only place that economists from every one of the traditions in economic theory come to look in on what is being said by others.

There are mainstream journals, but also Austrian, Neo-Keynesian, Post-Keynesian, Institutionalist, Marxist and others, and if you are not part of whatever tradition that journal represents, it is unbelievably difficult to get published. HET has broken this tradition down, at least to some extent. It may well be that no one can follow what I or James or Per are trying to say, although we can follow each other with near perfect clarity. But where else are you going to even hear it at all?

The History of Economic Thought is by all accounts dying yet it is the most intellectually alive area in the whole of economic theory. It teems with ideas and there are economists from every tradition who are willing to fight it out before an audience of upwards of a thousand of their peers who can follow these discussions as they like. There is seldom a thread I don’t learn from and I typically read them through.

And there is no doubt that HET is under threat of extinction. There are people at the top of our hierarchies, and I am talking about our hierarchies within HET, who would willingly take this study into the History and Philosophy of Science and leave economics behind. There are also mainstream theorists who would be glad to see the end of us and our constant criticisms of established textbook economics.

But there are also people, like myself and others who come to this site, who just find it fascinating to listen in on alternative ways of thinking about economic issues. That is what HET is for. Rather than restrict this area to burrowing into particular issues related to economists who are no longer mentioned in our textbooks, it should also be a place where ancient economists are resurrected and their ideas discussed. And I don’t just mean on this site but across the entire expanse of the history of economic thought.

The journal, History of Economics and Policy, is a paradigm of just what is needed. Perhaps not for all of us, but certainly for some of us. This is not the end of HET but in my view is its salvation. Here is a link to its archive.

It is what every HET journal should become more like. Some traditional material but also some which see the relevance of past theory to our present problems.

And in furtherance of this post, I might just mention this news item, Canada charts comfortable course to 2015 budget surplus. If you are a Keynesian, your reaction would be, how terrible! If, however, you have been following the news for the past five years, you can see what a triumph it is. The strong version of Say’s Law remains an absolute necessity if you are to understand how an economy works and why public spending and deficits are the disasters they have so obviously proven to be.

Say’s Law on the HES website continues

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This is a continuation of my posting on the Societies for the History of Economics (SHOE) website. It follows from this and this. And note very carefully that Keynes might have read Ricardo’s letter to Malthus.

I certainly appreciate the replies to my previous postings by Daniele Besomi and Barkley Rosser.

Let me begin with a news item reporting on my testimony to the Australian Senate Economic References Committee. They were reviewing the effects of the stimulus and had invited me because of my views on Keynesian theory and policy. This is from the Sydney Morning Herald of 21 September 2009.

“Labor senator Doug Cameron said Prof Kates’ comments had certainly embedded in his mind that you should never let an ‘academic economist run the economy’.

“‘Why have the IMF, the OECD, the ILO, the treasuries of every advanced economy, the Treasury in Australia, the business economists around the world, why have they got it so wrong and yet you in your ivory tower at RMIT have got it so right?’”

I can now more clearly see Senator Cameron’s point about academic economists, but I draw you attention to the second of his statements.

Since J.-B. Say had put together what is in English called the law of markets, it does not surprise me that the phrase “Say’s Law” may have turned up on various stray occasions. But as someone who had been curious about the origins of this term, which is used by none of the major classical economists, it did finally dawn on me that it had come from Fred Taylor, not least because he specifically states that he is inventing the term. He used the phrase in his 1909 article on teaching economics; it is in his 1911 and six subsequent student editions of his for-students-only principles text distributed at the University of Michigan and buried in a chapter he titles, “Certain Fundamental Principles of Trade”. But by the time his text is released commercially in 1921, Say’s Law is a chapter on its own, titled “Say’s Law” in big letters, and in that chapter Taylor specifically says he is giving a name to what he describes as a yet unnamed principle. That someone used the term in 1920 is not a surprise but the phrase Say’s Law does not enter into economic discourse in a big way until after that. If it pleases you to think that Keynes took the name because of one of these stray mentions picked up by Daniele, be my guest as long as you accept that he took it from somewhere else. It just seems reasonable to me that Keynes used the term because it expressed exactly the point he was trying to make. Whether he was reading Taylor directly, or someone else who had read Taylor who had used the term, we cannot know. But that he was reading the mostly American literature on Say’s Law is as near certain as any such thing can be. And the only reason anyone resists this common sense, indeed obvious point, is that it is damaging to Keynes’s reputation since it suggests that his letter to Harrod, about how he had on his own by himself thought up one idea and then another, is not what actually happened at all.

And perhaps it is Daniel who has not understood my point. His point, he writes, is that “Say’s law was not ACCEPTED throughout the 19th century by writers trying to explain crises” (his emphasis). I don’t think that’s right. If you go the Haberler’s 1937 Prosperity and Depression, which is a compendium of all of the theories of recession that were then in existence, virtually all of the theories presented are about structural dislocations. In what was probably the most common theory of recession of the time, people had used their savings all right – hoarding was not the problem – but had produced non-saleable output leading to recession, with the reason for such dislocation often but by no means always related to financial mayhem of one sort or another. To the extent that classical economists had a view about saving as a cause of recession, it was that recessions might occur because the level of saving had been insufficient to complete all of the projects that had been commenced following the previous trough. There wasn’t too much saving, there was too little. Read Haberler discussing Hobson and under-consumption if you are looking for a dismissive view of oversaving as a theory of recession.

What Say’s Law said to economists was this: when trying to explain the causes of recession, “there is no deficiency of demand” (and that is a quote from Ricardo), so you should therefore look somewhere else. I will, for a change, let Keynes be my authority.

“Malthus, indeed, had vehemently opposed Ricardo’s doctrine that it was impossible for effective demand to be deficient; but vainly. . . . The great puzzle of Effective Demand with which Malthus had wrestled vanished from economic literature.” (GT: 32)

It may seem a negative conclusion but it is a crucial one. There is no such thing as a general glut. Overproduction never occurs. Demand deficiency does not cause recessions. And so far as policy is concerned, increases in non-value-adding public spending cannot lead to a recovery but will, instead, make them worse. That is what I was trying to say to our Senate. Five years later, who has the runs on the board? Is it the IMF, the OECD, the ILO, the treasuries of every advanced economy, the Treasury in Australia, the business economists around the world, or is it our classical predecessors? Is it Keynes or Mill?

So to come back to my original post. There may well be something to what classical economists had been saying, which is the point Francois Hollande has very bravely made. And it is brave since he will be opposed by his political enemies, by his political friends and by economists who refuse to think that just maybe perhaps Keynes was wrong.

Let me finish with a quote from another politician, the former Labour Prime Minister of the UK, James Callahagn, speaking to the Labour Party Conference in 1976 during the Great Inflation, which was also a period of persistently high unemployment:

“We used to think that you could spend your way out of a recession and increase employment by cutting taxes and boosting government spending. I tell you in all candour that that option no longer exists, and in so far as it ever did exist, it only worked on each occasion since the war by injecting a bigger dose of inflation into the economy, followed by a higher level of unemployment as the next step.”

It’s not as if our economies, as a result of these high levels of public spending in the period after the GFC, returned to rapid rates of economic growth and low rates of unemployment. We have seen the effects of the stimulus and they are dismal. Hollande, who is a first rate economist, went into government as a Keynesian but a Keynesian he no longer is. Why anyone else still is remains the central question in economic theory today.

Say’s Law – some basic distinctions

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A few days ago I put a post onto the SHOE website on Say’s Law for which there was one reply from Daniel Besomi. My reply should make clear what he had written:

I appreciate Daniel Besomi’s comments, which I hope will help us clarify these issues. I might also mention that most of what I summarise here, as in the previous post, was discussed in my Say’s Law and the Keynesian Revolution: How Macroeconomic Theory Lost its Way (Elgar 1998).

The first point I am trying to make begins here. There are two fundamental economic questions:

1) what is the basis for demand?

2) what causes recessions, or perhaps more accurately in this case, what does not cause recessions?

What Say, and Robinet, were explaining was the origins of demand, which they argue is based on previous sales. Demand is constituted by supply. What they wrote is an answer to the first question, but it is not an answer to the second.

The second question may be rephrased in this way: can there be such a thing as a general glut? This is a completely different question from the first, and the answer, as a consequence of the general glut debate, was that no, there is no such thing as a general glut, demand deficiency does not cause recessions. James Mill’s answer to this question was, in part, premised on Say’s answer to the first but were not an answer to the first. They are separate but related issues. Mill used Say’s discussion on the basis for demand to explain why a general glut was impossible.

It is because James Mill was the first, so far as I know, to answer the second question that I see him to have been the first to frame the classical statement on what is now called Say’s Law. The General Theory is about whether demand deficiency, a general glut, is possible. And when one finally accepts the classical answer to question 2, as FH may have done, then, but only then, the economic issues revolve around 1, which is what kind of supply will actually create demand.

And then, in answering that question, we can ask ourselves whether the Keynesian notion that spending on anything at all will do the trick is a correct answer. To a classical economist, it need hardly be said, the idea that anyone would think non-value-adding production could create growth and employment is too ridiculous even to contemplate. Only a modern economist might think so, but to anyone from the classical tradition, the idea is still ridiculous.

Daniel also points out that Fred Taylor had used the phrase “Say’s Law” earlier than 1921. This is true, but 1921 nevertheless remains the significant date, which is why I chose my words very carefully. What I wrote was this:

The first thing that might be noted is that the term ‘Say’s Law’ is not classical in origin but was consciously invented by Fred Manville Taylor and introduced into general economic discourse with the publication of his Principles of Economics text in 1921.

If you go to my Say’s Law text (pp 148-149 and especially the footnote), you will find that I discuss Taylor’s invention of the term, including his first use in 1909 in an obscure article on how to teach economics. He then brings Say’s Law into his introductory text, but the first seven editions were student editions distributed only within the University of Michigan. It is only following the publication of the eighth edition as a general text with commercial distribution that the term enters general economic discourse. It is the publication of the book for sale outside the U of M campus that brings the term to a wider public, and it is only after 1921 that it enters into more general discourse.

But it is really neither here nor there whether Taylor invented the term in 1909 or 1921. What is important to understand is that the term was invented in the twentieth century and it was invented by Taylor. What is not in any way affected by the dating is the need recognise that Keynes must, as an absolute certainty, have been reading other things about the various issues that end up in The General Theory that he never mentioned to anyone else. The locked-himself-in-a-room-and-came-up-with-these-ideas-one-by-one version, as he tells the tale himself and is now repeated as gospel, is obviously untrue since Keynes had to have picked up the phrase from somewhere else. If not from Taylor than from someone who had read Taylor.

Then, on the third point raised, if it can be said, as Daniel says, that my stating that everyone accepted Say’s Law through until 1936 was only “approximately true in the English, French and Italian literature”, that’s more than good enough for me. I perfectly well understand that there were some very few and generally obscure dissenters, particularly in English. I even discuss this very weak opposition in my book, with the two (three, I guess) most important dissenters in English having been John Hobson on the one hand and Foster and Catchings on the other. Keynes can himself name only five in his “Brave Army of Heretics” (GT 371), and if you look at the list and choose only his contemporaries, aside from Hobson who is iffy, you are looking at a very dubious list of authorities, namely, Silvio Geselle and Major Douglas. During the period up until 1936, there may hardly have been a theory more universally accepted than Say’s Law.

Say’s Law and the law of markets are not the same

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I have belatedly come to realise that Say’s Law is not the law of markets. How weird is that, after all these years. I have put the following up on the SHOE website as a continuation of my previous post L’offre crée même la demande. Hollande, as a result of the bitter experiences in trying to manage the French economy, now has a better grip on our fundamental economic principles than pretty well the whole of the economics profession.

There are a number of facts that are relevant in any discussion of Say’s Law which I thought I might set out. What I find something of a problem is the common assumption that Say’s Law refers to something that was believed during the early parts of the nineteenth century and was of little significance thereafter. No discussion ever seems to get past Malthus, Say and Mill in looking at what was an embedded principle right up until 1936.

The first thing that might be noted is that the term “Say’s Law” is not classical in origin but was consciously invented by Fred Manville Taylor and introduced into general economic discourse with the publication of his Principles of Economics text in 1921. Before Taylor no one called this association of demand with previous supply “Say’s Law”. Taylor introduced the term because he thought economic theory needed to identify one of its most important underlying principles. The ironies of what followed next are too obvious for comment.

This continuous fixation on the early classical economists has had a number of unfortunate consequences. The first is that economists are always returning to Say as if he provided the definitive statement on Say’s Law. He did not. If you want the point of origin, it is in James Mill in his Commerce Defended published in 1807. Here is the passage that matters, although the whole of his discussion is well worth the effort:

“No proposition however in political economy seems to be more certain than this which I am going to announce, how paradoxical soever it may at first sight appear; and if it be true, none undoubtedly can be deemed of more importance. The production of commodities creates, and is the one and universal cause which creates a market for the commodities produced.”

The final sentence should be familiar but is not the actual origins of the specific words used by Keynes.

It is also important to appreciate James Mill’s role since I see his statement not only as exactly right, but he wrote his book in response to an argument in which too much saving and too little demand were seen as the causes of recession. This was the first instance in which an argument that economies are driven by demand was rejected. Mill was saying an economy could not be stimulated from the demand side. That was the point of Say’s Law, and still is.

This nameless principle was universally accepted by the mainstream. But if you would like to find Say’s Law as clearly stated as it is possible to find it in the classical literature, this is David Ricardo writing to Malthus just after the commencement of the General Glut debate in 1820. Malthus said the post-Napoleonic recessions had been caused by too much saving and too little demand. To this, Ricardo replied:

“Men err in their productions, there is no deficiency of demand.”

That’s it. Say’s Law. Recessions are caused by mis-directed production, not deficient demand. This was the foundation for the entire theory of the cycle that would develop over the following century. It is the disappearance of the theory of the cycle that may be the greatest loss economists have experienced because of the General Theory.

There is then this. At the end of the General Glut debate in 1848, John Stuart Mill published his Principles of Political Economy, which included his fourth proposition on capital. This may be the most enigmatic statement ever made by a great economist, but if you want to see the principle behind Say’s Law, whether you agree with it or not, this is what Mill wrote:

“Demand for commodities is not demand for labour.”

Or as we might put it today, an economic stimulus will not create jobs. This is a statement whose reasoning is perfectly clear to me. I teach it to my students and it is in my text and few ever have any trouble with it. Described in 1876 as “the best test of a sound economist”, in my view it still is. It was a conclusion that policy makers accepted right through until the 1930s and perhaps even for a while after. But it was an enduring concept.

So I take you back to Francois Hollande. What he said in French was this:

“Le temps est venu de régler le principal problème de la France : sa production. Oui, je dis bien sa production. Il nous faut produire plus, il nous faut produire mieux. C’est donc sur l’offre qu’il faut agir. Sur l’offre ! Ce n’est pas contradictoire avec la demande. L’offre crée même la demande.”

This is the whole thing in my free translation:

“The time has come to work through the number one problem in France: which is production. Yes, that’s what I said, production. We must produce more, we must produce better. Hence, it is upon supply that we must concentrate. On supply! This is not in opposition to demand. Supply actually creates demand.”

It is true the point Hollande makes takes you back to J.-B. Say, David Ricardo and James and John Stuart Mill, all of whom are, of course, classical. But he also takes you back to Fred Taylor whose book was published only a few years before the General Theory, where he was trying to state what every economist of his own generation knew and accepted. Today, so far as aggregate demand goes, we are all Keynesians now, with some very few exceptions.

And while we’re at it, you might also ask yourself how Taylor’s very much twentieth century phrase ended up in The General Theory. The standard story of the trek from the Treatise to the General Theory has a lot of gaps, even after the hundred million words that have been devoted to explaining what the General Theory means and how it came to be written.

Say’s Law and Hollande posted at SHOE

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I posted the following comment on the SHOE list (Societies for the History of Economics) on 25 January.

This only came to my attention a few days ago but apparently François Hollande, the President of France, quoted what he believed to have been the actual words J.-B. Say used to describe the meaning of what we today refer to as Say’s Law: L’offre crée même la demande. He quoted it because he intends to use this maxim as a guide to policy in directing the French economy. Here is the quotation, in French:

Le temps est venu de régler le principal problème de la France : sa production. Oui, je dis bien sa production. Il nous faut produire plus, il nous faut produire mieux. C’est donc sur l’offre qu’il faut agir. Sur l’offre ! Ce n’est pas contradictoire avec la demande. L’offre crée même la demande.

François Hollande – January 14, 2014 [My bolding]

This only came to my attention because of an article reprinted from The Financial Times dated 19 January and written by one of the FT’s columnists, Wolfgang Münchau.

This was the relevant para:

“Last week, we heard another Frenchman, President François Hollande, proclaiming: ‘L’offre crée même la demande’, which translates as ‘supply actually creates its own demand’. If you want to look for the real political scandal in France today, it is not the sight of the president in a motorcycle helmet about to sneak into a Parisian apartment building. It is that official economic thinking in Paris has not progressed in 211 years.”

This is significant to me for two reasons which I have discussed in past threads on this site, not to mention in my Defending the History of Economic Thought. First, economic ideas of the past are never transcended in the sense that once something better has been devised, older ways of looking at things never come back. As we can see here, older ideas retain a life of their own and may, in the right circumstances, turn out to be relevant in understanding contemporary events. With the now generally recognised failure of the Keynesian stimulus packages, the question has become, what should be done now?

There can be no doubt that the Socialist President of France, who more than anything else would have liked to have spent the French economy into recovery, but having personally experienced the consequences of trying to use Keynesian economic policies, has concluded that economies are not driven by a public sector stimulus. Hollande is therefore looking in another direction and has embraced Say’s Law as best he understands it.

You may be sure Hollande did not do this lightly. This awareness has come as the result of the bitter fruits of experience. The stimulus packages of 2009 are today’s debt and dying economies.

Which brings me to my second issue which is also something I have discussed on this website. The classical economists may well have been right that there will be no recovery until demand is again constituted by actual value adding supply. And what is interesting is that Hollande, far from leading the way in his approach to economic theory, is following in the footsteps of others who are trying to achieve a turnaround in their economies. This is again from the article in The Financial Times:

“The third significance lies in the fact that the new consensus spans the entire mainstream political spectrum. If you live on the European continent and if you have a problem with Say’s Law, the only political parties that cater to you are the extreme left or the extreme right.”

Economic policy everywhere is, according to this article, guided by Say’s Law. I don’t actually believe that is literally true, but the problem remains that while policy makers are trying to walk away from Keynes there are no longer any guideposts on what to do since almost no economics text will explain the actual meaning of Say’s Law, the classical theory of the cycle and what needs to be done to generate a recovery when the economy is in recession.

History of economic thought has its uses as economics. It is not the history and philosophy of science, it is not the discarded ideas of Dead White Males. It is part of the collective wisdom of economists that we, as historians of economic thought, do our best to keep alive.

Economic definitions

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I am two days away from finally sending the manuscript of the 2nd edition of my Free Market Economics off to the publisher. What do academics do when they aren’t teaching? This, at least, is what one of them has done. But for interest and comment, I am putting the following up which I have just finished writing not five minutes ago. It will be at the very start of the book, right after the preface which I will get to as soon as I finish this section on the definitions.

And I hope you all have as much fun on this long weekend as I hope to have myself.

Before venturing into the full text before you, it is useful to have a few definitions in your mind. The language of economics is entirely made up of words that have ordinary meanings in everyday life. But these words, when they cross over into economics, suddenly take on very specific meanings that can cause someone to lose the thread during an economic discussion. We therefore provide a series of definitions of the specialised words used in the text. Having at least a preliminary grasp of these words and their more technical meaning will also in itself provide a grounding in the nature of the economic theory you will meet in the rest of the book.

Economics often looks easy because everyone already thinks they understand what’s going on in an economy without even having to study. Not true at all. For an economist it is painful to hear the mistakes that those who have not studied economics to at least a reasonable depth constantly make. But there are also major differences in the conclusions different economists reach and these are often at a very deep level that no lay person could possibly resolve.

This text will teach you everything you will find in studying economics in a normal, usual way. But it also provides a second perspective that has been taken from the economic theories that were dominant during the nineteenth century. But unlike with the natural sciences, economic theory does not progress to higher plains and then remain there. Economic theory is infused with the hopes and wishes of policy makers and of those who study the subject who are predisposed to some particular point of view. People just wish the world was one way when the way things are turn out to be something else again, and their wishes cause them to accept economic theories that are not properly grounded in the way the world actually is.

The definitions found here are already pointing in a particular direction. The very first definition is “entrepreneur”. These are the people who run our businesses and often, if they are successful, become very wealthy as a result. As this book will explain, entrepreneurially-managed firms are the foundation for wealth and prosperity for an entire community but also for personal freedom and independence from government. Economic attitudes are often determined by one’s reactions to entrepreneurs running our firms. Some people don’t agree that we should allow people to run firms any way they like as long as they follow the law. Some people think that governments should run our businesses or at least our major businesses. Or if they don’t run them should have a major say in what they do.

These are, of course, philosophical and political issues that are absolutely part of economics when thought about in the widest sense, but are not part of what gets taught at the introductory level when starting out on economic theory. Yet this is the foundational point. Economics, as we teach it and learn it today, assumes that most of what is produced is produced by businesses independent of governments and are run by entrepreneurs for a profit. These businesses sell goods and services on a market and these goods and services are bought by consumers with money they have for the most part earned by providing either their own labour or some other input into the production of some other good or service. How this process works in detail is what the study of economic theory is about.

Say’s Law and François Hollande

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Following the discussion on L’offre crée même la demande, which are the words the French President used last week to indicate that economic policy will now follow more classical directions, and in particular adopt Say’s Law as the guide to policy, I have pulled this posting out of storage which was put up in December 2012. Having just watched the video again, I am even more astonished than I was then how accurate this is as a representation of the underlying ideas. But central to understanding Say’s Law is to understand that it is a macro concept related to how an economy works, rather than being a micro concept about individuals. In spite of everything you might have learned in a conventional economics course, Say’s Law was the foundation for understanding the classical theory of the cycle. If you want to know what causes recessions and then how to deal with them, you must understand Say’s Law.

My book, Say’s Law and the Keynesian Revolution, has been turned into a movie! John Papola, the genius behind the Keynes-Hayek Rap, has now done a movie on Say’s Law, the fundamental principle of the pre-Keynesian theory of the business cycle. Before Keynes, they knew you could have recessions but they also knew that the one thing that could never be the cause of recessions was a deficiency of demand. Too little demand relative to potential supply was a symptom, not a cause. Today all macroeconomics proclaims demand deficiency as the problem itself that must be cured. Therefore we have had one stimulus after another followed by one economic catastrophe after another. In Australia there’s the mining industry and nothing else to drive the economy forward.

To help you understand the video, here are a few bits of background to catch the full flavour of just how beautifully done this is.

John Maynard Keynes introduced the notion of aggregate demand into economic theory. Before he published his General Theory of Employment, Interest and Money in 1936, demand deficiency as a cause of recession was literally and with no exaggeration seen as a fallacy. Today, of course, his macroeconomics is the mainstream and when recessions occur the first thought in everyone’s mind is to restore demand.

Keynes took the idea of demand deficiency from Thomas Robert Malthus, a nineteenth economist who published his Principles of Political Economy in 1821. Keynes was reading Malthus’s letters to Ricardo in October 1932 which was the specific reason that he would eventually write a book on demand deficiency as the cause of recession. The entire economics fraternity refuses to accept this obvious bit of inspiration since it would make Keynes’s claims to originality not quite as honest as the great man would have liked us all to believe. But since there is general consensus that Keynes formed the idea of demand deficiency in late 1932 and there is no question whatsoever that Keynes was reading Malthus in late 1932, there is equally no doubt that the standard story as peddled by Keynes is utterly untrue.

Say’s Law, which does not get mentioned by name in the video, was called the Law of Markets during classical times. The principle was given the name Say’s Law in the 1920s but it was Jean-Baptiste Say in France and James Mill in England who together are responsible for the initial crafting of this bedrock proposition. But as a very good first approximation to its meaning, there is only a rolling momentary credit to the best short statement which was given by David Ricardo in a letter to Malthus in 1821. There he wrote:

Men err in their productions, there is no deficiency of demand.

Ricardo was trying to explain to Malthus that the recessions that followed the ending of the Napoleonic Wars in 1815 were not due to there being too much saving and therefore too little spending. It was not even spending that mattered. What had gone wrong, the same thing that is the cause of all recessions, is that the goods and services produced did not match the specific demands that people with incomes had. There were therefore unsold goods and services, but not because there was too little spending and too much saving, but because businesses had produced one set of goods (housing in the US to take the most recent example of recession) that could not be sold at prices which covered their costs. The structure of production was wrong which would inevitably, as it always does, affect credit markets as defaults became legion.

The notion that recessions were caused by not enough spending, either in 1821 or in 2012, is ridiculous. There is never a deficiency of demand, only a deficiency of purchasing power. And this is the last element you need to understand the plot of the video. What gives someone purchasing power – what makes individuals within an economy able to buy more – is more production. Producing saleable products – rising productivity – is the only means by which economies can grow and therefore, beneath it all, as Friedrich Hayek explains, there must be more investment in capital (actual productive assets not money) and more innovation which improves the technology embodied in the capital. An economy is driven by supply, never demand.

That is the message of the video. It is a piece of genius that so much can be so cleverly condensed into just over four minutes. But if you wish to understand the point, these are the things you need to know. And if you wish to know even more, there is my book as well.

This has now been posted at Quadrant Online.

L’offre crée même la demande

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In the AFR today there is an article reprinted from The Financial Times dated 19 January and written by one of the FT‘s columnists, Wolfgang Münchau. And here is the relevant para:

Last week, we heard another Frenchman, President François Hollande, proclaiming: “L’offre crée même la demande”, which translates as ‘supply actually creates its own demand’. If you want to look for the real political scandal in France today, it is not the sight of the president in a motorcycle helmet about to sneak into a Parisian apartment building. It is that official economic thinking in Paris has not progressed in 211 years.

If you want to understand the financial crisis and the subsequent recession, Say’s Law is of no help whatsoever.

What does this guy know? The Socialist President of France, who more than anything else would have liked to spend the French economy into recovery, having personally experienced the consequences of trying to use Keynesian economic policies, has concluded that economies are not driven by demand. That the writer of this article knows no better is just par for the course. All he knows is Keynes, and wrong or right, one stimulus-generated economic catastrophe after another, on he goes. But at least Hollande has finally understood what needs to be known and has embraced Say’s Law as best he understands it.

You may be sure Hollande did not do this lightly. This awareness has come as the result of the bitter fruits of experience. The stimulus packages of 2009 are today’s debt and dying economies. There will be no recovery until demand is again constituted by actual value adding supply. The article tries to explain the significance of the shift towards thinking in terms of Say’s Law, tries to explain what’s wrong with Say’s Law but discusses nothing with anything resembling economic content, and ends with this:

The third significance lies in the fact that the new consensus spans the entire mainstream political spectrum. If you live on the European continent and if you have a problem with Say’s Law, the only political parties that cater to you are the extreme left or the extreme right.

The problem remains that while they are all trying to walk away from Keynes there are no longer any guideposts on what to do since no economics text, with only a single exception that I know of, will explain the actual meaning of Say’s Law, the classical theory of the cycle and what needs to be done to generate a recovery when the economy is in recession.

Reply to a Question Asked: Stateless, free and happy asked this:

Steve, I have a simple question: Why is there only one textbook on the subject (your book)?.
The market place for ideas works rather well. So, a good idea will gain currency and there should be more than one textbook.
Can we infer that the market for ideas assigns little value in this idea and hence you are left in the wilderness?

Dear Stateless, F&H

This is a question I have also asked myself. And while the simple answer is that it goes against the overwhelming judgment of all mainstream opinion today, that only puts the same question but in a different way. And the problem I have encountered time and again is that to understand the very essence of Say’s Law all you have to do is understand that there is no such force in an economy as aggregate demand, and therefore demand cannot exist without supply, is such a difficult concept that hardly anyone can grasp it. I learned Say’s Law from John Stuart Mill and he complained that in his own time it was difficult to keep this idea straight, and at the time classical theory was the mainstream, I can only wonder that hardly anyone gets it today. But it’s worse. Keynes made acceptance of Say’s Law the equivalent of the flat earth society so that to this day no respectable economist would be caught dead saying that Say’s Law was valid. It is professional death for an economist. But because no one can lay a glove on the arguments I use, and since they are in 100% accord with the views of John Stuart Mill, I have been left this tiny patch of economic theory to keep for myself. But since no one aside from myself will ever admit they agree with Mill’s Fourth Proposition on Capital – “demand for commodities is not demand for labour” – and that is Say’s Law in seven words. If you understand what those words are trying to explain, and therefore understand that the stimulus could not possibly have led to higher growth and more jobs, then you too can be shunned by economists and your papers ignored. But Mill was right and I have done no more than repeat what he tried to explain. Where the odd part is is that I am the first person to do this since 1876.

The end of civilisation as we know it

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Civilsation as we know it is always ending. But some endings look worse than others and we are in such a new world that it is hard not to be pessimistic. What is needed to keep things turning over are disappearing at an astounding rate. This is from Victor Davis Hanson in a post he titles, The Last Generation of the West and the Thin Strand of Civilization. There have been forecasts like this before, and maybe this too will pass. But it seems to me as well that we are entering a new more barbarous world about which it is hard to be optimistic. This is how it ends, that is, this is how the article ends. You can then go back and read it all for yourself from the beginning.

What do I mean about the “thinning strand of civilization”?

A shrinking percentage of our population feeds us, finds our energy, protects us, and builds things we count on. They get up each morning to do these things, in part in quest for the good life, in part out of a sense of social obligation and basic humanity, in part because they know they will die if idle and thrive only when busy, and in part simply because “they like it.”

We can stack the deck against them with ever higher taxes, ever more regulations, ever more obligations to others, and they may well continue. But not if we also damn them as the “1%” and call them the agents of inequality and the fat cats who did not build what they built or who profited when they should not have.

You cannot expect the military to protect us, and then continually order it to reflect every aspect of postmodern American sensitivity in a risky premodern world. Filing a lawsuit to divert a river’s water to the sea during a drought is a lot easier and cleaner than welding together well-casings at sea. Last week, an off-duty armed correctional officer in Fresno intervened in a wild carjacking, shooting and killing the gang-member killer and thus limiting his carnage to one death and two woundings rather than five or six killings — at the very moment Harvey Weinstein — of guns-blazing Kill Bill and Pulp Fiction fame and profits — promised to destroy the NRA. These contrasts say everything about the premodern, the postmodern and the innocent who pay the tab in-between.

Each day when I drive to work I try to look at the surrounding communities, and count how many are working and how many of the able-bodied are not. I listen to the car radio and tally up how many stories, both in their subject matter and method of presentation, seem to preserve civilization, or how many seem to tear it down. I try to assess how many drivers stay between the lines, how many weave while texting or zoom in and out of traffic at 90mph or honk and flip off drivers.

Today, as the reader can note from the tone of this apocalyptic essay, civilization seemed to be losing.

And not a whit less momentous is this, which opens an article titled, The Humanities and Us:

In 2011, the University of California at Los Angeles decimated its English major. Such a development may seem insignificant, compared with, say, the federal takeover of health care. It is not. What happened at UCLA is part of a momentous shift in our culture that bears on our relationship to the past—and to civilization itself.

Until 2011, students majoring in English at UCLA had to take one course in Chaucer, two in Shakespeare, and one in Milton—the cornerstones of English literature. Following a revolt of the junior faculty, however, during which it was announced that Shakespeare was part of the “Empire,” UCLA junked these individual author requirements and replaced them with a mandate that all English majors take a total of three courses in the following four areas: Gender, Race, Ethnicity, Disability, and Sexuality Studies; Imperial, Transnational, and Postcolonial Studies; genre studies, interdisciplinary studies, and critical theory; or creative writing. In other words, the UCLA faculty was now officially indifferent as to whether an English major had ever read a word of Chaucer, Milton, or Shakespeare, but was determined to expose students, according to the course catalog, to “alternative rubrics of gender, sexuality, race, and class.”

Are these not barbarians? They are, and if they are, then we all are. What will pull us back from the edge this time? More high tech than before but a Dark Age coming all the same.