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Say's Law and stimulus spending

    Recently, in the course of comparing the economies of the United States and United Kingdom, Ryan Bourne and Tim Knox noted that Brits “are still consuming and borrowing too much relative to our saving and production.” The questions of how to encourage saving, and thus capital formation, and conversely to stem the tide of ever-swelling debt at both the consumer and government levels beleaguers both the US and the UK. To make matters worse, merely raising these issues in the public forum now marks one as a kind of outré brand of reactionary, raging against the orthodox view that government can and should adjust the economy. There is, however, a major defect underlying the orthodoxy of Keynesian stimulus thinking, the facially appealing notion that an influx of government money will act as a lubricant to overall economic activity. The idea that the state can act innocuously as repairman or engineer in its interventions in the economic sphere is itself a dangerous inanity. In their article, Bourne and Knox demonstrate the inadequacy of employing the example of the United States under the Obama government in an attempt to hold that the United Kingdom ought to follow suit. In spite of all the spirited attempts for American government authorities to “cook the books,” to make the US economy appear more healthy than it is, the numbers nevertheless don’t add up. For that reason, it may prove instructive to examine briefly the fallacies in theory that seem to give credence to President Obama’s big government policies. Adulation of Keynes, in particular, can explain much of the picture of current economic policy in both the US and the UK.

    Perhaps part of what has made Keynes’ view so appealing — that is, apart from a general aggrandizement of the state — is the manner of its critique of classical economics, beginning with the assertion that the classical theory assumed a “special case,” “unlike the economic society in which we actually live.” And that is true enough, as far as it goes; indeed it was acknowledged as such by the able economists who antedated Keynes and had already dealt with his most celebrated arguments. Keynes, however, seems to have talked right past the classical economists. The theories of Ricardo, Smith and their ilk, he contested, both assumed and argued for a particular set of conditions, for laissez faire, as it were, their basic precepts holding true within the particular framework that they erected in their arguments, but not in the “general case.” Keynes strenuously attacked, for instance, Say’s Law, a rather broad thesis on the problem of, as it was called in Say’s time, the “general glut,” which is said to occur when production outruns and exceeds a debilitated demand which cannot absorb it. In the economic vernacular, Say’s law is often formulated as the idiom “supply creates its own demand,” which, defined with such clumsy imprecision, must of course be wholly untrue or else too flawed to be of any use.

    But as economist Steven Horwitz teaches, rather than addressing our analyses to a one dimensional caricature of Say’s law of markets (which he notes is actually more “an explanatory principle” than a law), we would do better to “consult what Say himself had to say about his supposed law.” As a matter of course, Say was not suggesting that the production of a particular good should necessary be met by a market demanding it, that by some kind of arcane alchemy anything one felt like putting to market would be enthusiastically snatched up. On the contrary, Say’s work revered production over consumption precisely because he recognized that a myopic emphasis on the latter had things quite backward analytically. He understood well that, even to his pre-Keynesian audience (we shall see that Keynes’ thinking and its fallacies were nowise new[1]), his conclusion “may at first sight appear paradoxical.” Say demonstrated that it is the creation of products, out of which arises their purchase on the market, that in fact “opens a vent for other products.” Even still, as Henry Hazlitt has observed and whether Keynes admitted it or not, the classical economists fully understood that, in some kind of a perfect form, Say’s Law was “true only under what today would be called conditions of equilibrium,” that is, in the “special case.” Say, however, was astute enough to appreciate that “the avarice or ignorance of [political] authority” could indeed create or aggravate a glut, a phenomenon naturally attended by the other side of the same coin, artificial scarcity.

    Similarly he understood and had observed himself the possibility of economic downturns, of less than full employment, and of capital lying idle (Keynes’ “hoarding”). The supposed perfect form of Say’s Law, then, the caricature, was never the form that he or those who followed him sought to present. When John Stuart Mill offered a more nuanced statement of Say’s Law in 1848, he could have been describing Keynes himself in commenting on the mistake of assuming “large consumption” “to be the great condition of prosperity.” To Mill, as it was to Say, this was to fundamentally reverse cause and effect. Mill was not impressed or overawed with the contentions of the big government apostles of his day, grasping the true nature of the problem as misallocation. “[T]here is,” Mill writes, “no over-production; production is not excessive, but merely ill assorted” (emphasis added). In a letter to Malthus, Ricardo likewise wrote, “Men err in their productions, there is no deficiency in demand.” We might wonder, then, what the principle factors contributing to the referenced errors in production are, that is, what causes resources to accumulate in wastes and inefficiencies.

    Keynesians hope to shore up consumption (against perceived over-production) without actually adding anything of value to the economy — either fiscally, by spilling taxpayer money into, for example, infrastructure projects, or monetarily, by exerting the printing press. In either case, nothing has actually been produced, and the economic malady which it is the object of the policies to remedy is ultimately only exacerbated. Taxpayer-funded projects are, needless to say, financed by either the basest form of theft, taxation, or else by the deepening of government debt, which is practically the same as the first in its robbery of future generations. And monetary stimulus, the manufactured expansion of the state’s fiat currency, is no less a tax; it dilutes the monies already in circulation and grants to the first-in-time beneficiary of the counterfeit currency a most unjust and pernicious advantage. The full, parasitic apotheosis of robust Keynesianism would mean ruinous inflation and rampant malinvestment. We see the portent of such a conclusion today. The economy — as if it could be regarded as a kind of unitary machine — is simply not a thing susceptible to calibration or tweaking, a “fatal conceit” if ever there was one. Attempts to treat economic infirmities with fiscal and monetary intervention, even if we assume good intentions, can only further interrupt the free market’s price signals and misdirect resources into activities that by definition the market would not choose.

    It is worthwhile to note at this juncture that Keynes theoretical system was just as delicately created, just as bound by the particulars of his assumptions, as the classical ideas he embarked to replace. In his review of Keynes’ magnum opus, Frank H. Knight pointed out correctly that the empirical predicates providing the foundation for Keynes’ theory were not “open to direction observation.” Therefore, “the conclusion,” Knight said, “must be that [Keynes’] belief is based on a deduction from the principles of his ‘system,’ — just the crime of which he accuses the classical writers in connection with the contrary conviction.” Keynes’ bankrupt dismissal of the truth contained in Say’s Law, that in Mill’s words “consumption never needs encouragement,” calls attention to the importance of theory in economics. The notion that we could ever possess data sufficient to plan the economy or create stable equilibrium through government is a utopian castle in the clouds. Lacking such an ability, we must fall back on theory and sound principles, of which Say’s Law, properly understood, is one.


    [1] To this point, Ludwig von Mises writes, “The policies he advocated were precisely those which almost all governments, including the British, had already adopted many years before his ‘General Theory’ was published. Keynes was not an innovator and champion of new methods of managing economic affairs. His contribution consisted rather in providing an apparent justification for the policies which were popular with those in power in spite of the fact that all economists viewed them as disastrous.”

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