John Stuart Mill – Principles of Political Economy

John Stuart Mill’s Principles of Political Economy is the greatest text on economic theory ever written. It was put together over the period from 1845 till 1848 when he had come to the conclusion that it was impossible to write a book on sociology that could address all of the contradictions that exist within human life. There were no principles of human life that could be summarised in the way that could be contained within a single set of covers. He turned therefore to economics instead.

The book is, however, unreadable today, partly because of the density of his writing and partly because of the presuppositions he brings along with him. I am therefore about to write an edited version of Mill’s Principles in which I will keep Mill’s words but edit the text down to its essentials. That is still around 300 words, but even then there will be the need to include introductory passages to underline the points Mill is trying to make. And the main reason I think I can do this is because I share most of Mill’s presuppositions myself, which I had originally learned from reading his Principles at the very moment I had discovered Say’s Law for myself.

Steven Kates’s Free Market Economics 2nd ed

I was particularly pleased by Old woman of the north, blogstrop and danger mouse who saw Mill’s genius in my previous post on Mill’s Principles of Political Economy. I could not agree more with OWOTN where she wrote “What beautiful, clear English! The thought processes flow.” And so they do. And Mr Bear, Ted if I may, I just mention the book because I do think it would be an aid to governments who are sinking our economic ship. I merely translate Mill into language that is easier to read in the twenty-first century. This is my attempt to say what Mill said in that same passage. Nowhere as poetic, nowhere as deep, but hopefully getting to the same point. These are the opening paras of Chapter 3.

Value added

Possibly the most difficult area to understand about economics is one that you would think would be amongst the easiest and most commonly understood. This is the area of value and value added.

If economics were going to provide an understanding of anything, it would have to be, you would think, an understanding of what value is and where it comes from. And while economists do have such theories, they are relatively obscure and are almost never discussed at the introductory level. Value in economics is a very difficult idea.

Yet for all that, it is not possible to have a clear understanding of either economics or economic policy unless one has a reasonably clear idea about what value is and how it is created. And unless one has this reasonably clear idea about the nature of value, it is almost impossible to make judgements about almost anything done in an economy, from its very organization to the finer details of individual decisions.

That the aim of economic activity is to create value is obvious and straightforward, for all the difficulty in knowing just what value actually is. Something has value to the extent that a person is better off with it than without it. In economics we frequently say that a good or service has value if it is able to provide utility. Economic activity is aimed at providing individuals with increased levels of personal utility.

But it is also true that in almost all cases to produce something of value it is first necessary to use up some of our resources that also have value. Nothing comes from nothing. And this is where the notion of value needs to be further refined. A tonne of steel also has value, but not as a final good providing utility. It has value only as a productive input that can be used to produce the goods and services that do provide that utility. The value of such inputs is derived from the value of the final goods and services they can be used to produce. Which brings us to the crucial issue of value added.

To create value in the form of the final goods and services that provide utility is the central purpose of economic activity. In the process of creating such value, some part of the resources that exist must be used up in the process. Value added underscores what is too often forgotten, that to add value one must also at the same time destroy value. The word ‘added’ is there to remind us that we have also had to subtract the resources used up in producing whatever has now been brought into existence. Value added is thus the net result of using up various resources which already have value, to create other products that have even more value.

It is only if the value of the products newly produced is greater than the value of the resources used up that value adding has occurred. Economic growth is the way we normally discuss value adding activities. They are one and the same. The value of output must exceed the value of the inputs used up if economic growth across an economy is to occur.

My advice is to read Mill if you can. But if you would like a modern version, then you will need to read this.

A skill testing question in economics from 1886

The mail has just brought me my own copy of Simon Newcomb’s great 1886 economics text, Principles of Political Economy. Just for fun, I offer you one of the questions at the end of one of the chapters that no modern student of economics ever gets asked or would likely have a ready answer to.

Trace the economic effect of the frugal New England population putting their money into savings banks. What do savings really consist in?

Even the notion of a frugal population is pretty antique. But all the difference in the world lies in the answer to that question.

Say’s Law and the failure of Keynesian economics

I am very happy to say that the best paper I have ever written was just yesterday accepted for publication. It’s on John Stuart Mill’s Fourth Proposition on Capital which he published as part of his Principles of Political Economy in 1848. In his own lifetime it was never challenged. Leslie Stephen (who incidentally was Virginia Wolf’s father) described it in 1876 as “the best test of a sound economist”. And yet by 1890 and ever since, although some of the great minds of economics have had a go at it, no one has been able to make straightforward sense of what Mill had meant. And when I say some of the great minds of economics, I am including Alfred Marshall, Friedrich Hayek and Allyn Young.

I should also add that understanding Mill may be amongst the most important issues of our time. Keynesian economic theory, which argues the exact opposite of what Mill had written, has had a devastating effect on every economy in which a Keynesian policy has been applied. Our economies are sinking under the weight of useless public spending and misdirected expenditures under the delusion that such spending will actually do us some good. Mill and every one of his classical contemporaries perfectly well understood that wasteful non-value-adding spending would not only do no good, it would actually do positive harm.

So what was this Fourth Proposition. It may not look all that formidable but in it there lies a truth that may yet save our economies. What Mill wrote was this: “Demand for commodities is not demand for labour.” Or restated using the jargon of today: an increase in aggregate demand will not lead to an increase in employment. The principle stated here is the classical pre-Keynesian meaning of Say’s Law, which has vanished from amongst economists and been replaced by the Keynesian theory which had been specifically designed to refute Say.

For me, the disastrous outcome of the application of Keynesian policies was a certainty. It was beyond any doubt in my mind that the stimulus would not just fail but bring ruin in its wake. I put my views into print in February 2009 just as the stimulus programs were being put into place and my five-year review was published in March this year. In 2009 it was mostly just theory although there had been plenty of Keynesian failures before that. By 2014, the evidence has become so overwhelming that there should no longer be the slightest doubt that a Keynesian stimulus will sink your economy into a coma and leave it that way for years on end. If you want to know why, you can read Mill, or if you find a thousand pages of mid-nineteenth century prose a bit on the heavy duty side, you can read this instead.