Saturday, February 13, 2016

Say's Law

The convolutions of economics, cranks, and class.

The class war has deep roots, and is fought on many fields, in many guises. One of the most interesting and influential is the field of economic theory, which as Paul Krugman persistently points out, has undergone startling episodes of battle, tide turning, and forgetting over the last century. One battle is over the meaning, interpretation, and validity of Say's law.

Enunciated by Jean Baptiste Say, who lived through the French revolution as an economist and businessman, and founded the first business school, the law states that production calls forth demand. If an excess of some good is produced, someone is sure to want it, at some price. More importantly, in general, if production in an economy increases, that production will be eagerly sold by its producers and bought by someone, even if the price might be less than expected. For instance, if a technological change makes it much cheaper to make computer memory, demand for that memory is sure to materialize, even as its cost and price go down. And if productivity decreases the prices of many goods, that allows consumers to buy more of other things, and have higher living standards. To some degree, this law makes assumptions about human psychology- that entrepreneurs meet a market, and that prices provide the flexible mechanism to bring supply and demand into agreement, pretty much at all times.

Unfortunately, Maynard Keynes claimed by the 1930's that Say's law was invalid. Then classical-minded economists tried to reclaim its validity by the 1950's and the debate has proceeded onwards, though mainstream economists give it little explicit credence these days. Its significance lies in the issue that if one grants that production can occasionally and on a wide scale be glutted, or demand be deficient in aggregate, that opens the door to solutions that come from elsewhere than the free, unfettered market- i.e the state as a manager of the macroeconomy. And this causes ideological heartburn to many on the right.

The Great Depression was an obvious case in point. Why did economic activity grind to a virtual standstill? The people still had the same needs they had before, and the skills, factories, and materials were the same as well. Yet a plague of unemployment and, frankly, deficient demand ripped through the economy causing misery for millions. Conventionally-minded economists, called "liquidationists" maintained that the financial fever would quickly work itself out if all businessmen cut their costs to meet the new (lower) demand, and if workers accepted the lower wages that they deserved given the reduced business conditions. A new equilibrium would be found at a new, if lower, level. Indeed, they argued that it was the perverse reluctance of workers to accept lower wages that led to the whole problem, preventing a new equilibrium from being achieved rapidly.

But we need to go back a step to the start of the process. How is it that business conditions could deteriorate so dramatically in the first place, if production always calls forth appropriate demand? Keynes didn't dispute that a supply-demand equilibrium, particularly of labor, would eventually be achieved, in the long run. But when? His quip was that in the long run, we are all dead. An event like the Depression, caused by a dramatic collapse of the financial system which drained wealth, consumption and investment, and thus effective demand out of a system whose actual, human demand was unchanged caused unprecedented misery, though milder depressions were common enough through economic history. This misery is prima facie evidence that Say's law is invalid in the short term in macroeconomic terms. Demand can be dramatically deficient, especially in modern economies with enormous financial superstructures whence investment and credit flow (or don't flow).

So why the continuing discussion? There are strong ideological forces at work. The Mises, Rand, Hayek, Austrian wing of the right, seeing themselves as the last pillars of human freedom, find it hard to accept that, into this breach of deficient demand should step the only actor with the wherewithal to do so: the state. Not only that, but the amelioration of the misery of the working class (though also the much more modest misery of the business class) by way of public works and other forms of macroeconomic management, (even including the printing of paper money in place of proper gold!), reduces the power of the employer class. Which is certainly relevant to the class war. This attitude is ironic, if one defines human freedom as the freedom of most humans, but that is how the class war works. It is the freedom of the upper, employer, feudal overlord class that concerns the Austrians and conservatives, not that of the workers who are dependent upon them. Under this system of thought, there can be no such thing as involuntary unemployment, there being always some work somewhere at some wage, for the worker willing to take it. If only workers were willing to be paid pittances, everyone could be happy!

Thus one gets quotes like: "The short answer is that there is still need and place to assert Say's Law whever anybody is foolish enough to deny it. It is itself, to repeat, essentially a negative than a positive proposition. It is essentially the rejection of a fallacy. It states that a general overproduction of all commodities is not possible. And that is all, basically, that it is intended to assert." - Henry Hazlitt, "The Failure of the 'New Economics'", 1959. Hazlitt's book is little more than a screed, but can still be found in my local library, proudly placed right next to Keynes' general theory, a sign of the seriousness with which it once was taken, and perhaps is, in some quarters.

Say's law was reflected more recently in the ideology of supply side economics, whose contention was that prosperity arises from unleashing job creators from taxes, regulation, unions, and other obstacles, so that production can increase and the benefits trickle down to everyone. Subsequent history has not been kind to this theory either, yet it remains the cornerstone of Republican platforms in this year's campaign, for obvious reasons of the class war.

Unfortunately, Keynes had an even deeper insight about Say's law, which was that even if the employers had their way, and reduced worker wages and positions as rapidly as they liked to bring their businesses back into equilibrium with demand, they would not, on a macroeconomic basis, be successful any more rapidly. As wages sank, so would demand, since over the whole economy, income equals demand minus savings. As income heads south in a massive depression, so would demand, in a downward spiral whose limit is reached when something changes in this dynamic- when money comes out of mattresses for consumption and capitalists eat into savings, setting a floor for demand, given the (reduced) stocks of money available.

How much more civilized if the demand can be made up before all the parties are reduced to extremis- if the state steps in with a tool kit that can include public works, tax cuts, reduced interest rates, and all the money required to make it happen, when the private financial system goes through one of its regular collapses. But that requires a state with great technical and moral resources. That was the work of the New Deal and the Greatest Generation, who not only won World War 2, but demonstrated in doing so that the state could dramatically re-establish demand through the economy and keep it going through efforts like building the interstate highway system and winning the Cold War.

One can argue whether the prosperity of that era was due to tremendous technological advances, the artifical demands generated by wars hot and cold, and / or the newly installed Keynesian macroeconomic management. But its wide demographic distribution was a matter of the power of workers, which was aided at the time by strong unionization and the Keynesian economic policy. These conditions required some decency on the part of the elite, to recognize their choice between reform and revolution.

The US has always been run by a rich elite, from the founding onwards. The question is whether these elites work for all, as Washington and FDR did, or for themselves, as the slaveholders did who wrote the evil lines into our constitution which took so much blood to expunge. The retreat and even forgetting of Keynes, under the assault from Milton Friedman, the Chicago school, and other ideologues of the right, which has resulted in the withering of the position of workers and the vast inequality seen today, results from a callous and short-sighted (not to mention corrupted) elite culture, mostly on the right, whose current candidates to a man (and woman) promote the interests of the rich in the most blatant ways, such as planning big federal deficits to give them money through the tax system.

So, we have to ask what is the point of freedom, and of the economic system. Governments are certainly capable of destroying freedom in a quest for economic and moral perfection (and power). At the same time an unfettered, unregulated capitalistic system destroys the freedom of its workers just as surely, ending up in feudalism. Predators are on every side. Say's law and the other ideological structures of classical and right-wing economics hide a presumption in favor of the capitalist, championing the freedom of the 1% while treating labor as a faceless, disposable commodity. We need a middle way, as exemplified by the mid-20th century compromise, and indeed the social democracies of Europe, where the democratic state acts as the balance-wheel to promote the freedom of all classes in rough proportion, as well as their prosperity.

"Twitter chatter aside, when it comes to judging who's more progressive than who, political scientists have an app for that—at least for those who've served in Congress, as Sanders and Clinton both have. It's the DW-Nominate first dimension, scaled from +1 to -1, which explains the lion's share of how members vote. For the two years when they served in the Senate together, Sanders had a score of -.717, making him far and away the most liberal member. Number two, Sheldon Whitehouse had a score of -.507, while number 15, Hillary Clinton had a score of -.403. The difference between Sanders' score and Clinton's was greater than the difference between Clinton and Evan Bayh, the second-most conservative member of the Democratic caucus at the time. So in short, the difference between them in terms of who is most progressive is both objective and huge."
  • For instance, the Fed and Bernie Sanders.

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