21.12.2003

A Logical Vacuum

Reading notes on

Walter Stanners

Abstract: When Pigou vigorously attacked Keynes immediately the General Theory was published, he wrote that, “since a detailed running commentary would be both tedious and un-illuminating, I shall not adopt that method”. These reading notes follow precisely this tedious route. The truth cannot always be entertaining. Keynes was one of the most fluent and plausible rhetoricians of his age, and it could be argued that his work can be examined only by dismantling his rhetoric line by line to expose the total logical vacuum which in cold objective fact the General Theory is.

Keynes’ book was seemingly written at speed, contains no bibliography, virtually no mention of factual data, little evidence, pseudo-algebra only for appearances, no attempt at anything which could be called scientific method. His acknowledged greatness lay in his cleverness, and his great skill as a debater, negotiator, journalist, and politician, not at all in his ability or interest in searching out the truth. His “theory” is presented in terms of mechanistic cause-and-effect models of economic society, but quite demonstrably, these models are based on nothing but the repetitious re-statement of Keynes’s prior and evidence-free conviction that the cure for unemployment and recession is to stimulate spending, any spending, useful or useless, either by individuals or by governments. Keynes used every rhetorical trick imaginable to hide the empty centre of his work, from “as I shall show … ” onwards. His mainstay, as Pigou remarked, was a deliberate lack of precision and clarity. The great sociological mystery is – how did this transparently fact-free “theory” sweep everything before it?

Preamble

The General Theory of Employment Interest and Money (1973 edition, first published 1936)

Having read and made notes on Keynes’s “The General Theory of Employment Interest and Money”, I had vague thoughts that the notes might furnish part of the material for a book.

But on re-reading the notes, it occurred to me that the message of the notes might in fact be transmissible only in the form they are in. When Pigou attacked Keynes immediately the General Theory was published, he wrote that, “since a detailed running commentary would be both tedious and un-illuminating, I shall not adopt that method”. What he expressed, I think, is the dilemma that, faced with one of the most fluent and plausible rhetoricians of his age, he would be lost if he replied in a tedious way. It was a fight for an audience, not a fight for truth. I imagine it is conceivable (I have not the means to establish it one way or the other) that virtually all of the commentary on Keynes in the last 60 years has taken place in this literary manner of appealing to the audience. My notes form exactly the tedious running commentary that Pigou could not afford to make. My career is not at stake. The internet enables me to reach the perhaps tiny minority of readers who may find illumination in a factual, word-by-word, line-by-line, and tedious, exposure of the total logical vacuum which in cold objective fact the General Theory is.

The General Theory, both what it is, and the text in which it is presented, is a great sociological mystery. Here is a book seemingly written at speed, given to the printers, and, judging by the internal evidence, not revised. It contains no bibliography. Others are mentioned, and if they are of any eminence, usually dismissed. There is virtually no presentation or mention of numerical or factual data, no discussion of whether the real evidence supports or does not support his vague and changing musings. Algebra is occasionally strewn in the text, but only for appearances – functions are sloppily defined and then never again mentioned. Although his disciples almost immediately turned his “theories” into graphs, his own book has none, except one borrowed from Harrod. There is not a single page in which a process of thought follows to the end what might be called a scientific method, i.e., one in which a hypothesis is tested again and again against real-world information, the process which Popper called “falsification”.

Keynes was, of course, one of the ablest and cleverest of his time. The blurb of my (1973) edition of his book charts his meteoric progress in the public service, towards becoming “a national figure, in the centre of every economic argument”. My contention would be that his acknowledged greatness lay in his cleverness, his great skill as a debater, negotiator, journalist, and politician, not at all in his ability or interest in searching out the truth. Indeed, it often crossed my mind while trying to trace the structure of the book, that it read like a sequence of unpublished newspaper articles, or perhaps highly complex and academic-sounding draft bases for newspaper articles.

Does the criticism of his being unscientific matter, given that it could be made of any number of towering historical figures? Yes it does, because these figures were signed-up full-time rhetoricians, i.e., leaders, conquerors, philosophers, poets, explorers. For all of them a mere list of facts would be boring. If Keynes is judged as being squarely in this pantheon of leaders of men, there can be no criticism. But Keynes was not musing cleverly about the quality of beauty, or the merits of adding Afghanistan to the Empire. His “theory” is presented as a mechanistic model (or rather models, since there are several) of economic society, models in which he identifies trains of levers, linkages and pistons, action and reaction, cause and effect, illness and cure, and his opponents are presented as people whose notions on those mechanisms were untrue. And these model-descriptions, in spite of the hugely clever deployment of rhetorical smoke and mirrors, are in the end demonstrably based on nothing but the repetitious statement and re-statement of Keynes’s prior, evidence-free, convictions.

The “general theory” is in fact nothing more than a slightly complicated but flat statement of his main evidence-free conviction, namely that supply (national output) will inevitably follow demand, and that therefore the cure for unemployment and recession is to stimulate spending, any spending, useful or useless, either by individuals or by governments. Presumably, merely to say that would stir little interest, so a way had to be found to say it over and over again, laced by turns with impenetrable jargon-laden mechanistic stories, and with wonderful and crystal-clear purple passages about building pyramids and cathedrals, the whole totally devoid of coherent step-by-step logical argument.

Keynes, presumably unconsciously, deployed every rhetorical trick imaginable. “As I shall show”, and “as I have shown”, are liberally used, when no page reference is given and no trace of the alleged “showing” is apparent. “Let us assume” is frequently used, the assumption being forgotten when the conclusion which follows from it is treated as a now-established fact. “We assume as a first approximation” is never followed by a better approximation. An argument starts with a whole barrage of “perhaps” and “possibly” and “maybe”, but as the desired conclusion comes into sight, the language changes to stout assertion. He shamelessly tells his readers on one page that the “general” of his “general theory” has a certain connotation, and two pages later gives a totally different one. In reality it was almost certainly simply taken over from Einstein, who famously had a general (1915) and a special (1905) theory of relativity. Having established to his own satisfaction that cause A gives rise to effect B, he is capable within a few lines of - not stating - but writing as if, cause B gives rise to effect A, this without the least mention or acknowledgement. This is precisely how his famous, but in scientific terms absurd, multiplier is derived. Finally, and as Pigou also remarked, Keynes uses the tactic which is in constant use by honest and successful politicians and journalists – do not be too clear. A clear statement is open to clear demolition. So Keynes writes about employment, interest, and money (and capital, investment, saving, liquidity, and various propensities) without ever descending to tedious definitions of what he means by those common words in any given context.

The great “sociological mystery” I mentioned above is – how did this transparently fact-free “theory” sweep away the “classical” Marshalls and Pigous (both Cambridge colleagues of Keynes, the first and second professors of economics) and dominate economic and political rhetoric for 30 years, and even thereafter become the subject of assimilation into and reconciliation with initially opposing theories? A glib answer might be that the existence of C. P. Snow’s two cultures, with Keynes and all of his huge audience firmly on the humanist side, ensured that none of the (I guess) rather few people who really read and closely studied the general theory were scientists, i.e., people used to the logical process of inference as to the mechanistic working of real observed systems. And if by any chance they were, nobody would listen to them. A telling reason for preferring the answer that I simply do not know, is that bafflement as to the ascendancy of Keynes is accompanied by an immeasurably greater bafflement as to the incomprehensible shift in the outlook of the whole western world which took place in the World War II “Keynesian years”, say from 1935 to 1960, illustrated by the total dissimilarity of those years from the World War I period of say 1910 to 1935. Maybe Keynes just happened to fit in with this Zeitgeist. Surely it would be too much to say that he caused it!

Bookmarks

The original Word-document “bookmarks” of the reading notes are given here, converted into “links”, to serve as a list of contents.

1 a_contemptuous_lack_of_honesty
2 A_defence_of_boringness
3 A_fact_which_is_not_a_fact
4 a_fraudulent_investigation
5 a_matter_of_mst_fundamental_significance
6 a_ripe_example_of_obfuscation_mode
7 After_the_END_the_BEGINNING
8 ANIMAL_SPIRITS
9 Appendix_on_Marshall_et_al
10 Bertrand_Russell_on_JMK
11 BkII_Definitions
12 BkIV_Inducement_to_invest
13 Blindness_to_technology
14 brief_summary_of_the_GTE
15 catalogue_of_Pigous_criticisms
16 Ch10_the_multiplier
17 Ch11_Marginal_efficiency_of_capital
18 Ch12_State_of_longterm_expectations
19 Ch13_Gen_Theory_of_Rate_of_Interest
20 Ch14_Classical_Theory_of_Interest
21 Ch15_Psych_incentives_to_liquidity
22 Ch16_Observations_on_Capital
23 Ch17_Essential_Props_of_Intrst_and_money
24 Ch18_General_Theory_Re_stated
25 Ch24_Concluding_notes_on_philosophy
26 Ch6_defn_of_income_saving_investment
27 ch7_saving_and_investment
28 Ch8_Propensity_to_Consume_objective_facs
29 Ch9_propensity_to_consume_subjectve_facs
30 Chap4_UNITS
31 Chap5_Expectation
32 confusion_upon_confusion
33 cynical_manipulation
34 diversion_to_Edgeworth_and_Malthus
35 EFFECTIVE_DEMAND
36 effective_demand_again
37 ESSAY_continuing_sceptical_train_of_th
38 ESSAY_on_demand_and_supply_and_price
39 ESSAY_ON_LIQUIDITY_AND_IS_LM
40 ESSAY_on_the_Multiplier
41 ESSAY_on_the_tautology_involved_in_savin
42 extraordinary_plea
43 GT_Summaries_one_two_and_three
44 Harrods_diagram
45 here
46 Hicks_paper_of_1937
47 incomprehensible_sentence
48 Interest_and_IS_LM
49 Involuntary_unemployment
50 JMK_on_income
51 JMK_on_Saving_and_investment
52 JMKs_ridiculous_account_of_Keynesianism
53 Keynes_Magic_Table
54 Long_essay_cum_review_starts_here
55 Malthus_anticipates_Stanners
56 MONEY_MATTERS
57 My_better_formulation_of_Keynes
58 one_para_Chap_1
59 Prefaces
60 propensity_to_consume
61 sample_of_Edgeworths_Psychics
62 speed_to_liquidity_cannot_BE_liquidity
63 Stealth_wage_reductions
64 strange_failure_to_argue_his_main_point
65 tautology_involved_in_savings_inv
66 THE_BIG_DISCOVERY
67 the_Dependent_variables
68 the_end_of_history
69 the_famous_section_vi
70 The_given_or_slow_changing
71 the_Independent_or_fast_changing
72 the_Malthus_optimum
73 the_Malthus_optimum_again
74 the_marginal_efficiencies_joke
75 the_most_incoherent_rambling_passage
76 The_multiplier_joke_begins
77 The_multplier_rigmarole
78 the_nadir_of_empty_polemic
79 The_non_Keynesian_Keynes
80 The_real_JMK_and_the_real_opponents
81 the_smell_of_the_study
82 The_Stanners_theory_of_labour_market
83 The_Stanners_theory_of_money_market
84 the_substance_of_GTE
85 the_thoughts_of_Alfred_Pigou
86 time_lag
87 wooze_and_flooze
88 WS_essay_on_unemployment

Reading notes

15.10.96

Chap 1 Preliminaries

At once (4th sentence of Keynes’ preface) I find a good citation:--

“If orthodox economics is at fault, the error is to be found not in the superstructure, which has been erected with great care for logical consistency, but in the lack of clearness and of generality in the premisses”.

I fear, however, that Keynes thinks he is going to repair this error, whereas I believe that a closer look at the foundations will reveal that they are irremediably faulty. He says later, in an equally eternally valid quote:--

“The general public ... are only eavesdroppers at an attempt by an economist [the author, Keynes] to bring to an issue the deep divergences of opinion between fellow economists which have almost destroyed the practical influence of economic theory”.

Only in my experience, the general public are more than able, in spite of this patrician dismissal, to see much more readily than economists that their attempts at explanation and understanding are hopelessly doomed to failure.

Keynes begins by stating that pre-Keynes economics is a special case of his general theory. I think that the inclusion of the phrase “General Theory” in the title, and the contrast with the “special theory” here, was a pot-boiling borrowing from Einstein. This incidentally is the one-para Chap 1 of the book.

Chap 2 The postulates of Classical Economics

Involuntary unemployment

Keynes usefully states what I don’t remember anyone else stating so saliently, namely that classical economics was about the distribution of resources and rewards for a given “pot” of resources. He goes on immediately to say that he is advancing on this, because he is going to consider involuntary unemployment. But in my view, this is a minor matter, illustrating Keynes’s blindness to technology and his susceptibility to the news-values of his day, because rising output is not primarily dependent on a few people getting more work, but on advances in knowledge.

He summarises classical theory of employment in two “fundamental postulates”:--

1. One wage equals the value of resulting increase in product.

2. The “utility” of one wage to the worker equals the “disutility” of his doing without the wage.

So, in spite of Keynes’s recognition of the “lack of clearness in the premisses”, he is off immediately, without the slightest preparatory cough, with highly unclear concepts such as utility and disutility. Also he makes no attempt to show why this off-hand choice of only two relatively axiomatic statements – definitional observations rather than postulates - out of the dozen that could be made, can be claimed to be fundamental.

He usefully distinguishes between voluntary unemployment (I do not want to work at all, or at the wage being offered), and frictional unemployment (I want to work but because of delays due to this and that I am unavoidably and temporarily unemployed), and involuntary unemployment (which he says the classicists ignored and which he is now going to define). I think he means people ready to work at less than the current wage, but who find there are no jobs. He says the classicist responds by saying that the work force as a whole has pre-decided that the really economically justified (lower) rate is not acceptable. This really means that incumbent workers use the power of incumbency to force wages up.

Keynes then makes the striking (“sticky wages”) observation that if a worker is told “today I will start paying you 1% less”, he will make trouble, but if there is an overnight price shift of +1%, giving the same real effect, the worker will feel no need for immediate action. I suppose in one case the worker immediately identifies the hurt and the culprit, in the other both are only vaguely discerned. Also, as Keynes says later on, in one case it is my or our relative wage cut, thus invoking the WHY ME? factor, whereas in the other, it is everybody’s.

Now follows a quote from Keynes which condemns him beyond appeal as a journalist:--

Talking of the US in 1932:--

“wide variations are experienced in the volume of employment without any apparent change either in the minimum real demands of labour or in its productivity.”

Well, OK, productivity can hardly vary markedly in the space of a year, but a) what can he know about the real wage demands of US labour in 1932, and b) the question was not has labour’s real wage requirement changed, but has it changed downwards ENOUGH, given the crisis of the depression. So it is not enough for Keynes to say “labour is not more truculent in the depression - far from it”, when what is alleged by his opponents is that it was not sufficiently less truculent.

Although Keynes’s verbal juggling with real and nominal wages, and with the asymmetry of reactions to money and inflation-driven decreases in real wages may be hard to follow, the question he raises is clear enough. Given that workers can cure involuntary unemployment by reducing their real wages, is there in fact ANY way they can bring this about by wage-bargaining, which is necessarily about NOMINAL wages? Keynes apparently does not pause to wonder whether workers WANT to reduce unemployment. Why should they?

16.10.96 p14

Keynes’s thesis is that wage bargaining is about money wages, whereas postulate 2 is about real utilities and disutilities. There may therefore be no way for the bargaining process to reach equilibrium - a very perceptive point, but it is not clear how useful it is, given that there are many factors opposing equilibrium. Wage bargaining really determines the relative distribution among the factors of production of the total cake. The size of the cake is determined by other forces, which Keynes says he will later elucidate (this has not been detected by me!).

He defines the involuntary unemployed as those who would be taken into employment if there was an upward step change in inflation, i.e. a downward step change in real wages. He says this is in opposition to classical economists, who deny there is such a thing as INVOLUNTARY UNEMPLOYMENT, but I don’t see this. The classicists are saying the unemployed voluntarily REFUSE to accept lower wages, Keynes is saying that people in work REFUSE to lower their existing wages to the level they would in fact accept if caused by an external inflation, i.e., by a factor which acts across the board, so the unemployed are involuntarily unemployed. He then exculpates the in-work workers by saying that, because of the difference between negotiated nominal wages and postulate 2 real wages, there is no market mechanism to achieve balance. It is important to note that Keynes is saying (I think) that if there was no inflation, his quarrel with classicists would disappear.

Now Keynes p18 goes on to Say’s law, and Marshall’s EARLY belief that all money is spent (unless it is under the bed), both of which I believe are tautologies, but apparently Keynes thinks we are all wrong. He says that the later Marshall of the Principles, Pigou and all other economists up to 1936 have stopped SAYING this, but still base their work on theories for which this is a premise. He says Marshall became cautious and evasive, but did not recant. At this point, I feel that Keynes is either a genius or an idiot, but read on. He states:--

A Undoubtedly true:--

Aggregate income from production=aggregate value of output from production

B Not necessarily true (so in fact never exactly true):--

Aggregate proceeds of sales “resulting from demand”=aggregate costs of output

A Undoubtedly true:--

Aggregate increment to the wealth of individuals=aggregate increment to the wealth of the community

B Not necessarily true (so in fact never exactly true):--

Aggregate interest on savings=aggregate increment to the wealth of the community

Or alternatively:--

Aggregate saving=aggregate investment

Those who believe B are “deceived by an optical illusion”, and from those beliefs flow the classicists notions:--

-- thrift is good

-- what causes unemployment

-- quantity theory of money

-- free trade

-- “and much else”

Note added later:-- Keynes’s thesis is largely contradicted by later experience. He talks as if workers are on the whole incapable of perceiving and reacting to inflation, that they resist real wage cuts when effected by nominal wage cuts but not when effected by general inflation. However, we are all capable of learning, given enough time, and later generations of workers obviously did learn.

Digressions and trivialities

Now let’s go back to where Keynes first uses the word demand. (Note added later:-- Keynes makes no attempt to define or discuss demand.) In the preface, he mentions in passing “the general theory of supply and demand”, and later in passing, the “interaction of supply and demand”.

In Ch2, he talks more or less in passing of “a want of balance between the relative quantities of specialised resources as a result of miscalculation or intermittent demand”. More substantively, he says that postulate 1 (on wages of work) gives the classical demand schedule, postulate 2 (on disutility of work) the supply schedule of employment. However, this is still merely quoting others. Another passing quote from classicists follows. He then uses demand in his own voice, But in a different sense! “The demand of (my italics) labour is for a minimum money wage and not for a minimum real wage”. This is the normal English use, meaning “emphatic request”!

Interjection:-- The world of economic activity is far too complex for ANYONE to understand. This allows the cleverest economists to describe a world in terms of a picture which they and their colleagues understand, but which is too complex for ANY BYSTANDER to understand, while still inevitably much too simple to account for the economic evolution of the real world. The clever economist achieves eminence, not by being right, but by emerging as the undefeated champion, by his ability to PUT DOWN the criticisms of any learned objector.

Thought:-- Keynes attacks Pigou’s Theory of Unemployment rather violently. Was Pigou alive and well at this time - 1936? Answer - Keynes 1883-1946, Pigou 1877-1959. Pigou in Palgrave is credited in 1913 with attributing unemployment to “trade union intransigence and minimum wage laws”!!!! Palgrave also records that Keynes and Pigou were quite good friends.

He then p17 stresses that he has no quarrel with postulate 1. His footnote explains that this entails that FOR A GIVEN INSTALLATION (wheatfield for example!) one extra worker MUST mean less TOTAL wage bill and more owner profit, i.e., the existing workforce not only have to pay for the newcomer, but also make a contribution to profits. This is a consequence of diminishing returns, which in turn means diminishing wage.

So the great iconoclast Keynes, presumably not to have war on too many fronts, is saying that it is a cast iron and unbreakable rule, based on the absurd schoolboy algebra of the footnote, that owners MUST take more profit when another worker is employed, and the existing workforce MUST pay this as well as the new worker’s wages!

Be that as it may, says he, although unemployment may thus be due to existing workers GETTING too much, this does NOT mean, as classicists say, that they are DEMANDING too much, NOR that if they voluntarily took less, this would result in the employment of the unemployed (but we must read on to Ch19 to find out why). In other words, not only are there involuntarily unemployed, there are also employed workers who are involutarily overpaid!

17.10.96 p23

Chap 3 The Principle of effective Demand

It is important to note that Keynes never says what “demand” is (and I am not aware that any economist ever has), and never says exactly what “effective” demand is. To say as he does, that “we need, to start with, a few terms which will be defined precisely later”, is charlatanry. One thing Keynes never does is to define anything precisely. The “few terms” are:--

proceeds=factor costs+profits (or income of the entrepreneur)

Thus proceeds is the income of all on the owners’ premises engaged in the process - workers, creditors and owners

final purchaser costs=proceeds+user costs (apparently what the entrepreneur has to buy in)

Thus “final purchaser costs” is the income of all engaged, whether on or off the owners’ premises.

It is indicative of Keynes’s propensity to muddle that within a few lines he has defined and italicised “total income”, referred to it next as “aggregate income”, and then re-defined it as “proceeds”. I have a feeling from a quick glance onwards that the italicised “total income” is not mentioned again. He then excludes user costs, since these are essentially the affair of other entrepreneurs.

Now comes a great mystification (p25):-- It is important to note that a little later, this passage is described as giving the substance of the GENERAL THEORY of employment.

Z is defined as the “aggregate supply price of the output” (net of user costs, i.e., stuff bought in – if this seems crazy, the reader is referred to Chapter 6), and is a function Z(N) of N, the number of men employed OTHER THINGS BEING HELD FIXED of course. “Similarly”, says he, D(N) is the “proceeds which the entrepreneur EXPECTS to receive (also net of user costs)”. Then he muddles on further still by immediately re-naming these just-defined entities:--

Z(N), “aggregate supply price of the output”, is now the aggregate supply function.

D(N), “proceeds which the entrepreneur EXPECTS to receive”, is now the aggregate demand function.

Supply and demand of WHAT? He doesn’t say! (Demand, of course, usually refers to the urges of customers. Why Keynes should apply the name to the expectations of entrepreneurs is beyond understanding, although he could argue that demand and supply and entrepreneurs’ expectations of “proceeds” are all ultimately the same thing!) What are the units of Z and D? ££? (I think yes). Supply and demand usually mean the quantity of goods respectively supplied and demanded at a given price for the GOODS. So it is S(p) and D(p), where p is the price PER unit of the good. Or I suppose if you take the normal scientific notion y=y(x), and given the usual way S/D curves are drawn (price on the x-axis, demand and supply of the y-axis, respectively decreasing and increasing with price), you could re-write as ps=ps(q) and pd=pd(q) where q is quantity and ps and pd are respectively the notional prices for the supplier and demander. So PERHAPS Keynes means that Z is what the supply price OF GOODS would be IF HE EMPLOYED N MEN. If this is so, he is merely drawing the standard S/D diagram with N for men standing in for the usual q, since undoubtedly q=q(N).

He then goes on to say that “this is the substance of the General Theory of Employment”!!! Phew - is THAT all??!!

So here is my presentation of the General Theory of Employment:--

D=Entrepreneurs’ aggregate expected returns to labour (wages), capital (interest and dividends) and profit (to the entrpreneur), excluding bought-in stuff

Z= “Aggregate supply price”

It is important to note that at the top of p24, Keynes says “the aggregate supply price [Z] of the output of a given amount of employment is the expectation of proceeds which will just make it worth the while of the entrepreneur to give that employment”.

At the top of p25, Keynes says “Let D (aggregate demand function) be the proceeds which entrepreneurs expect to receive from the employment of N men”.

So, D is what he expects to receive from the externally determined market, and Z is the internally determined cost of N men plus associated credits and profits.

So what is called a supply price, Z, is really a supply cost in normal parlance, and what is called demand, D, framed as if it were something to do with entrepreneurs, is nothing other than the purchasers’ market demand, i.e., nothing whatever to do with entrepreneurs.

When Keynes goes on to say, “if for a given value of N, the expected proceeds are greater that the aggregate supply price, i.e., if D is greater than Z, there will be an incentive to entrepreneurs to increase employment beyond N … up to the value of N for which Z has become equal to D”, he is merely re-stating in relatively obscure language, what is virtually a tautology, namely that supply will tend to meet demand.

“EFFECTIVE DEMAND”

Keynes has this in his chapter title, and, after defining it as we are just coming on to, he makes some play of it. But to such little effect that on my first reading I did not even notice it.

His definition of it (middle p25) is simply that it is “the value of D at the point of the aggregate demand function, where it is intersected by the aggregate supply function”!! C’est tout! He then says that Say, Marshall, Edgeworth, Pigou all insist that D=Z for all N! In other words, he is accusing them of not knowing what a demand/supply equilibrium (D=Z only for the equilibrium value of N) is! Note that it is immediately after this “definition” that Keynes says as noted above - “this is the substance of the General Theory of Employment”, thus confirming that he sees his special perception as being that supply and demand are not mutually determining things, as Say would say, but to some extent independent things which can separately be manipulated.

Risky simplification:-- Say - Demand necessarily adjusts to equal supply. Keynes - Yes but if the equilibrium so attained is unsatisfactory, demand can be deliberately increased, and supply then will adjust to the increased demand. However, note that Keynes never I think (excluding “purple passages”) says this in so many words. He hints. Thus, the formulation noted below (“the insufficiency of effective demand .... ”) allows one to recall that elsewhere he has in purple passages talked of pyramids and buried money, but he is at no pains to bring these widely separated texts together.

Final note:-- The above is largely me. Keynes’s definition of effective demand, read without his gloss about Say, could be studied ad infinitum without its being perceived that it implies independence of demand. It could be read, as all S/D diagrams are read, as saying that S (or Z) and D are co-determined - the intersection point is the only real point, the rest being the imaginary competing factors which balance to determine it. Hence my comment on first reading - Phew - is THAT all??!!

Keynes takes three-quarters of a page to present this travesty of obscurity. He then goes on impudently to say that the classicists, par contre, say “Supply creates its own Demand” (his capitals). So Z=D for all N!

[27.2.2001 Note added MUCH later:-- Supply does notionally create its own demand, in the sense that the price will come down to whatever level is needed to clear the market, i.e., to boost demand to exactly the required level. However, it obviously breaks down if and when price hits a level at which the costs cannot be paid, and profit vanishes. For example, apples may ripen, and fall to the ground, and rot, if there is such a glut, such a fall in price, that nobody can be paid to pick them up. Say’s law is simple, much too simple to be true, but it is largely true!]

So, in the diagram, Z and D coincide as one horizontal line. And why not, given this travesty of a picture? If all issues of individual advantage are removed, then OF COURSE all produce will be sold at the production price. Why not? All paradox vanishes if you take away the whole background of market theory, namely that the market is made up of actors, who may buy or not, supply or not, according to whether it profits them to do so. I do not think Say said that “Demand creates its own Supply”. That would be an absurdity, since someone might demand the Moon. But to say SUPPLY creates [“tends to create” I add later] its own demand is virtually a tautology.

Keynes says “Say’s law is equivalent to the proposition that there is no obstacle to full employment”. This is nonsense. This statement in turn is equivalent to saying “When Say said ‘Supply creates Demand’, he implicitly included people, or their bodies, on the Supply side, as well as including them, or their spirits, on the Demand side.” If you regard a new-born baby, or more appositely, a “new-born” person of working age, as an output item, whose “supply” must create a demand for itself, AND ALSO AS an increment to the corps of “demandeurs”, then you are setting up a hopelessly circular phantasmagoria. Neither the owner of one given body, nor the owners of other human bodies, can treat that body like a bag of potatoes! Say, I have no doubt, never got that far. He was simply saying “Sellers must by definition equate to buyers”, or as Keynes himself quotes JS Mill, “All sellers are inevitably, and by the meaning of the word, buyers”. If Keynes is saying that labour is not a commodity like any other, and that classicists have given little or no attention to this, then I readily go along with him, but he chooses a mighty stupid, portentous and obscure way of (not quite) saying so!

22.10.96 p29

He then begins “a brief summary” of the General Theory of Employment, “although it may not be fully intelligible.....The terms involved will be [yes, yes, yes] more carefully defined in due course”. No page reference OF COURSE. As follows (Keynes’s numbering, 1 to 8):--

1. I, income, depends on N

2. D1, the propensity to consume is not a given but is a “psychological characteristic of the community”. No reason at all why I should equal D1.

3. So D1 has to be supplemented by D2, the amount “EXPECTED” (says Keynes) for “new investment” (seemingly no need to define either concept).

4. D=D1+D2=Z(N).

Note added only later with more educated eyes:-- Keynes says here that “D is what we have called above the effective demand”. Actually, it isn’t, because in this exposition, there is no notion of a balance between D and Z, as was quite explicitly involved “above”. If, however, “effective demand” is just another way of saying “that which in fact equals supply”, then, of course, the rhetoric of balance or equilibrium leads there too.

5. Paraphrasing fails me here, so I quote in full:--

“Hence [hence!!] the volume of employment in equilibrium depends on (i) the aggregate supply function, f(N) [i.e., the total cost of labour, and associated capital and profit D], (ii) the propensity to consume, ?(N) [i.e. the total cost of consumption D1], and (iii) the volume of investment, D2. This is the essence of the General Theory of Employment” !!!!!!!!!! Yarooh.

“THIS IS THE ESSENCE OF THE GENERAL THEORY OF EMPLOYMENT” says

Keynes , for the second time within 2 pages (if it is granted that the meaning of “substance” is more or less the same as that of “essence”). Last time, D1 and D2 were not distinguished (as opposed to their sum D).

All this says no more than :--

consumption goods+investment goods = total product=total income=consumption .... (circularly for ever)

and that employment depends on the size of the total product!!

6. Since there are diminishing returns to labour [only, says I, if the plant is fixed], and wage is the marginal output per man, Nmax is reached when wage gets too low (reaches the marginal DISutility of labour) [the same says I as saying that the limit of employment is reached when plant is fully utilised]. Keynes is assuming at this point STEADY wages - so he notes he must come back to this.

7. Classicists say this point must be reached, since Say says D=Z.

8. But, says Keynes, “the psychology of the community is such that when aggregate real income is increased, aggregate consumption is increased, but not by so much as income”. He then spins this to imply that as a country gets richer there will necessarily be difficulty in matching growing riches (going to the rich) with the necessary concomitant of consumption (largely by the poor).

The numbered presentation ends there. QED!!

[28.2.2001 Note added MUCH later:-- Keynes’s algebra has no purpose. The functions f and ? appear unannounced and are never seen again. All the play on D, D1, D2, Z, and N serve merely to write down Say’s equation, sales=supply (Say 1767-1832!), and then to say it does not hold in exact detail because there are stickinesses in the mechanism, such as psychological propensities, and the lack of urgency in the spending of the (over) rich. This could have been said in a couple of lines – the algebra just adds confusion.]

What it boils down to, however, is in my opinion what he says a little later (the top of p31):--

“The insufficiency of effective demand will inhibit the process of production in spite of the fact that the marginal product of labour still exceeds in value the marginal disutility of employment”.

(Note that this flowery statement simply restates the problem of his time, known to every one, namely that with a population requiring more goods, and queues of people dying to work, and plant lying idle, the necessary additional jobs were not there.)

Thus, his belief rests on two entities, x and y spoken of as if they were quantities, namely (x), “the marginal product of labour”, a thing which in greatly simplified circumstances could at least conceivably be measured, but in practice could never have an actual number put to it by any imaginable observational procedure, and (y), “the marginal disutility of labour” which, since it involves tastes, inclinations, feelings, etc., cannot even in simplified or ideal circumstances conceivably be measured, or even subjected to the simplest test, such as “has it increased?”

Yet Keynes states it as A FACT that x EXCEEDS y, or x>y (wages are higher than they in theory need be). All he is in fact doing is finding an exceedingly obscure way of expressing his unprovable belief that governments should beef up demand.

Note that in his coda to this farrago, Keynes maintains that he will show [note the common rhetorical trick - to get rid of an awkward bit by saying you will deal with it at an unspecified later page, and then not do so, or, at least, not signal clearly that you are doing so] that MONEY MATTERS, while classicist thought it didn’t. So Keynes was a monetarist!

Section III p32 Purple passage (somewhat)

Note also that he states that “effective” demand is not “mentioned even once in the whole works of Marshall, Edgeworth and Professor Pigou”, but only by subversives like Marx, Silvio Gesell, and Major Douglas.

Insertion:-- What can this mean? In spite of the prominence Keynes is now giving it, he does not say! It cannot mean the actual term which Keynes has just invented. It seems to mean the Malthusian position mentioned on the same page (p32) that it is possible for demand to be deficient, hence presumably susceptible to being augmented deliberately. If this is so, it means that these authors never mentioned government intervention to boost demand. Par contre, his list of subversives would be only too likely to do so!

He later (p371) says that Douglas was right, but “included much mere mystification”(!), and credits Mandeville, Malthus, Gesell, and Hobson with seeing the truth “obscurely and imperfectly”, while the prestigious classicists “maintained error, reached indeed with clearness and consistency, and by easy logic, but on hypotheses inappropriate to the facts”.

Keynes thinks Ricardo and the classicists won because (p32) they suited the environment, suited the freebooting capitalist, had a beautiful, vast and logical superstructure, and had the prestige of giving results different from those expected by the great unwashed. The classicists were unmoved by the fact that the man in the street could see clearly that their predictions were not borne out.

[28.2.2001 But, says I, the classicists were essentially right. The machine does run more or less by its mysterious self. Keynes was writing in a period of extremely rare and deep US recession, an exception which illuminates the rule. It is indeed arguable that the US and the UK were already emerging from recession in 1936.

4.8.2003 (note the 2½ year gap) Today in the Financial Times there is an article noting that several governments are now trying “Keynesian” demand stimulation, without actually using the word. Its use has been banned for a couple of decades. In my personal opinion, these methods may well appear to work, as they appeared to work post-WWII, but for the same reason – that the normal recovery was due to happen anyway.]

At this point I really feel I could stop there. No doubt, Keynes in pp37-412 will weave many a mystical and entrancing web, but, if he has talked egregious nonsense in pp 3-36, proceeding into further obscurities only increases the labour in trying to see through each new obfuscation. Nevertheless, I’ve no doubt he will have much to say which throws light on the interest rate/liquidity jargon which is still used today.

23.10.96 BkII - Definitions!! p35

Ch4, 5 and 6, says Keynes, are a necessary “digression”, needed because others do not seem to have done the groundwork. Should suit me! Points requiring elucidation - units, expectations, and income.

Chap 4 UNITS

Examples

1. National dividend:-- “as defined by Marshall and Pigou” apparently means the VOLUME of output, i.e. I suppose, the REAL output. No can do, says Keynes, correctly.

2. Net addition to capital equipment:-- NET output needs this, which makes difficulty doubly compounded. We need to calculate (new-equipment minus discarded-equipment). No can do says Keynes. With unaccustomed force (but still not forceful enough in the context of a totally laughable absurdity), he says “the problem presents conundrums which permit, one can confidently say, of no solution”. (!)

3. General price level:-- Keynes dismisses this with:-- “unavoidable element of vagueness .... very unsatisfactory for the purposes of causal analysis”.

Keynes’s solution? “One can get on much better without them” when one does the “causal analysis” which requires “perfect precision”, says he with a straight face.

And now we have another perfect quote:--

“To say that net output to-day is greater, but the price level lower, than ten years ago or one year ago, is a proposition of a similar character to the statement that Queen Victoria was a better queen but not a happier woman than Queen Elizabeth - a proposition not without meaning and not without interest, but unsuitable as material for the differential calculus.”

In spite of this devastating aperçu, Keynes talks, with equal absurdity, as if he is about to invent propositions to which one CAN apply differential calculus.

He proposes to have only 2 units:-- a labour unit, a standard man-hour as it were, and a wage unit, the standard money-wage earned by that standard man-hour. Of course, men vary, but all can be reduced to the standard unit. Oh come off it Keynes! This is a monstrous cop out. A unit is something fixed, which you use to set your unknown quantity alongside, in order to MEASURE it. And you measure it in order to convey to yourself and to anybody else interested HOW MUCH of the stuff is there. Here, N is not the number of men, but the number of equivalent man-hours. And how do you set this equivalence? By observing the total wage bill, E, and dividing by the wage-unit, W.

N=E/W

And how do you know the wage unit? Presumably by observing the number of actual man-hours, NA, and doing

W=E/NA

So at an aggregate level, N=NA (aggregate equivalent man-hours=aggregate actual man hours), and the idea of equivalence only comes in at any sub-aggregate level.

Keynes is also forced to deal with a workforce at uniform wage but of varied abilities by fantasising that the best are dealt in first, the resulting progressive decrease in productivity being dealt with by A PRETENCE that this is LIKE the normal process of decreasing returns.

He then, but in an extremely brief way, distinguishes 3 types of areas:--

1. “Precise” analysis of the whole national economy:-- use only money (wage) and labour units.

2. Analysis of individual firms:-- real units of the volume of output can be used.

3. Imprecise anecdotal or historical chat:-- pseudo-real units of AVOWEDLY APPROXIMATE volume can be used.

Since all analysis OF ANY USE must deal with a process in time, i.e. must be historical, I don’t see where this gets us, unless Keynes is about to commit the howler of “a decade no, a year maybe, a week OK”

Apparently seeing no difficulty here, Keynes says “it follows that we shall measure [as if, somewhere in this book, he is going to get round to measuring anything] CHANGES [of output, in labour-units] .... To predict [this] ... it is not necessary to know how the quantity of the resulting output would compare .... with what [it was] at a different date”. Thus he seems immediately to be committing the howler just mentioned. By using the phrase “at a different date” he casts the reader’s mind into the frame of comparing the 19th century with the 16th, or today with a year or two ago, but logically it means “at a different time”, or more forcefully, “at a given instant of time”. How can one talk of measuring change, while in the same breath excluding comparison of now with some time ago? Keynes seems not to notice this at all.

[1.3.2001 I was a bit hard on Keynes there, or maybe justifiably hard, but on the wrong target. As Pigou said, Keynes was in general by no means clear - “How is it that an author, .. when he comes to the subject to which he has devoted most attention, is barely intelligible to many .. of his own professional colleagues .... A part of the explanation is, beyond doubt, his loose and inconsistent use of terms.” So it is, here. A close reading shows that Keynes meant (but why did he not say so clearly?) that in his sort of analysis, the plant and labour supply was a given. He is concerned with more or less immediate responses of the system to a change in demand, i.e., to a Keynesian stimulus which brings the unused labour and the unused plant capacity together.]

He now relates the above to the supply curve which he says is now redundant. p44

This turns out to be simply replacing Q, the volume of output, on the x-axis, with N the no of men involved, assuming Q is a function of N. This is exactly what I surmised above.

I reproduce this now:--

So PERHAPS Keynes means that Z is what the supply price OF GOODS would be IF HE EMPLOYED N MEN. If this is so, he is merely drawing the standard S/D diagram with N for men standing in for the usual q, since undoubtedly q=q(N). He then goes on to say that “this is the substance of the General Theory of Employment”!!! Phew - is THAT all??!!

So here is my presentation of the General Theory of Employment

Keynes takes three-quarters of a page to present this travesty of obscurity.

Notice my “merely” (second sentence). I obviously did not think this was much of a revolution. Nor does this major advance seem to have caught on, since I have never seen supply and demand drawn in this ridiculous way, rather than in the usual ridiculous way.

Well, that’s got units out of the way. Now for expectation. p46

Chap 5 p46 Expectation as determining output and employment

First Keynes very usefully defines short and long term:--

short-term=at the point of manufacture

long-term=at the point of planning to purchase capital equipment in order to manufacture.

25.10.96 p47

Keynes says that in the short-term, employment depends on expectations, i.e. on what the employer plans to do. Past expectations are of zero relevance, except insofar as they have determined today’s fixed data (machines, cash, debt, assets). The future always starts here. I think Keynes really means decided plans rather than expectations. After all, an employer could change his expectations, and still not change his plans. The path to the final new steady state does not necessarily involve monotonic changes in level of, e.g., employment. There could be a point of max or min.

OK. That’s that done. Not so much a definition of expectation, as a canter round it.

Chap 6 The definition of income, saving and investment

Section I Income

Keynes’S NOMENCLATURE

A = revenue

A1 = cost of stuff bought in

U = user cost = A1 + depreciation = A1 + dep

F = factor costs

P = prime costs = F + U

Inc = A - F - A1 - dep (entrepreneur)

Agg inc = A - A1 - dep (entrepreneur+capitalist+labour)

V = involuntary, but not wholly unexpected, contingency costs

Net inc = Inc - V

Windfall cost gets no symbol, and appears nowhere. If it appears below, I’ll call it W.

Consumption = A - A1 i.e. total sales minus inter-firm sales!

Income = A - A1 - dep Note:-- This is total community income

Saving = income - consumption = - dep = investment

Net saving = net investment = - (dep +V) (both dep and V are intrinsically neg)

Keynes does not pause to explain this last. Since V is hypothetical, it may “work on the mind” when considering consumption, but how can it play a part in a figure for saving or investment?

Note added - this whole section is a fearful muddle.

Income - simple:--

Income=sales proceeds - cost of stuff bought in + visible plant&stocks - ??

= A - A1 + G - ??

where ?? = “a certain sum to represent that part of the value which has been (in some sense) contributed by the equipment inherited from the previous period”. A certain sum …. in some sense .. !!! Keynes leaves this in words – there is no symbol.

[28.2.2001 I think G-?? may be depreciation. ?? is presumably greater than G]

Note that to say “A is solved as soon as B is done” is normally used when B is really easy. To use it when B is unimaginably difficult is a deliberate trick, but Keynes does this:--

p52 “The problem of defining income is solved (!) as soon (!) as we (i.e., our nibs, Keynes) have found a satisfactory (!) method of calculating this deduction”, the deduction being the mystical entity I have denoted by ?? Oh yes? How? You might as well say it is solved as soon as you find a satisfactory way back from the moon.

Keynes now embarks on an extraordinary rigmarole to define the user cost, U. This term first made its appearance on p23, where it seemed to be essentially or mainly the cost of stuff bought in, now denoted by A1. Now it is refined to be:--

U = (G’ -B) - (G - A1)

Why it is called “user cost”, and what the purpose of the arrangement of brackets is, is beyond me.

28.10.96

Remembering that A1 is already essentially the user cost, it makes more sense to say

U = A1 + (G’ - G) - B

where G’ is the value the machines would have had at the end of the period if B had been spent on them at the beginning of it, and if the machines had not been used. G is the value of the plant at the end of the period after productive use. Note that this is what was expressed by me above as A1+dep, and that, although depreciation normally figures prominently in such matters, Keynes feels no reason to assign a symbol to it

Be all that as it may, Keynes is simply defining user cost as outgoings, apart from factor costs, i.e. stuff bought in plus plant depreciation. All very pernickety, but no use will be made of this ornamentation. It is another example of algebra which has no discernable purpose apart from filling space and giving for the usual run of economist readers a look of authority. The baffling style, the mindless choice of symbols, give the impression that Keynes was not at all at home with real physical or mathematical problems. So:--

income = revenue - factor costs - user cost

Now he brings in a supplementary cost! This is V, the involuntary (so why not call it that in the first place? And why call it V, which is reminiscent neither of supplementary nor INvoluntary!) cost, which seems to be a half-expected, half-unexpected contingency cost covering “change in market values of plant, wastage by obsolescence or the mere passage of time, destruction by war or earthquake”. Whatever it is, it “works on his mind in the same way as a cost”. So AT LAST

net income=revenue - factor costs - user cost - contingency cost

No! He has yet another cost “a windfall cost”, which I suppose means a TOTALLY unexpected cost. He doesn’t bother to give this a symbol.

net income=revenue - factor costs - user cost - contingency cost – windfall cost

Keynes is laughably hazy about all this. I add later that I do not recall that Keynes really makes any use of any of the above in terms of his “theory”.

29.10.96

His drift is that the income of the entrepreneur determines his decisions on production and therefore on employment, whereas his net income determines behaviour on consumption. But he simply states this - no evidence. Nor is it explained why we should regard the consumption (which, remember, by definition excludes investment) of an entrepreneur as being important in the aggregate.

Just listen to the following fairly extensive quotation (pp53,4). First, I give it without comment. This is Keynes at his fluent best. It is the sort of stuff which made Bertrand Russell say, “when I argued with him, I felt I took my life in my hands, and I seldom emerged without feeling something of a fool”.

The passage is repeated a second time in full, but with my comments interleaved.

“The entrepreneur’s income is the excess of the value of his finished output sold during the period over his prime cost. That is to say, it is taken as being equal to the quantity ... which he endeavours to maximise. Income, thus defined, is a completely unambiguous quantity. Moreover, since it is the entrepreneur’s expectation of the excess of this quantity over his outgoings to the other factors of production which he endeavours to maximise when he decides how much employment to give to the other factors of production, it is the quantity which is causally significant for employment..

“In reckoning the net income and the net profit of the entrepreneur it is usual to deduct the estimated amount of the supplementary cost from his income and gross profit as defined above. For the psychological effect on the entrepreneur, when he is considering what he is free to spend and to save, of the supplementary cost is virtually the same as though it came off his gross profit. In his capacity as a producer deciding whether or not to use the equipment, prime cost and gross profit are the significant concepts. But in his capacity as a consumer the amount of the supplementary cost works on his mind in the same way as if it were part of the prime cost. Hence, we shall arrive at a concept which is relevant to the amount of consumption, if, in defining aggregate net income, we deduct the supplementary cost as well as the user cost, so that the aggregate net income is equal to A-U-V.

“It makes a considerable difference how much windfall gain or loss he is making on capital account. But there is a difference between the supplementary cost and a windfall loss in that changes in the former are apt to affect him in just the same way as changes in his profit. Although the windfall loss (or gain) enters into his decisions, it does not enter into them on the same scale - a given windfall loss does not have the same effect as an equal supplementary cost.

“The line between supplementary costs and windfall losses, i.e. between those unavoidable losses which we think it proper to debit to income account and those which it is reasonable to reckon as a windfall loss (or gain) on capital account, is partly a conventional or psychological one, depending on what are the commonly accepted criteria for estimating the former. The expected value of the supplementary cost, when the equipment was originally produced, is a definite quantity.

“ Thus, we cannot get closer to a quantitative definition of supplementary cost than that it comprises those deductions from his income which a typical entrepreneur makes before reckoning what he considers his net income for the purpose of declaring a dividend (in the case of a corporation) or of deciding the scale of his current consumption (in the case of an individual). Since windfall charges on capital account are not going to be ruled out of the picture, it is clearly better, in case of doubt, to assign an item to capital account, and include in supplementary cost only what rather obviously belongs there.

“It will be seen that our definition of net income comes close to Marshall’s definition of income, when he decided to take refuge in the practices of the Income Tax Commissioners and - broadly speaking to regard as income whatever they, with their broad experience, choose to treat as such. It remains true, however, that net income ..... is not perfectly clear-cut.”

And now with my annotations. My comments are in square brackets, my emphases are in capitals. The italics are Keynes’s.

“The entrepreneur’s income [as opposed to net income] is the excess of the value of his finished output sold during the period over his prime cost [F+U]. That is to say, it IS TAKEN as being equal to the quantity ... which he endeavours to maximise [no evidence thought to be needed for this]. Income, thus defined, is a COMPLETELY unambiguous [!] quantity. Moreover, since it is [he baldly states] the entrepreneur’s expectation of the excess of this quantity [has he got this right? - income has factor costs as a term within it] over his outgoings to the other [other than what?] factors of production which he endeavours to maximise when he decides how much employment to give to the other [the same ones?] factors of production, it is the quantity which is causally significant for employment. [I believe this simply restates the 2nd sentence].

“In reckoning the net income and the net profit [he has given no reason till now to suggest that these are different] of the entrepreneur it IS USUAL [not a very compelling basis - especially coming from Keynes, who is usually keen to point out that everybody from Ricardo to Pigou has been wrong] to deduct the ESTIMATED [again not very confidence-building] amount of the supplementary [i.e. involuntary but half-expected] cost from his income and gross profit [note:-- gross] as defined above. For the PSYCHOLOGICAL EFFECT on the entrepreneur [how does he know?], when he is considering what he is free to spend and to save, of the supplementary cost is VIRTUALLY [how virtually? - how can this be evaluated?] the same as though it came off his gross profit. [Now comes the crunch] In his capacity as a producer deciding whether or not to use the equipment, prime cost [F+A1+depr] and gross profit [A- prime cost] are the SIGNIFICANT [how can he know?] concepts. But in his capacity as a consumer the amount of the supplementary cost WORKS ON HIS MIND IN THE SAME WAY [how can he know?] as if it were part of the prime cost. Hence [suggesting a deduction, but in fact he is simply re-stating], we shall arrive at a concept which is relevant to the amount of consumption, if, in defining aggregate net income, we deduct the supplementary cost as well as the user cost, [and he re-states yet again] so that the aggregate net income is equal to A-U-V [U = A1+depr; V=“involuntary”, “unavoidable but broadly speaking not unexpected” costs].

“It makes a considerable difference [he does not say what type of difference - and anyway, how could he ever know?] how much windfall gain or loss he is making on capital account. But there is a difference [which is ostensibly about to be defined] between the supplementary cost and a windfall loss in that [here it comes] changes in the former are apt [apt? likely to?] to affect him in just the same way as changes in his profit [note the circularity - having been told that supplementary costs are usually and virtually apt to work on his mind as if they were actual costs, windfall costs are being defined as costs which do not]. Although the windfall loss (or gain) ENTERS INTO his decisions, it DOES NOT enter into them ON THE SAME SCALE [what is this but sheer waffle? Now he re-states] - a given windfall loss does not have the same effect as an equal supplementary cost. [He then begins a new para, and starts to row all the way back again]

“The line between supplementary costs and windfall losses [now incredibly he re-states definitions], i.e. between those unavoidable losses which WE [who?] THINK IT PROPER [re-stating, re-stating, never arguing] to debit to income account and those which IT IS REASONABLE [explain?] to RECKON [is this science?] as a windfall loss (or gain) [so this part of the re-stated definition merely reads:-- a windfall loss is what it is reasonable to reckon as a windfall loss - or gain!] on capital account [this sneakily reinforces the point supposedly being elucidated, namely that windfall loss is not on the income account], is [wait for it] PARTLY A CONVENTIONAL OR PSYCHOLOGICAL ONE, depending on what are the commonly accepted [presumably conventional or psychological] criteria FOR ESTIMATING THE FORMER. [After all this, he now has the stupendous cheek to carry on ...] The EXPECTED value of the supplementary cost, when the equipment was originally produced, is a DEFINITE quantity. [How can an expected value be a definite one? But eventually, in a new para, he admits, very lamely]:--

“ Thus, we cannot get closer to a quantitative definition of supplementary cost than that it comprises those deductions from his income which A TYPICAL ENTREPRENEUR makes [note:- not might make, or might be imagined to make] before RECKONING what he CONSIDERS his net income for the purpose of declaring a dividend (in the case of a corporation) or of deciding the scale of his current consumption (in the case of an individual). Since windfall charges on capital account are not going to be ruled out of the picture, it is CLEARLY better, in case of DOUBT, to assign an item to capital account, and include in supplementary cost only what RATHER OBVIOUSLY belongs there [!!!!!!!!!!!! and it gets better, new para]:--

“It will be seen that our definition of net income comes close to Marshall’s definition of income, when he decided to take refuge in the practices of the Income Tax Commissioners and - broadly speaking to regard as income whatever they, with their broad experience, CHOOSE TO TREAT AS SUCH. [!!!!!!!!!!!!!!!!!! and then with uproarious humour] .... It remains true, however, that net income ..... is not perfectly clear-cut.”

He maintains, however, that the obscurity applies only to net saving and net investment. When it comes to employment, this is influenced by saving and investment, “which is clear of this defect, and is capable of objective definition as we have shown above.” [p60. Note that Keynes here uses terms “net saving” and “net investment” which he has not even mentioned before. They come up a couple of pages later. The “net” in both cases refers to the mysterious entity V, and thus neither term corresponds to what I would regard as normal usage.]

Keynes seems to think it is crystal clear that when a man thinks about consumption, he looks at his bank account, then feeds in (quantified!) fears, V, about potential losses, but when he thinks about giving employment to others, he looks only at his bank account. Why, why, why??

Keynes never sets this stuff down in any coherent way. His algebra is just a decoration. But it is as follows, in his nomenclature:--

A=revenue A1=cost of stuff bought in U=user cost=A1+depreciation=A1+dep

F=factor costs P=prime costs=F+U

Inc=A-F-U (entrepreneur) Agg inc=A-U (entrepreneur+capitalist+labour)

V=involutary, but not wholly unexpected, contingency costs

Net inc=Inc-V

Agg consumption=SUM(A-A1) Agg investment=SUM(A1-U)=SUM(-dep)

And lastly, the windfall cost, which gets no symbol, and appears nowhere, except as verbal wind.

Section II Saving and investment

On to next section p61 “Saving and Investment”

Saving=income - consumption

Note:-- consumption and investment are mutually exclusive.

“Any REASONABLE definition of the line between consumer-purchasers and investor-purchasers will serve us equally well, provided it is consistently applied”, says the suddenly modest Keynes. “The criterion must OBVIOUSLY correspond to where we draw the line between the consumer and the entrepreneur”. After reflecting on this obscure statement over tea and apple pie and cream, it dawned on me what this egregious man means by this. Any reasonable definition will do, but BY DEFINITION, consumer-purchasers are consumers, and investor-purchasers are entrepreneurs.

I think this convicts Keynes of cynical manipulation. The word entrepreneur is much more firmly fixed in the language than investor or consumer (i.e. the dictionary definition leaves much less latitude for interpretation). Someone who simply buys a house, or even someone who is buying a carpet for his rented house, would be allowed by the generous Keynes in the above passage to be called an investment-purchaser. But to add that then he must “obviously” be classed as an entrepreneur simply reneges on that relaxed stance, since there is no way that the investment-purchaser of a house or a carpet can be given a name which violates the dictionary meaning of that name. Why not state at once that anything an entrepreneur buys for his business is investment, and anything bought outside of business activity is consumption? So we have:--

Consumption = A-A1 i.e. total sales minus inter-firm sales!

(Keynes here abandons SUM(). A now means SUM(A) )

Income = A-U = A -A1 - dep Note:-- This is total community income

So Saving = A1-U = A1 - A1 - dep = -dep

Net saving = A1-U-V = - (dep +V) (both dep and V are intrinsically neg)

Keynes does not pause to explain this last. Since V is hypothetical, it may “work on the mind” when considering consumption, but how can it play a part in a figure for saving?

Note:-- This seems to me to describe a static (non-growing) system. Investment is undertaken only to repair depreciation.

Necessarily,

Saving = Current investment = A1-U

And net investment = A1-U-V

Keynes ends up:-

Income = value of output = consumption + investment

which, to my mind, is simply the umpteenth re-statement of Say’s Law, scorned by Keynes early in the book - but I stand to be corrected!

30.10.96

And, to my mind, he again re-states Say’s Law on the following page (p64):-

“Experience shows that there are habits of psychological response which allow of an equilibrium being reached at which the readiness to buy is equal to the readiness to sell.” I imagine people have been mumbling similar vague peudo-profundities to each other over a glass of wine since time began.

Note incidentally that this is an example of spinning a phrase so that it appears to read like an algebraic equation, as if these two hopelessly vague “readinesses” could have a number assigned to them, and an “equals” sign inserted between them. What observable “experience” could Keynes have quoted to substantiate this? As it is, he states, and moves on.

He finishes this chapter by stating that decisions to consume and to invest are the autonomous decisions of each individual. He says that saving, and rather mysteriously, income, are secondary, the mere residual results of these primary “free choices”. There is no exegesis here, simply a bald statement. Surely a blatantly paradoxical assertion requires to be set forth at length. How an argument would run to demonstrate that the appearance of an income flow would follow secondarily from primary decisions to invest and consume, I cannot imagine. What is supposed to happen if a tramp begins his day by making a “free choice” to consume a hearty breakfast, and put the value of a foregone lunch into his pension fund? Keynes just states, turns a page, and starts a new chapter.

Chap 7. The meaning of saving and investment further considered

Less important, I think.

Having defined saving=investment, he now says that several contemporary writers “including myself” have either explicitly or silently assumed that they are not, necessarily equal. He states that there is never doubt as to what is meant by consumption.

Really? Just compare the following passages:- (rule on caps and italics as above)

p61. “So far as I know, everyone is agreed that saving means the excess of income over expenditure on consumption. Thus any doubts about the meaning of saving must arise from doubts about the meaning either of income or of consumption. ... which throws us back to the question of WHAT IS MEANT BY A CONSUMER-PURCHASER. Any reasonable definition of the line between consumer-purchasers and investor-purchasers will serve us equally well, provided that it is consistently applied”.

p74. “So far as I know, everyone agrees in meaning by saving the excess of income over what is spent on consumption. Nor is there any important difference of opinion as to what is meant by expenditure on consumption. Thus the differences of usage arise either out of the definition of investment or out of that of income.”

So, on p61, there is an arbitrary line between consumption and investment, any consistent definition of which will serve, but by p74, never in the intervening pages having explicitly said where HE draws the line, the precise meaning of consumption is virtually beyond dispute! One really wonders whether Keynes or his publisher or anyone else ever checked over his draft before it was sent to the printers.

OK, let’s go with the drift. Consumption OK. Saving OK. Income = consumption + saving OK. Investment=saving OK. So no problem? No, no. Wake up! We now need to elucidate investment and income. Why? Don’t ask silly questions. Keynes says so.

In fact, he does not debate the issue. He simply defines what he means by investment, claiming most unconvincingly that it coincides with the popular view. It is his net investment, i.e. his net income less consumption. So

net investment = - (dep + V) So presumably saving must also be net saving, i.e.

net saving = net investment

Note again the vagueness and whimsicality of this position. Perhaps generally received meanings of words have changed since Keynes’ day. I believe that in today’s parlance, net investment is gross capital investment (gross fixed capital formation plus some minor odds and ends) minus depreciation. What Keynes calls “V” is simply not there at all. For Keynes, apparently, investment is –dep, and net investment is –(dep+V), which as said above, implies a static investment position in which, in today’s parlance, net investment is by definition zero, and gross investment is exactly equal to depreciation. This is my clear statement of Keynes’ position. It could be wrong, but what is sure is that Keynes himself never states and holds to one clearly laid down accounting system. Whatever V and ?? may be, they do not, and could not conceivably, have any role in national accounts, since there is no imaginable way of putting a number to them.

I’ve a feeling, that since V is not tangible, Keynes is creating a space for psychological factors, fears etc.

Note:- he complains on p76 that the Austrian school do not have “any passage where the meaning of these terms is clearly explained” Yaaaaaahroooooooh!

“We come next [p77] to the DIVERGENCES between saving and investment.” There weren’t any a few pages ago. And he says that although his Treatise on Money did draw a difference between saving and investment, it was a different difference from the difference he now sees.

How is the following for a “clear explanation?”:-

“As I now think, the volume of employment (and consequently of output and real income) is fixed by the entrepreneur under the motive of seeking to maximise his present and prospective profits (the allowance for user cost being determined by his view as to the use of equipment which will maximise his return from it over its whole life); whilst the volume of employment which will maximise his profit depends on the aggregate demand function given by his expectations of the sum of the proceeds resulting from consumption and investment respectively on various hypotheses.”

This is vintage Keynes. It flows in beautiful cadences. But how, mathematically, do you maximise present and prospective profits? Or returns over the whole life of equipment. It sounds OK, but how do you even know the life of equipment, let alone all the numberless contingencies along the way? “Aggregate demand” is both external and all-embracing, so how can it be “given by his expectations”? And then when the whole farrago ends up by being dependent “on various hypotheses”, it is clear that one has wasted time trying to understand something which is devoid of content.

Note that this is not an obscure introductory summary heralding an extensive argument and clarification. Keynes sails blithely away, with not the least further reference to these “various hypotheses”, or any analysis of what the multifarious elements of this rhetorical salvo actually mean.

[1.3.2001 Note added MUCH later:- Keynes takes it as axiomatic in his first sentence, and throughout, that the “volume of output and real income” is a CONSEQUENCE of the “volume of employment” is the i.e., Z=Z(N) as formulated far above. It is this that allows him to contemplate fixing all real variables in units of man-hours. Of course, one can lazily concede that doubling the work force must help output, and if you assume same technology and same investment and same level of education, and same blah blah blah, then you might expect output to double, approximately. However, this “same” list is in reality so long as to amount to “Z(N) is what it actually is”. There is no explanatory value. There is in the real world absolutely no way of predicting “I’ll arrange to add x% to the work force and I’ll stir in as condiments this and that, and thus output will increase by y%”. In other words, the shape of the function, Z, is totally unknown, and although it may depend (monotonically one hopes) on N, it depends on numberless other things as well. Nor in the real world is there any way of looking at the man and woman hours worked in, say, Sweden, the UK, France, and Italy, and working out, blind, their relative GDP per head. And added much later still (7.8.2003):- An analysis of Eutostat data which as it happens I have just completed shows that although GDP per head of European Union members varies over a range of 75%, and the hours worked per head (i.e., per person of the population) varies over a range of 27%, there is mathematically no correlation whatever between the two.]

However (p79), he sails on next “to the MUCH VAGUER [mon Dieu] ideas associated with the phrase “forced saving”. Hayek and Robbins “have not explained exactly what they mean by this term”. Can he be serious?

Keynes, obviously steeped in classical doctrine, points out strikingly, but merely in passing, that “of course” any increase in employment must, due to decreasing returns, involve some sacrifice of real income to those already employed. He does not pause to reflect that IF governments can influence employment, and IF electorates can influence governments, then there must inevitably be votes in unemployment.

Keynes SEEMS to nail his colours to the mast (but I don’t count on it) in the

following passage:-

“The prevalence of the idea that saving and investment, taken in their straightforward sense [oh dear - is this the caveat?], can differ from one another, is to be explained, I think, by an optical illusion.”

A careful reading of what follows (pp82-85) leads me to conclude (what Keynes steadfastly refuses to conclude, preferring to cover pages with immensely clever obscurantism) that Keynes is saying nothing more or less than:-

All income is spent either on consumption or on investment, the line between the two being entirely arbitrary and a matter for definition. Once this is done, saving is BY DEFINITION whatever has been defined as investment. “Saving” which is not “investment” is, by definition NOT saving! - but merely a transfer of consumption from one person to another. No doubt one could go on to say that lending is not lending unless the borrower is investing within the definition thereof.

Book III. “The propensity to consume” p89

Back to the aggregate supply function, Z(N), the output of N labour units at market price, and the aggregate demand function, D(N), the EXPECTED proceeds from the work of N labour units (p25 of Keynes).

See also above under “great mystification”, this being repeated a few pages later, where I speculate that these S/D function are merely the old text book functions, with Q on the x-axis substituted by N(Q), as copied yet again below:-

The aggregate demand function is the subject of Books III and IV, namely Chapters:-

Book III propensity to consume

8 propensity to consume - objective factors

9 propensity to consume - subjective factors

10 marginal p to c - the multiplier

Book IV inducement to invest

11 marginal efficiency of capital

12 long-term expectation

13 the General Theory of rate of interest

14 classical theory of ditto

15 psychological and business incentives to liquidity

16 nature of capital

17 properties of interest and money

18 General Theory of Employment re-stated

After that, apart from “short notes”, there are only 3 chapters

Book V money-wages and prices

19 changes in money wages

20 employment function

21 theory of prices

Chap 8 Propensity to Consume - objective factors

I’ve checked with OECD data that GFCF of all countries is about 20% of GDP, depreciation is about 10% of GDP - so net national income is about 90% of GDP or GNP.

Keynes starts with some half-hearted algebraic sparring, but it is clear from a glance through this chapter that it is going to consist largely of Keynesian chat. He writes down a function

C=C(Y) C=consumption and Y=income

[2.3.2001 Added later:- As noted in section below on Pigou’s anti-Keynes paper, Keynes with true economist’s innumeracy, mystifies the above by writing ? for the second C, and calling C and ? respectively “consumption” and “propensity to consume”]

which stands in for C=C(N), consumption as a function of employment. He spends no time at all in discussing why this absurdly simple formulation should be of any help. Presumably he is ceteris-paribus-ing every other possible variable out of the picture, but he does not even bother to say this. I have a premonition that the brilliance of his purely verbal stuff will soon supersede this foreplay. That is, algebra-play will give way to wordplay.

Objective factors:-

1. change in the real wage. After a bit of badinage, he just assumes consumption will change proportionately. He says this is a “reasonable FIRST approximation”, but gives no reasons, and we can be sure, as usual with economists, that the starting simplifying assumption, announced as if on a later page it will be removed, never will be. There will be no second approximation.

2. gap between income and net income. Here is a really choice piece of presentation (usual question - how can brilliance be dunce-of-the-class stupid?) (usual caps/italics [] convention)

“We have SHOWN above that the amount of consumption depends on NET income rather than on income, since [in spite of having allegedly shown it, he is now going allegedly to show it again] it is, BY DEFINITION, his net income that a man has [how can he know?] primarily [so, are there other factors?] in mind when he is deciding his scale of consumption”.

This formulation is so CRAZY that it beggars belief. A schoolboy essayist would have red ink all over his page if he wrote stuff like this.

31.10.96

First, he has not “shown” the required relationship “above”, any more than he is about to show it now. Second, however, the very fact that he claims to have shown it implies that it is not obvious, i.e., it does require to be shown. Third, although he claims to have shown it, he goes on “since it is.......”. That is to say, he is about to demonstrate it again, and in only a few words. Third, his new demonstration begins “by definition”. So the statement’s truth, which he has said he has shown “above”, and has just said he is about to show again, and which by implication is not simply obvious, is suddenly demoted to a level even beneath the obvious, namely one which is true as a mere matter of definition. Fourth, the definition which follows contains material which logically cannot be a matter for definition, any more than one is free to say “by definition, the moon is made of green cheese”. Clearly, Keynes intends the words “income” and “net income” to mean something existing and tangible, and he means the qualifier “net” to denote an existing and tangible distinction between the two, so he has no leeway to say that the latter, by definition, is what “a man” has “primarily” (how primarily?) in mind when he plans his consumption. Fifth, if the truth of the statement is not a matter of definition, and this word got in by a lapse of attention on Keynes’s part, could anything be less a matter for observation and verification than what “a man” has “primarily” “in mind”, not when he just buys something, but when he does something rather unusual like deciding his scale of consumption?

Yet, I suspect that this very sentence is going to prove, after a suitable flow of abstruse chat, to be the sole or main basis for all the stuff about “propensity to consume” and the blessed multiplier.

After all that, which remember is point 2 of things affecting the propensity to consume, Keynes announces that this factor too can be ignored, i.e., if income goes up, net income goes up (we are left to imagine some word like “correspondingly” - Keynes does not bother with such trifles).

3. Windfall changes in capital-value. This is important says Keynes - “should be classified among the major factors” to be exact. That’s all.

4. changes in time-discounting - “approximately the rate of interest”. Not much effect, and of uncertain sign, says Keynes, after a more prolonged reflection.

5. Changes in fiscal policy. This is like interest rates, but since here the sky’s the limit, the effect is greater - “capable of causing a severe contraction (or marked expansion) of effective demand”.

6. Changes in expectations. Too uncertain, and too likely to even out, to bother about.

So, summing up, Keynes seems to think that windfalls and fiscal changes are the big imponderables affecting the propensity to consume, with real wage changes having a real but obvious effect. In my benighted view, this is just too thin, vague and superficial to have any relevance to real, extremely complex, life.

Note well:- Although we have entered Book III, “The Propensity to Consume”, and are now 5 pages into it, and a discussion of what affects “propensity to consume” is under way, Keynes has not paused to say exactly what he is talking about, and in particular what exactly is meant to be implied by stressing the propensity to consume, rather than actual consumption. So far as I know, the phrase was mentioned more or less in passing on p29, and we were told that “the propensity to consume is a PSYCHOLOGICAL characteristic of the community”. On p90, he said “the propensity to consume is the functional relationship ? between Y, a given level of income in terms of wage-units, and C the expenditure on consumption out of that level of income”.

C = ?(Y)

Clearly, this formulation is dealing with consumption, not the propensity to consume.

Personally, I feel that Keynes had not the faintest idea what precisely he meant by this. The word “propensity”, as normally used in the English language, is of the nature of a quantity. Usages such as, “he had a propensity to tell lies, but his brother had a greater propensity to tell lies”, show that propensity is envisaged as having grades of value starting from zero, but numerically unquantifiable. There is no way, to my mind, of relating propensity to an algebraic relationship, and indeed, in Keynes’s case, stating that a propensity IS an algebraic relationship, as if one might say, “the propensity between C and Y is a parabola”. I believe Keynes was simply uttering words and symbols borrowed from algebra in the same rhetorical way in which he (or anyone in normal circumstances) would utter normal English words, that is simply to achieve a rhetorical effect. He knew what he meant, and the reader thought he knew what he meant, and that was the end of the verbal transaction. Sufficient unto the page is the definition thereof. I wonder, although it seems a preposterous thought, if anyone at all (apart from me) has in fact read Keynes as a scientific treatise rather than as a convincing (or not) quasi-journalistic polemic?

4.11.96

And the propensity to consume is affected MAINLY by real wages (whatever next?), modified A BIT by windfall changes in the consumer’s capital value, and by fiscal changes.

Keynes announces that he is now going to consider THE SHAPE of “this function”, namely the SHAPE of the PROPENSITY TO CONSUME! And he concludes, after a few words of preamble, that dC/dY is between 0 and 1. I.e., if Y goes up, C goes up by the same amount, or by somewhat less, or does not go up at all, but it can be said with certainty that it does not go down, and that it does not go up faster than income!

5.11.96 p97

Keynes disdains graphs and algebra. He debates whether, when income rises, savings/income increases also, but he concludes only that, be that as it may, savings will always rise, i.e.,

OF is the consumption=income, or savings=0 line (y=x).

At A, savings can begin.

AC is line y=mx + B(1 - m) where B is subsistence income OK or AK

and y/x = m + B(1 - m)/x i.e. starts at 1, then declines to m

or savings ratio starts at 0, then rises to (1 - m)

Keynes’s assertion, then, is that the consumption line NEVER gets STEEPER than DE.

His punch line is:- “If employment increases, NOT ALL the additional employment will be required to satisfy the needs of additional consumption”. To me, this is simply saying that any additional employment must contain some non-zero element devoted to the production of capital goods. Since this obviously cannot be axiomatically true for any period, no matter how short, there must be an “in the longish run” somewhere understood. Even in the long run, it is not true, IF the rate of innovation is so high that the existing capital goods work force is able to make the required amount of capital goods without increase in this segment of the work force. And it is not true if for some reason society is content to become poorer. So there are underlying assumptions which Keynes does not bother to give precision to.

This, says, Keynes, explains why a recession, once started, does not keep on spiralling down. When employment goes down, people spend less, but not proportionately less. And the government borrows to pay unemployment relief. Conversely, a blip upwards can be snuffed out because the additional income is not spent enough to keep it going.

[2.3.2001 The above sounds rather like the known and well-understood tendency for unemployment to be led by the capital goods sector. Conversely, recovery may be led, and then “over”-led by expansion in the same sector.]

Keynes now makes a rather obscure point, which he has hovered around several times:-

EMPLOYMENT depends on consumption and investment. But ...

CONSUMPTION depends on net income, i.e., on consumption plus net investment.

Or, in symbols which make the circularity more apparent:-

E depends of C & I

C in turn depends on C & (I-V) or C depends on (I-V)

[Since my version looks screwy, I quote exactly (Keynes’s italics and abbreviations):-

“Whereas employment is a function of the expected consumption and the expected investment, consumption is, cet. par., a function of net income, i.e., of net investment (net income being equal to consumption plus net investment).”]

He does not seem to regard this somewhat circular explanation as a head-cracker. It seems to me to merit several pages of exegesis, and he does go on, “In other words...”, but then adds only, “the larger the financial provision which it is thought necessary to make before reckoning net income, the less favourable to consumption, and therefore to employment, will a given level of investment prove to be.” This appears to be saying:-

E depends on V

Keynes appears not to notice that there is a circle here! Some circle! Of course he DID notice it (!) and presumably decided to skate silently round it.

Keynes now embarks on a rigmarole to justify this abracadabra. First he says that funds set aside for eventual renewal are somehow bad, because they do not “DIRECTLY give rise to current investment”, then he illustrates with a decaying rented house, THEN he points out that THIS IS UNTRUE if the national stock of housing is in steady state with decay balanced by re-building, then he jumps on to his hobby horse of the pre- and post-1929 boom and bust. He implies that all the spanking new equipment installed pre-1929 had “sinking funds” attached, which, because the stuff was spanking new, and the boom had stopped, were largely “unspent”. A careful reading of this shows that it simply is a highly incomplete account. It really is absurd to say “this factor alone was probably sufficient to cause a slump”. This means that investing a lot, then stopping, “probably” CAUSES a slump, whereas the business men involved “probably” stopped using the equipment BECAUSE there was, or they thought there was, a slump. Neither story says WHY there was a terrific slump, why then, and so on. This simply is telling a very partial, question-begging story. In another story, the capital building men would simply be absorbed in operating the machines they had just built, and life would go on.

6.11.96

Then he dashes off to the UK “at the present time (1935)”, where he says, “sinking funds .... entirely dissociated from any corresponding new investment” are preventing consumption. Is this CORRESPONDING the same as the emphasised DIRECT above?

Suppose ALL plant was paid by “sinking fund”, i.e., no plant was bought out of current income, but out of funds set up out of past income. And suppose plant lasts 10 years. Then clearly, in steady state, some owners would have the entire cost of plant in their “sinking fund” and others with brand new plant would have zero, so on average, the nation as a whole would AT EVERY INSTANT have aggregate “sinking funds” equal to HALF the entire capital investment of the nation, and, each year, one fifth of the “sinking fund” would be spent by some owners, while others would exactly replenish it. Now, the whole point of borrowing is to meet present costs out of FUTURE not PAST income, so the above scheme would mean that NOBODY borrowed in order to buy capital equipment. So this “sinking fund” would be money under the bed. It could not even be borrowed for current consumption since in steady state, borrowing would be exactly mirrored by repayments. So it seems to me that the very existence of a banking system shows that “sinking funds” are not the general rule. There is NO POINT in having a “sinking fund” in the bank, if there is no borrower to take it up. In other words, too many people being prudent with their “sinking funds” would find interest rates going very low, so there would be no motive to save, and every motive to borrow.

Note added later. There can be no non-hoarding savers unless there are borrowers. Savers are saving for the future. Borrowers are borrowing for the present. If there are no borrowers, savers have no option but to save cash at no interest, i.e., to hoard. It is baffling that a man as steeped in finance as Keynes can write so often as if (he is never so naïve as to express it explicitly) money in the bank was just lying there. It is in fact being spent by somebody on something.

(Note:- US interest rates WERE very low in 30s and 40s - 3mth Treasury reached 0% in 1940. UK rates were not SO low, but were rarely above 1% from 1932 to 1951).

So, glibly, one might say Keynes was right. Too much money - too few borrowers - not enough investment, but for me a few glib words are not enough. Does the story, when probed in every direction, hang together? The UK and US stories were different. UK GDP declined somewhat (it was never the catastrophic drop usually conjured by “the 30s” - a mere 5 or 6 %) between 1929/30 and 1931 and then rose quite fast (4.3% per year) to 1943, and during a lot of this time (in fact 1925 to 1940) GFCF kept pretty high. In the US (presumably due to the spread of popular culture, UK people seem to have felt that they lived through the American experience), output plunged over 4 successive years (1929 to 1933) by thirty percent, then rose all the way to 1944. UK and US regained 1929 levels in 1934 and 1939 respectively. US GFCF, having risen fast from 1921 to 1929, fell by 75% to 1933 and did not really recover 1929 levels till 1946.

So both countries had historically low interest rates, but investment went on undisturbed in UK, while being sandbagged in US.

7.11.96 p102

Note that last bit is based on “100 Years of Statistics” (The Economist, 1989). Keynes’s statistics on investment are, in the case of US, about double (in current dollars!) but right in relative terms; in the case of UK, Keynes shows a steady decline whereas “100 Years” gives fairly constant numbers throughout. To my mind, the mystery is not the strength of UK investment, but why it was SO LOW in a time of steady growth.

Keynes says the above “is to some extent a digression”, but persists in saying that depreciation … [I later broke in here to insert the following long comment]

______________________________________

I note here that Keynes has slipped from regarding depreciation as a negative term in income, to speaking as if it was the difference betwen income and net income. Before, he had characterised this difference as V, the hypothetical contingency element. He now says (p104), ”It is important to emphasise the magnitude of the deduction which has to be made from the income of a society before we arrive at the net income which is ordinarily available for consumption”. But the previous 2 or 3 pages have discussed nothing but “depreciation” deductions. This confusion is important enough to re-document here:-

Note added much later:- I think the following is too kind to Keynes. Above, he is using net income to mean income minus depreciation, whereas previously, income was defined after depreciation, and net income was this minus more-or-less-(un!)expected costs, V.

top of p54 income=A - U

middle of p53 U = (G’ - B’) - (G - A1)

p52 1st para A1=purchases of finished output from other entrepreneurs

top of p53 G’ - B’ =value of equipment if it HAD NOT BEEN USED

G = actual value

So (pp 52, 53) U = A1 + depreciation = “user cost”

i.e. (pp 52-54) income includes a negative term for depreciation

middle of p57 net income = A - U - V

So income - net income = V, and nothing but V

p56 V= “supplementary cost”

To follow this we have to start at the top of p56

depreciation is due to voluntary decisions to produce

there is also an involuntary loss due to

“e.g. a change in market values, wastage by obsolescence or the mere passage of time, or destruction by catastrophe such as war or earthquake. Now SOME PART (says he) of these involuntary losses, whilst they are unavoidable, are - BROADLY SPEAKING (says he) - not unexpected ( does the wily Keynes regard not unexpected as being entirely the same as expected?); such as “normal” obsolescence which, as Professor Pigou expresses it, “is sufficiently regular to be foreseen, if not in detail, at least IN THE LARGE”, including losses sufficiently regular to be commonly regarded as “insurable risks”. ... Let us call the depreciation of the equipment, which is involuntary but not unexpected, i.e. the excess of the expected depreciation over the user cost, the supplementary cost, which will be written V”.

So we seem to have

involuntary loss = “not un”expected involuntary loss + unexpected involuntary loss

= “supplementary cost” + “windfall loss”

= V + W

V is taken off income to give net income for consumption purposes

W (this is my symbol – Keynes has not so far found it necessary to give it one) is taken off capital - Keynes devotes quite a lot of space to saying that V and W are not at all clear cut. A lot of this is covered quite extensively above, with quotations.

Later, on p62, Keynes specifically defines

investment=A1-U

net investment=A1-U-V

Thus, investment explicitly includes (voluntary) depreciation due to use, and net investment is arrived at by subtracting involuntary depreciation, but ignoring “windfall losses” i.e., totally unforeseen and unforeseeable losses of value

What is now “clear” (as thin mud) is that income includes a (negative) element for voluntary losses on the equipment, whereas net income subtracts an additional quantity for involuntary but (sort of!) foreseeable costs, due e.g. to the mere passage of time.

End of long comment. I resume from where I broke off:-

Keynes says the above (p104) “is to some extent a digression”, but persists in saying that depreciation “is a heavy drag on the propensity to consume (remember he was at pains to say this was a shape, a functional relationship!) which exists even in conditions where the public is ready to consume a very large proportion of its net income”. I believe this is simply incomprehensible.

8.11.96 Back to Keynes

In the first place, he does not really show that the effect of depreciation is “a heavy drag”. He merely reproduces tabulations from “Mr. Colin Clark’s National Income 1924-1931” and “preliminary results of Mr. Kuznet’s forthcoming book”, showing gross and net (i.e. gross minus depreciation) annual investment, the difference (gross minus net) being labelled in the first case “value of PHYSICAL WASTING of old capital”, and in the second, “Entrepreneurs’ servicing, repairs, maintenance, depreciation and depletion”. Keynes admits that “it is not clear how closely his [Clark’s] ‘net investment’ corresponds to my definition of this term”. The only (stupefied) response one can make to that is:- given that Clark specifically names it PHYSICAL WASTING, and that Keynes’ definition (see just above) specifically excludes physical wasting (except by the ravages of the mere passage of time) and is in any case hopelessly vague, it is virtually certain that it does not correspond AT ALL. Keynes’s few lines of introduction of Kuznetz show that neither he nor Kuznetz had much idea of WHAT the numbers included - they were merely direct transcriptions of what FIRMS wrote down.

Now Keynes has defined as above what he means by net income, and he has said that NET income determines consumption. The reasoning behind this last assertion is totally obscure (except in the self-evident sense that net income sets an upper limit to consumption), but in Keynes own terms, he cannot say that anything he has presented has had any bearing at all on the SIZE of this “drag” (the gross minus net component, V). So he has not shown the drag is “heavy”, but further, in my view, he has not actually shown, as distinct from stated, that this gross/net difference IS or MIGHT BE a drag. I suppose he might be saying that if machines become obsolescent WHILE THEY STILL HAVE USE IN THEM, this is in a sense a waste of effort, and if the rate of obsolescence was fast enough, workers’ work could be getting junked as soon as they produced it. But there are no words in the book along those lines. Anything like normal use to end of life can hardly be called a drag on consumption.

11.11.96

Long essay cum review starts here

Still p104

Keynes’s coda to this Chapter 8 (“The propensity to consume:- I. The objective [!] factors”) begins here.

“Consumption - to repeat the obvious - is the sole end and object of all economic activity. Opportunities for employment are necessarily limited by the extent of aggregate demand. Aggregate demand can be derived only from present consumption or from present provision for future consumption. The consumption for which we can profitably provide in advance cannot be pushed indefinitely into the future. We cannot, as a community, provide for future consumption by financial expedients, but only by current physical output. In so far as our social and business organisation separates financial provision for the future from physical provision for the future so that efforts to secure the former do not necessarily carry the latter with them, financial prudence will be liable to diminish aggregate demand and thus impair well-being, as there are many examples to testify. The greater, moreover, the consumption for which we have provided in advance, the more difficult it is to find something further to provide for in advance, and the greater our dependence on present consumption as a source of demand. Yet, the larger our incomes, the greater, unfortunately, is the margin between our incomes and our consumption. So, failing some novel expedient, there is, as we shall see, no answer to the riddle, except that there must be sufficient unemployment to keep us so poor that our consumption falls short of our income by no more than the equivalent of the physical provision for future consumption which it pays to produce today.”

Added later:- The above expresses:

income - consumption = investment (links to next but one paragraph)

In this passage, I think Keynes has smartly changed the subject, without saying so. He has just spent the whole of section iv of chap 8 “showing” that although employment depends on production, consumption is a function of net investment, and this (gross - net) term (previously denoted by V, but this symbol is not used in this text) is a “heavy drag” on consumption. The passage just quoted does not mention V at all, but merely the extent to which “financial” provision for future capital goods production exceeds actual current capital goods production. If this is NOT a non-sequitur, it can only mean that Keynes is re-defining V as just this excess, i.e., V is his hated “sinking fund”, provision for future replacement of capital goods, but if that is so, it must include ALL depreciation, and not only the “not due to use but merely to the passage of time” element as defined above, and which he has so far signally failed to quantify. Nor does he give one scintilla of argument to support the bizarre notion that this “sinking fund” is just money hidden uselessly away, when in reality it would be at the disposal of other entrepreneurs.

What does his lapidary last sentence mean? It seems to me to say merely that expenditure (on consumption and capital goods) necessarily equals income.

Of course, this is “a riddle”. Economics is full of such riddles. There are in economics innumerable inviolable arithmetical identities, often involving thousands or millions of agents, which provoke the question of how the two sides of the identity can possibly match. The answer usually is that they are bound to match because each element of the aggregate on the left hand side has a counterpart somewhere on the right hand side.

Another way of looking at it is that it is inconceivable that any mismatch could possibly persist for ever. Suppose we set up a rule that there can never be a persistent net flow of value over the boundary of any enclosure. Now that may be a riddle, since it would appear to violate the rule that free agents can do what they like. But clearly, the idea of a quasi-steady state implies that the enclosed space is not going to become a desert, or a place peopled with an ever-growing population of trillionnaires.

Keynes, being at heart a journalist dealing with his day’s headlines, makes unemployment a central part of his thought, as that last sentence shows. Economics is about employment, not unemployment. Unemployment is a matter of social disfunction, with virtually no impact on economic progress, or growth.

Note 1. Keynes, writing a “general theory” of employment freely uses the term “unemployment” as if it needed no definition. He does not bother to define “employment” either, and it does need to be defined, but at least it has a common sense meaning - at the very minimum, “the state of being employed, of doing something.” This obviously refers to something which can be observed. Unemployed, however, means not only that the person is doing nothing, but that he is in the unobservable mental state of wanting to do something. So, whereas a researcher could go around counting the number of employed, merely (in principle) by looking, he would need, in the case of the unemployed to ask each individual who observably was doing nothing whether or not he wanted to work. The number of unemployed can therefore fluctuate without limit as to speed of change or as to magnitude, merely by people changing their minds. Keynes’s “riddle” is the unremarkable one that it is most unlikely that every person who just happens to want a job will just happen to find one conveniently at the place and time it is required.

Note 2. Keynes talks of involuntary unemployment, but by this he appears to mean unemployed people who are ready and willing to work at the (lower) price or wage decreed by the market, but cannot find an employer offering this wage.

Note 3. In 1936, when Keynes wrote, there might be 4 adult people in a row who were unemployed, perhaps a housewife with a child, a housewife with no child, a boy of 17 living at home, and a man with a wife and 4 children. Only the last might be in patched clothes and in danger of starving, and this is the one who formed the image in the minds of Keynes and his audience as to what unemployed meant. It did not mean “without work”, or even REALLY “without work and looking for it”, but “without work, and for that reason without income, and thus miserable, hungry, angry, and potentially revolutionary”. So the problem of unemployment was never rigorously distinguished from the problem of people cut off from income and hope. Clearly, neutral scientific reasoning is in order to discuss the mechanisms by which the active proportion of the population is determined, but is quite inappropriate when discussing people who are hungry and miserable, and potentially angry and dangerous. Hence the evangelistic and polemical language of “so poor that there must be sufficient unemployment”.

If one doubts this, put this sentence in its original form alongside a version which expresses EXACTLY the same sense by inverting the words, and finally compare with the neutral version. Remember again:- the 3 sentences all say EXACTLY the same thing.

Original with its “left” spin. “So, failing some novel expedient, there is, as we shall see, no answer to the riddle, except that there must be sufficient unemployment to keep us so poor that our consumption falls short of our income by no more than the equivalent of the physical provision for future consumption which it pays to produce today.”

The same with “right” spin. So, failing some novel expedient, there is, as we shall see, no answer to the riddle, except that there must be sufficient employment to keep us so prosperous that our consumption falls short of our income by no less than the equivalent of the physical provision for future consumption which it pays to produce today.”

The same with no spin. So, there is, as we shall see, no riddle, in that there must always be just sufficient employment to keep us at a level of prosperity such that our consumption falls short of our income by exactly the equivalent of the physical provision for future consumption which it pays to produce today.”

But then, the last comes perilously near to a tautology! (I note that I have summarised a long way back:-

Income = value of output = consumption + investment

i.e. income = value of output for consumption + value of output for investment goods)

He now goes on to “look at the matter” differently. This is a further rigmarole, which I have no option but to copy (p105).

“Or look at the matter thus. Consumption is satisfied partly by objects produced currently and partly by objects produced previously [remark from the little-boy-bystander to emperor Keynes - is not ALL consumption satisfied by objects produced previously? Keynes - unlike Marshall - does not even pause to reflect on this long/medium/short/shorter- term continuum], i.e. by disinvestment. To the extent that consumption is satisfied by the latter, there is a contraction in current demand, since to that extent a part of current expenditure fails to find its way back as a part of net income. Contrariwise whenever an object is produced within the period [little-boy-bystander fairly shouts - WHAT PERIOD?] with a view to [with a view to?] satisfying consumption subsequently, an expansion of current demand is set up. Now all capital-investment is destined to result, sooner or later in capital disinvestment. Thus the problem of providing that new capital-investment shall always outrun capital-disinvestment sufficiently to fill the gap between net income and consumption, presents a problem which is increasingly difficult as capital increases. New capital-investment can only take place in excess of current capital-disinvestment if future expenditure on consumption is expected to increase. Each time we secure to-day’s equilibrium by increased investment, we are aggravating the difficulty of securing equilibrium to-morrow. A diminished propensity to consume to-day can only be accommodated to the public advantage if an increased propensity to consume is expected some day.”

And later ....

“Every weakening in the propensity to consume regarded as a permanent habit must weaken the demand for capital as well as the demand for consumption.”

12.11.96 still p 105

Is Keynes doing any more than stating the obvious, namely that the consumption/investment ratio has an non-zero optimum? A steady state productive society would have a steady state C/I ratio, the I being re-investment needed to replace worn-out machines. Of course, Victorian rhetoric, which he and contemporaries had grown up with, was that thrift was an unalloyed good. You could not have too much thrift. Prudent finance! The Victorians nevertheless lived through a period of growth and, on the whole, fullish employment. Thrifty middle classes had nice clothes which they used very thriftily. Waste not want not! The working classes were compulsorily thrifty. They were paid, and accepted, low wages so that the middle classes could thriftily save. Keynes fixed on the notion that the increasing numbers of unemployed, possible prey to propaganda coming from Marx and later from Moscow, were due to too much thrift, or rather, too much rhetoric of thrift, since this is the quantity he really observed. Of course, everybody already knew that all investment and no consumption was not only an absurdity, but an oxymoron. So everybody knew that saving had an optimum - you could have too much of it. But they could not stop talking as if they did not know this. Keynes seemed to think that they also acted as they talked, that their instinct in a recession was to recede still further. But surely this was a parochial thought of his time and place, since cycles are always going on, recovery is the rule rather than the exception, and all without the help of Keynes. Indeed, Keynes on p98 says as much:-

“Thus, when employment falls to a low level, aggregate consumption will decline by a smaller amount than that by which real income has declined, by reason both of the habitual behaviour of individuals and also of the probable policy of governments [borrowing to pay unemployment relief]; which is the explanation why a new position of equilibrium can usually be reached within a modest range of fluctuation. Otherwise a fall in employment and income, once started, might proceed to extreme lengths.”

So he gives a text-book “Keynesian” description of how pre-Keynesian economies recovered!

Now, what Keynes is talking about in the last quoted “summary”, is not steady state, but change of state. If “consumption is satisfied by disinvestment”, it can only mean that a recession is in progress. If “contrariwise” all consumption is from current production AND new investment in capital goods is taking place, a boom is in progress. So down to the sentence beginning “Thus ...”, Keynes is re-stating givens. The “Thus..” sentence introduces a “problem”, that of filling the gap between net income and consumption. If we take (Keynes has a cavalier disregard for clarity on such matters) net income to be what he has specifically said it is, namely income minus V, the foreseeable depreciation due to the mere passage of time, this gap must be made up of use-depreciation and new capital goods investment. However, as we have seen before, Keynes, having made much of the distinction between use- and obsolescence-depreciation, tends to forget it in his flights of argument, and I think the gap is merely net new investment, as his next sentence seems to confirm. Thus, from here to the end, we are talking neither about steady state, nor a cyclical state, but a steady-growth state with ever increasing investment and ever increasing consumption. What the “problem” is (note, incidentally, that Keynes’s syntax is “the problem .....presents a problem which ....”; this tends to confirm my suspicion that no-one - himself, colleague or editor - ever read Keynes’s stuff with any close attention after drafting) is not explained. On the level of pure logic, it is simply not true that “each time we secure to-day’s equilibrium by increased investment, we are aggravating the difficulty of securing equilibrium to-morrow”, if, as is usually the case, each year shows positive growth. Steady growth is not only logically possible, it has been the post-(2nd)war norm. So this paragraph, introduced as if it were going to be a second way of summing up, in fact turns out to be a second way of saying nothing or next to nothing. As in the first, the true aim of the convoluted prose is exposed in the last sentence, and, as in the first case, has nothing to do with economic theory but does carry forward Keynes’s polemic. This is that over-thriftiness is misconceived. Today’s thrift MUST find its expression in tomorrow’s consumption. This echoes the first sentence of the first summary:- “Consumption - to repeat the obvious - is the sole end and object of all economic activity.” Well, he said it - IT REPEATS THE OBVIOUS. Nothing to do with any theory, let alone a general theory. The fact that Keynes goes on a bit more, and then ends his chapter with third statement of the obvious:- “Every weakening in the propensity to consume regarded as a permanent habit must weaken the demand for capital as well as the demand for consumption”, shows that he thought that numbskulls of the order of Montagu Norman needed to be hit with every weapon in the rhetorician’s book, tendentiousness, slipperiness, vagueness, complexity, convolution, studied incoherence, AND repetition! Theory, the more obscure the better, had only one purpose:- to defend the author from the mandarin charge of not knowing what he was talking about, which would of course have been levelled at anyone who simply stated the obvious in one or two sentences in words of one syllable.

Lastly, Keynes makes very heavy weather of a really incomprehensible “ultimate perplexity”, namely that if investment takes place, it makes it difficult to think of further investment projects. I am ultimately perplexed that I cannot see any perplexity in this.

Much later (26.2.97) I pick out again this sentence:- Thus the problem of providing that new capital-investment shall always outrun capital-disinvestment sufficiently to fill the gap between net income and consumption, presents a problem which is increasingly difficult as capital increases.

Rephrased:- Net NEW plant investment is increasingly difficult as plant investment increases.

Rephrased again:- Progress is increasingly difficult as progress is made.

With any phrasing:- WHY?

Long essay cum review ends here

Chap 9 The propensity to consume:- II. The subjective factors

Mercifully short. The subjective factors for a negative propensity to consume are Precaution, Foresight, Calculation, Improvement, Independence, Enterprise, Pride, and Avarice.

The corresponding motives for consumption are Enjoyment, Shortsightedness, Generosity, Miscalculation, Ostentation, and Extravagance.

Companies and institutions save for the motives Enterprise, Liquidity, Income, Prudence.

Having thus cursorily introduced the subjective factors, Keynes immediately dismisses them as more or less constant background, and turns to the influence of an objective factor, interest.

This is in a chapter labelled “II The Subjective Factors” immediately following one labelled “I The Objective Factors”.

This again reinforces my impression that nobody edited this book.

However, this promises to be “original”, since Keynes takes the opportunity to state that if interest rates GO UP, people will be motivated to consume LESS, but contrary to appearances, this does NOT mean they will save MORE! Why? Because entrepreneurs MUST borrow less. I.e., the lender proposes, the borrower disposes. So if savers save more, they will save LESS, AND they will consume LESS. I.e. although Keynes incomprehensibly does not say so, employment would decrease. He ends up by saying that if interest rates were lowered, so that entrepreneurs bought more capital goods, and presumably both saving and consumption increased, a point would be reached where there is full employment. Lastly, he implies that, given that interest rate can be used thus to obtain full employment, the saving/consumption ratio can be anything. So Eddie George would very pleased to hear that the interest rate can produce full employment AND any other result you desire. The above fantasm rests on the idiocy that something or someone just wakes up one morning and issues a decree on interest rates. I feel a IS/LM diagram coming on. This is reproduced below for convenient reference (with a bit of an essay, added later). Note that Keynes had absolutely no part in producing this “Keynesian” diagram).

------------------ IS/LM diagram below ------------------------------------------------

The IS (investment/savings) curve is the locus of points where the supply of investment funds (savings) is equal to the demand for such funds (physical investment). This locus is plotted as a function of the (long term) interest rate (vertical axis) and the national income. The IS curve is downward sloping, i.e., interest rate r declines with increasing national output. The reason is as follows. At periods of low national output, consumption takes priority, and so saving is not only absolutely less, but relatively so. Funds for investment are therefore scarce and interest rates are high. The converse obtains at periods of high national output.

IS Investment/Savings

LM Liquidity/Money

The LM (liquidity/money) curve is the locus of points where the supply of money, released let us say by the sale of bonds, is equal to the demand for money to perform transactions. The LM curve slopes upwards for the following reason. At periods of low national output, the volume of transactions is low, the money available for the buying of bonds is relatively plentiful, so interest rates would tend to be depressed. At periods of high national output, the converse applies.

The above implies that there is only one point of equilibrium of all six variables, where 1 the long-term interest rate, 2 the rate of plant investment, 3 the rate of savings, 4 the rate of buying bonds, 5 the quantity of money, and 6 the national output, are all at mutually consistent and steady values.

[later 23.3.2001. Inserted from elsewhere. For Keynes/Hicks, IS is the (savings)/(PHYSICAL PLANT investment) balance, while LM is the money/bond balance.]

-------------------ESSAY ON LIQUIDITY AND IS/LM BELOW-------------------------------

5.3.2001 Much later:-

I read the above (my own) paragraph with my usual incomprehension. I do believe that nobody understands IS/LM, because, if anybody did, then it would be possible to find some comprehensible explanation of it, and I have found none. Just who is supposed to be selling those bonds to whom? And just exactly what is liquidity? Investment, saving, interest rate and national income I think I can just about understand, or at least, I could write stuff down which would give the illusion or appearance of understanding. Money is elusive, but at least we all know how to use it, and can talk about it familiarly. But liquidity?? LIQUIDITY mon dieu????? This is a word almost totally unused in normal speech. A simile or a metaphor is universally based on usage in the real world. There may be room for discussion as to what exactly a wet blanket is, but none whatever on what constitutes an actual wet blanket. But here, in the mouths or our egregious economists, we have a metaphor with no real world counterpart. Substances are either liquid or they are not, or if there are gooey non-liquids, nobody to my knowledge has ever enquired as to their liquidity. In business chat, people liquidate their assets, or they “go liquid”, or they go for liquidity, but this just an in-group way of saying that they are selling the stuff in exchange for (what else?) cash. Pedantically, you could say that “liquidity” is “the state of having your assets in cash form”. There might be a dozen reasons for selling assets, but this picture we are dealing with now narrows down to the desire to do “transactions”, and in a time of low income, there is, it is said, a shortage of this desire.

I consult the Penguin “Dictionary of Economics”. It mentions, but otherwise ignores, the IS line. OK. That is the one that is relatively clear, i.e., I can parrot plausible sounding words on that. The explanation of the LM line is wonderfully simple. L is the demand (or desire, to use my word above) for money, and M is the supply of it. It simply states that “a high level of national income stimulates the demand for cash”, just like that. This is equilibrated by a correspondingly high rate of interest. The author, no doubt, has led many a class through this boggy mess. Like all of them, he knows not to get too explicit, not to get two foolish and contradictory ideas in adjacent phrases or sentences.

Leaving aside any niggle about whether there is any factual content here, how would an innocent present this? He would say that at high national income, i.e., a time of boom, there is at once a high business need (L) for cash, and among consumers a relatively high level of savings (S). With high demand meeting high supply, there would be a middling level of interest rate. However, this is too simple. How many exam questions can you get out of that? So we have to separate L and S and deal with them in separate sentences, preferably with intervening distractionary text.

1) At high national income, there is a high business need for cash, which naturally (please try to keep up at the back there) must be equilibrated in the supply (M) and demand (L) market by a high interest rate.

2) At high national income, consumers place a relatively low stress on consuming, so there is relatively high saving, which naturally must be equilibrated in the supply (S) and demand (I) by a low interest rate.

So, in our diagram with national income i on the x-axis, and rate of interest r on the y-axis, we have two points, respectively in the top right and bottom right of the diagram. Reverse all the highs and lows above to produce sentences 3) and 4), and to produce corresponding points, respectively in the bottom left and top left of the picture. Join them to represent all stations of national income in between, and you have the IS/LM diagram, showing that the overall equilibrium point, all 6 variables considered, is at a middling value of r, just as in my one-sentence version above. (Of course, the IS/LM version gives also a middling national income, whereas my simple (and more plausible) version can tolerate any national income.)

Keynes never lowered himself to get into the IS/LM movement. He stayed mum. Hicks, who invented this diagram as encapsulating all of Keynes, and who confessed at retirement age to not understanding it himself, suggested that its universal acceptance owed everything to its suitability for the blackboard. The lines can be “shifted” to show how the economy will respond to this and that. The simplest question posed by the bystanding child cannot be answered, but a roomful of undergraduates are not going to take their eye off the ball – namely to get a first class degree if they can by answering upcoming exam questions “correctly”.

The above “clarification” of the Penguin Dictionary does not, of course, mean that all is clear. It just means that I have retrieved the position I reached the last time IS/LM came up. The following unanswered questions come up:--

1. All of the following can (at least be imagined to) have numbers attached to them:-- Rate of interest, national income, investment, savings, and (least plausibly) money. Liquidity, on the other hand is doubly elusive. First it is a “demand”. Any “demand” is a state of mind, by definition, but at least, when it is used in its usual sense in relation to goods and services, the thing that is demanded is reasonably concrete. The counterpart of demand, in this sense, is sales, a concept to which a number can be assigned. Money too can be assigned a number, but which number is by no means clear, as M0, M1, M2, etc., show. Liquidity, or more fully, liquidity preference, or more fully and comprehensibly still, the desire or demand for money, is a phantasm, an idea of an idea, rather than a physical quantity.

2. Just what in the real world corresponds to those two supply and demand markets, the loci of whose (i, r) balancing pairs form the IS and LM lines, and which seem to share, by definition a common r? The IS line seems to represent the old, “classical” as Keynes would have said, idea of the individual saver “supplying” money to a bank and the individual entrepreneur “demanding” it from the bank. But who are the actors in the LM market, and what are they supplying and demanding? Are the actors the same savers and entrepreneurs who figure in the other market? Or are they supposed to be government, investment banks or trusts? If the “demanders” are borrowing money, or issuing a bond in exchange for money, how does the mere transfer of cash from one pocket to another (a paper title going the other way) affect anything real? If it is a question of the government “printing” money, then it is certainly on the supply side, but who is the demander?

The success of the IS/LM diagram seems to be due to the elimination of price as a market determinant. Money units do not appear at all, the function of price being played by the dimensionless number r. It is a monetarist macroeconomic diagram, in the sense that money units (inflation etc.) do not matter, in the equilibrium long-run. It lends itself, in the same way as the normal price and quantity diagram, to imaginative “shifts”, i.e., ways of making a static diagram seem dynamic, so that verbal stories can be woven around scenarios of blips or business cycles – temporary departures from the long run stability.

It has had a long run, and is often said to be the basis of the many (totally useless) forecasting computer programmes in existence, but I have the impression that your go-ahead young economist today regards it as old-hat, not to be mentioned seriously.

--------------------- IS/LM diagram, and added essay, above -------------------------

13.11.96 still p 111

All the above is rendered by Keynes very swiftly, in 2 pages, with no qualifiers or hesitations. His train of thought is as follows:-

1. interest rates rise

2. a) people consume less and save more [nominally:- he does not say, but must mean]

b) entrepreneurs cut down on investment projects at the margin

3. so consumption, AND the production of capital goods, are BOTH reduced

4. therefore there is inflation, if nominal incomes are not affected [again not said, but must be the case]

5. everybody is worse off

Now let’s run this through in reverse:-

1. interest rates fall

2. a) people consume more and save less [nominally:- he does not say, but must mean]

b) entrepreneurs undertake additional investment projects at the margin

3. so consumption, AND the production of capital goods, are BOTH increased

4. therefore deflation, if nominal incomes are not affected [again not said, but must be the case]

5. everybody is better off

But, he is assuming there is a magic wand to decree interest rates, which quite clearly there is not. The more realistic progression is this:-

1. people exercise the virtue of thrift - they save more - and consume less

2. there is more money, so interest rates fall

3. entrepreneurs undertake additional projects at the margin

4. so production of capital goods increases and consumption decreases

5. people may then - in the long run! - be better or worse off depending on which side of the optimum consumption/investment ratio one starts off from.

So I say Keynes’s coda is wrong:--

“The more virtuous we are, the more determinedly thrifty, the more obstinately orthodox in our national and personal finance, the more our incomes will have to fall when interest rises relatively to the marginal efficiency of capital”

because to picture a society which is obsessively thrifty AND where interest rates are rising is, to say the least, unconvincing.

So, once again, we have Keynes stating with great confidence and eloquence a seemingly fundamental theoretical “truth”, when in reality he is simply finding another way, completely unsupported by theory or evidence, to state his gut-feeling in 1936 that financial over-prudence was at the root of the tardy recovery from 1929.

Chap 10 The marginal propensity to consume and the multiplier

He starts off “We established in chap 8 ....”. The usual rhetorical way. You flannel on page X, then 50 pages later, when the reader has forgotten what he read there, you say “We established on page X … ”. This gives the book an air of solidity.

What he alleges he established is:-

“Employment can only increase pari passu [in step] with investment unless there is a change in the propensity to consume.”

[Note added much later, 20.3.2001. This vague stuff is the basis of the famous multiplier, as will gradually dawn below!]

Rephrase:- Employment increases only “in step with” new investment, if consumption does not change. Result:- tautology (inc = emp = con + inv)

This is typical vague Keynesian rhetoric. If he means exactly what I have clearly set out in bold above, why doesn’t he say so? Why use a dubious phrase like pari passu, and the floating “only”, if not to inject a deliberate degree of vagueness? (but see alternative a few lines below!)

I’ve tracked this “we established” to the middle of p98, where the wording, apart from punctuation and an additional “indeed”, is exactly the same. He refers to it as “the same conclusion as before”, without indicating where “before” might be. This “establishment” was so insignificant that it is not mentioned in my notes. His proof seems to be as follows:-

1. employment rises

2. income rises in step

3. consumption rises, but by less than income

4. THEREFORE, investment in capital goods must rise

i.e., increase of employment is ALWAYS accompanied by an increase in investment, because of the “by less than income” in 3.

So “employment can only increase pari passu with investment” means “if employment goes up, investment MUST go up insofar as the additional income is not spent entirely on consumables.” If my re-interpretation is correct, it seems a fairly safe theorem, at least in thought-experiment terms..

[6.3.2001 inserted much later:- So I have three versions of Keynes’s sentence:-

His version:- “Employment can only increase pari passu [in step] with investment unless there is a change in the propensity to consume.”

My first interpretation based only on the above text:- “Employment increases with new investment, if consumption does not change”.

My second interpretation based on what Keynes said it was based on:- “If employment goes up, investment must go up insofar as the additional income is not spent entirely on consumables.”

So, again typical of Keynes, different versions of what he says are the same thing, do in fact reverse the order of causation. Sufficient unto the page is the plausibility thereof.]

Indeed, I can now see (26.2.97) that:- if proposition 3 is accepted with absolutely no evidence as a GIVEN, and if it is axiomatic that

income = consumption + investment

then OF COURSE any rise in income must be SHARED between consumption and investment. And any rise IN EMPLOYMENT must be shared between consumption and investment goods. And if consumption holds steady, investment goods’ share of the additional employment must predominate.

Suppose the ratio income/investment = k

So income = k*investment or

d(inc) = k*d(inv) or

dY/dI = k [note:- k is THE Keynesian multiplier]

[23.10.2003. ESSAY on the Multiplier.

Yet another note, this one added at the point of final editing. When one reads this stuff afresh after a lapse of some years, one struggles again to understand something which one knows perfectly well is a load of nonsense, but which one cannot dismiss thus, simply because of the enormous prestige, not only of Keynes, but of all his eminent admirers and supporters. But it is fairly safe, I think, to say that none of those admirers or supporters were scientists, or if they were, they were political admirers who did not study Keynes word by word, symbol by symbol, line by line and page by page. For that matter, perhaps the readership of this note will hardly count one scientist among them. In my view, it would be impossible for a physical scientist to write about this ratio k in the way Keynes does. If you have two quantities a and b, or any two numbers a and b whatever, then of course they have a ratio. To say they have a definite ratio, as Keynes does, would simply lead to puzzlement. If you divide a by b, the result cannot but be definite. Far from labouring that point, the teacher of arithmetic to a class of eight-year-old children would not even think of formulating it. What is the state of mind of man who might be described as one of the cleverest of the western world when he uses this phrase? If he was engaged in conversation, a hearer might stop him, and say, “er, … do you mean that the ratio of the parameters a and b is a constant?” It is at this point that the plodding mind of the scientist fails to see far into the mind of the master rhetorician and debater, the man whom even Bertrand Russell despaired of beating in an argument. I would hazard a guess that a man like Keynes would never consciously aim at crude deception, but his stock in trade as a brilliant debater involves nevertheless a drive to convince rather than a drive to arrive it the strict honest truth. So, when asked this question, he would at once, and unconsciously, avoid the obstacle, just as a person walking on a wet path might step over a puddle without even noticing its existence. Keynes would sense at once that he would give a hostage to fortune if he was forced to say outright that k is a constant, and yet this would be something worth remarking in the third opening sentence of his Chapter 10. When this sentence says in reality, “In given circumstances a definite ratio, to be called the multiplier (his italics) can be established between the total employment and the employment directly employed on investment”, it is in arithmetical terms saying precisely nothing, since it is like saying that a “definite” ratio can be “established” between the two numbers 2 and 3, the words in quotation marks being totally inappropriate to the context. In other words, a sentence which Keynes is presenting as a new revelation is, when read attentively, saying nothing. Now, if he could have inserted the word “constant”, that would make the sentence as remarkable as could be wished – remarkable but absurd, as Keynes instinctively knew. Unconsciously, what he as a debater wished to do, I suppose, was to leave in the mind of his readers the vague notion of something like a constant, without entering the dangerous and indefensible ground of making this meaning clear. By proceeding in this eloquent but slack way, he is enabled to conclude, after a further two pages of musings, that, “it tells us that, when there is an increment of aggregate investment, income will increase by an amount which is k times the increment of investment”. Thus, starting with the observation that a/b=k, a more or less trivial observation of current arithmetical fact without prescriptive value, he has proceeded to a policy prescription, that if b is laid down by administrative decree, then after a lapse of time, the result will be that a attains a value of b times this “definite” number, k.

A last stab at exposing the multiplier:-

Any two numbers yield a ratio. Obviously any economy whatever, even the most primitive, can be assigned an arbitrary split in activity between consumption and investment, i.e., between activities aimed at supplying things to eat, etc., and activities aimed at making tools, clothing, etc. If you first arbitrarily set up the line which divides and defines these activities and then quantify them in terms of man-hours, say, you can get their ratio. All modern states do something similar to this in terms of GFCF/GDP (gross fixed capital formation over gross national domestic output). Generally it is about 20% and has declined in a fairly consistent way over the last 50 years by around 3 percentage points. This number, or rather its reciprocal, is precisely Keynes’s k. So k is around 5. (Keynes flannels around this without ever being as brief or specific as this. He says its value is “definite”, but all ratios have definite values.) Nobody has decreed this sort of value. It merely comes out in the wash, like any ratio of activity levels in any two occupations in a society short of a Stalinist dictatorship.

Now, I could say that this fairly stable number being given as an observable feature of modern economies, if GDP increased by 10%, GFCF would very likely increase by 10%, or if GDP increased by 100 billion pounds, GFCF, would increase by 20 billion pounds. This would not be a “discovery” or the result of a “theory” but the mere observation of what seems to be an established pattern. Similarly, if it was observed that expenditure on GFCF had gone up by 20 billion pounds, it would be expected that further enquiry would show that GDP had gone up by 100 billion pounds. So far so good, but if common sense then left me, I might go from observational into prescriptive mode, and say that if a government raised taxes and arbitrarily boosted capital investment in any way whatever by 20 billion pounds, then GDP would inevitably follow this pattern, and would go up by 100 billion more than it would otherwise have done, the factor of 5 involved being the Keynesian multiplier, k. If reason departed altogether, I could then go on to say that the same effect would be achieved if the government expenditure was on public works, and then, if the audience still seemed receptive, extend the rhetoric to any government expenditure whatsoever, even on building pyramids or digging holes. Keynes’ genius was in dressing up this train of thought in many pages of sustained and involved musings, but with the same absence of logical development as in my version, allowing him finally to write, “And that is the General Theory”, to general applause.

Back to the original notes of November 1996]

He now talks of a “definite” ratio, the multiplier, and says that it “can be established”. What does “definite” mean? Later he says it establishes a “precise” relationship. Evidently, Keynes’s notions of “definite” and “precise” are different from the normal ones!

“Marginal propensity to consume” = dC/dY (<1) = (dY - dI)/dY = 1 - 1/k

k = dY/dI k is “the multiplier” I is investment goods

Y is income measured in wage-units (a standardised hourly wage) which is reduced in real terms as employment increases. No doubt C, consumption, is in the same units.

Keynes tells us blithely (his self confidence is staggering) that (p115) “It tells us that, when there is an increment of aggregate investment, income will increase by an amount which is k times the increment of investment”.

Apparently Keynes’s wheeze is an advance on a previous wheeze by Kahn, namely that “the EMPLOYMENT multiplier k’ measures the ratio of the increment in total employment which is associated with a given increment of primary employment in the investment industries”

This extends his thought process, which I repeat in full:-

1. employment rises

2. income rises in step by dY

3. consumption rises by dC, but this is less than income

4. THEREFORE, the balance, dI, must be investment in capital goods - call k=dY/dI

5. THEREFORE, if investment rises by dI then income will rise by k(dI)!

Yes! If you sail on without bothering your head with doubts!

Keynes started off by saying that if you increase employment, by some magic means unspecified, then it must be accompanied by an increment of investment. Well OK. But first notice that this means that some of the instantaneous (Keynes, unlike Marshall, is not always conscious of time) increase in income is spent on consumables already manufactured in the past, while some is spent on a manufacturing process which will result in the finishing of capital goods in the future. It is surely at least worth pausing to notice that a magic increase of employment cannot instantaneously increase real aggregate income. A process in time is involved. The time scale matters.

Even if this is glossed over, to convince oneself that a magical increase in employment would cause an increase in income dY and an increase in investment dI=dY/k, does not automatically and with not the least further discussion, imply that a magical increase in investment, dI, would cause an increase in income dY=k(dI)! If a magical increase in my food consumption causes me to gain weight, that does not mean that a magical increase in my weight would cause me to eat more! Or more formally, if A causes B and B causes C and C causes D, this does not mean that D causes A, or even that B + C + D cause A.

To imagine that a simple model, which quite literally could be written on the back of a stamp, is going to give a quantitative cause and effect relationship between new investment and output, especially when Keynes admits that there are no possible units in which even to measure output, is simply zany.

How is this for loose thinking p114?

“Since, therefore, real income in terms of product may be incapable of precise numerical measurement, it is often convenient to regard income in terms of wage-units as an adequate working index of changes in real income. In certain contexts, we must not overlook the fact that, in general, wage-unit income increases and decreases in greater proportion than real income; but in other contexts the fact that they always increase and decrease together renders them virtually interchangeable.”

And repeated with annotations:-

“Since, therefore, real income in terms of product may (!) be incapable of precise numerical measurement [or even of imprecise says I – it is in fact logically impossible, involving as it does the addition of apples and pears], it is often (!) convenient to regard income in terms of wage-units as an adequate (!) working index of changes in real income. In certain contexts (?), we must not overlook the fact that, in general, wage-unit income increases and decreases in greater proportion than real income; but in other contexts (?) the fact that they always increase and decrease together renders them virtually (!) interchangeable.” YAAAROOOOOH!

Note the words may, often, adequate, certain contexts, other contexts, virtually. These clouds of unknowing are raised, then simply abandoned.

Note that Keynes never says how you would actually attach a number to this “often convenient” wage-unit, and does not mention where and by whom it has ever been found to be convenient. His textual description seems to imply that it could be an average hourly wage rate in nominal currency. The equally vague labour-unit appears to be the man-hour purchasable with this amount of money.

Keynes now abandons delphic utterance and says something of startling clarity and equally startling fatuity. I think this is sufficient to acquit him of deliberate obfuscation. I quote!

p116

“It, follows therefore, that if the consumption psychology of the community is such that they will choose to consume, e.g. nine-tenths of an increment of income, then the multiplier k is 10; and the total employment caused by (E.G.) PUBLIC WORKS will be 10 times the primary employment provided by the public works themselves, assuming no reduction of investment in other directions.” YAROOP

This really is most extraordinary. One wonders why Keynes wasn’t locked up instead of being lauded to the heavens. Up to now, I’d credited him with all sorts of cet. par. reservations, and at least that any new investment merely multiplied the existing machines, each according to its kind. And even then it would be nonsense. But here he is, throwing all caution to the winds, and saying apparently that any old make-work will do (perhaps even just paying people to dig and re-fill holes?). This is not a dI, Keynes. It is a dM, an injection of purchasing power. Or, in other words, it is mere abracadabra, mystical magic runes. And he thinks this is proved by a three-line, back-of-an envelope argument!

Note that if people tended to spend 99% or 99.9% of increased income on consumption, k would be 100 or 1000 respectively. In the latter case, the embauchement of 1000 people in any old money-waster would generate 1m of employment. Hey ho, economics made easy. Has Tony Blair heard of this? He is a Keynesian, no doubt.

Unfortunately, says he, the marginal propensity to consume is neither near 1 (when small injections of stimulus would do wonders), nor near zero (when the economy would be extremely stable). I.e., it is neither like a windsurf board or a huge liner. It is somewhere in between, where natural fluctuations obscure the truth which Keynes has discovered. He gives not the slightest indication of how he arrived at even that amount of quantification. Presumably he (notionally - no sweat) worked back - using the reality to explain the model, rather than the model to explain the reality.

[Added much later, 21.3.2001. To say that dY=kdI (I=investment) as an algebraicisation of “income increases pari passu with investment” is a grotesque misuse of algebra. The mere use of k as the “multiplier” suggests it is a constant, and Keynes, probably from deep ignorance rather than from a desire to deceive, plays on that notion. If the idea being translated is merely “monotonic with”, then k is not a constant, but a function, whose variables are all the circumstances of the economy. The only pointer Keynes is giving to the value of the function k is that it is always positive, and even there he is going much too far. The response of Y to dI must depend on what exactly dI is. If it is a hole in the ground, k must be zero or negative, unless the hole has a useful purpose, unless something psychological is involved. By harping on the building of pyramids and the digging up of pound notes, Keynes is invoking such psychology, but nowhere does he tie this notion to his starting point of dY=kdI. If Keynes had said, “Employment and income is linked somehow to investment, and linked positively over the general run of history”, this would have been a more honest, if banal, starting point, but how much mileage could even he have got out of that?]

However, p119, it seems that 3 caveats are coming up. Also, a glance ahead shows that we are coming to very entertaining stuff about wars, gold mines, pyramids, cathedrals, masses for the dead, pound notes buried in bottles, and so on. No doubt the fabled brilliance of Keynes will re-assert itself!

3 caveats, which I will not sweat over too seriously:-

1. financial repercussions might countervail

2. confused psychology could get in the way

3. foreign trade could export the benefit!

All in all, he and Mr Kahn tend to think k is 2, 3, 4 or 5, UK being at the lower end, US at the upper. UK reasoning is that it has a lot of exports, and unemployment relief is financed by borrowing, so this is already, before you start, stimulating the economy!!!!! (Not Keynes’s formulation).

p122 Keynes says “The discussion has been carried on so far on the basis of a change in aggregate investment which has been foreseen sufficiently in advance for the consumption industries to advance pari passu with the capital good industries without more disturbance to the price of consumption goods than is consequential, in conditions of decreasing returns, on an increase in the quantity which is produced.” This lamely brings in the factor of time. But I am not aware of any place where Keynes had mentioned this “so far”.

14.11.96 p122

This leads Keynes on to complain that people do not understand time lags. Curious in a man who, unlike Marshall, speaks habitually as if time did not exist.

“It is obvious that an initiative of this description [a change in aggregate investment] only produces its full effect on employment over a period of time [he mentions this now, virtually for the first time]. I have found in discussion that this obvious [he now says] fact often gives rise to some confusion between the LOGICAL theory of the multiplier, which holds good continuously [how can anything so vague be said to hold good?], without time lag, at all moments of time, and the consequences of an expansion in the capital-goods industries which take gradual effect, subject to time lag and only after an interval”.

This is really quite breathtaking, and shows Keynes’s utter confidence that he can get away with anything, in other words his perhaps justified contempt for his audience. How can a “logical” theory, which states that an increment dI in investment has for its effect an increment dY=k(dI) in income, or roughly a k-multiplicative effect on employment, hold good without time lag? How can any cause have a simultaneous effect? Unless he is implying by the word “logical” that his theorem holds without time lag in an abstract Wonderland.

Note added later:- I think this is what he means! To re-phrase, he is saying “I have found in discussion that this obvious fact [of a time lag] often gives rise to some confusion between my (lag-free) theory of the multiplier, and what everybody knows to be the case”.

He then embarks on a rigmarole calculated to lose the reader, about the steps by which the effect of dI propagates, finishing up with an utterly nonsensical concluding sentence. I think the depth of obscurantism can only be plumbed by copying out verbatim the passage which directly follows the one above:-

Bottom line p122

“............subject to time lag and only after an interval.

“The relationship between these two things [logical theory, or myth, and reality] can be cleared up [!] by pointing out, firstly that an unforeseen, or imperfectly foreseen, expansion in the capital-goods industries does not have an instantaneous effect of equal amount on the aggregate of investment but causes a gradual increase of the latter; and secondly, that it may [!] cause a temporary departure of the marginal propensity to consume away from its normal [!] value, followed however by a gradual return to it. [this is just story telling - fiction-making]

“Thus an expansion in the capital-goods industries causes a series of increments in aggregate investment occurring in successive periods over an interval of time, and a series of values of the marginal propensity to consume in these successive periods which differ both from what the values would have been if the expansion had been foreseen and from what they will be when the community has settled down to a new steady level of aggregate investment. [Now follows the nonsensical punch line.] But in every interval of time the theory of the multiplier holds good in the sense that the increment of aggregate demand is equal to the product of the increment of aggregate investment and the multiplier as determined by the marginal propensity to consume.”

This “clearing up” has no value added. The first sentence merely says the variables change over time. The second flatly re-states the assertion he is supposed to be “clearing up”. He goes on:-

“The explanation of these two [which?] sets of facts can be seen most clearly [! - just wait!] by taking the extreme case where the expansion of employment in the capital-goods industries is SO ENTIRELY FORESEEN THAT IN THE FIRST INSTANCE THERE IS NO INCREASE WHATEVER IN THE OUTPUT OF CONSUMPTION GOODS. [because by foresight it has already taken place?] In this event the efforts of those newly [i.e. step change] employed in the capital-goods industries to consume a portion of their increased incomes will raise the prices of consumption-goods until a temporary equilibrium between demand and supply has been brought about partly [1] by the high prices causing a postponement of consumption, partly [2] by redistribution of income in favour of the saving classes as an effect of the increased profits resulting from higher prices, and partly [3] by the higher prices causing a depletion of stocks. [sheer fantasy piled on fantasy] So far as [1] the balance is restored by a postponement of consumption there is a temporary reduction of the marginal propensity to consume [this is a tautology], i.e. of the multiplier itself, and in so far as there is [2] a depletion of stocks, aggregate investment increases for the time being by less than the increment of investment in the capital-goods industries, - i.e. the thing to be multiplied does not increase by the full increment of the investment in the capital-goods industries. As time goes on, however, the consumption-goods industries adjust themselves to the new demand, so that when the deferred consumption is enjoyed, the marginal propensity to consume rises temporarily above its normal level, to compensate for the extent to which it previously fell below it, and eventually returns to its normal level; whilst the restoration of stocks to their previous figure causes the increment of aggregate investment to be temporarily greater than the increment of investment in the capital-goods industries (the increment of working capital corresponding to the greater output also having temporarily the same effect).

[This para again adds very little at great expense in complex obscurity - it is simply saying, what anyone would expect, namely that if sufficient time elapses, the end position is the same as in the step-change picture, with various early changes being compensated by opposite later changes. It really adds nothing to the “theory”]

Keynes finishes this section with another dose of vulnerable clarity. He states (bottom of p124) that if consumption-goods industries have slack capacity, “there is no reason to suppose that more than a brief interval of time need elapse before employment in the consumption industries is advancing pari passu with employment in the capital-goods industries with the multiplier operating near its normal figure.” This seems to me to make a whole nonsense of his argument, since it shows that in Keynes’s mind, there is no need to trace a physical connection between the specific capital-goods work done by the newly employed workers and the spare plant lying idle somewhere in the consumption-goods industry. N men just need to start work in any old capital-goods industry, and lo and behold kN men are taken on in unrelated consumer-goods industries, in spite of the fact that the work of the capital-goods men might not have physical issue for years. In that case, why specify that the first N should be in capital-goods industries? Why not in services, or in consumer-goods industries, or indeed digging and filling holes, or paid to do nothing?? The only difference would be that in the latter case, the pay-off of the work of these N men would not be apparent at all, not even after those years have elapsed.

This is simply a faith in pyramid-selling - IN PYRAMIDS!!!

Section v p125

Keynes brings up the conundrum:- would you not expect poor countries to have near-100% propensity to consume, and hence huge k values? Yes, says he, but since they are poor, they have hardly anybody working in the capital-goods industries anyway, so not much to multiply in the first place. Ho ho. This sets me wondering 2 things:-

1. Isn’t k nothing more or less than the existing ratio of consumer goods workers to capital goods workers? After all, this is the existing ratio of spend of national income on consumer and capital goods. So Keynes is saying, rack one up and the other is bound to go up proportionately - a likely story.

2. This brings to mind - what about service industries? Keynes so far as I know has not so far even referred to service industry. The index has many entries under consumption and investment and allied topics, whereas service is not there at all. Maybe the term was not current in his day. Today, we tend to think of services and other, the latter being all sorts of activities with a visible product. Keynes divides things into anything householders spend money on, and the rest which firms spend their money on.

15.11.96 p125 still section v

[Later 22.3.2001. Below, I find that I have used “50 men” where Keynes in fact assumed 5m men! My presentation thus appears fatuous, and his semi-serious, but the scale factor makes no arithmetical difference. Another example of algebra as rhetoric.]

He gives an example which is simply incomprehensible without the working shown below [added 4 years later – and mighty obscure even with it!]. His data are:-

an imaginary country which consumes all of the output of 50 men, 99% of the output of the 51st man, 98% of the 52nd, 97% of the 53rd, and so on, until the 100th man has 50% of his product consumed. 100 men is “full employment” - nowhere does he say what the total working population is. This gives the following table:-

The detail is as follows:-

50 is the employment at and below which there is no investment.

n is the employment above that.

Income is in units of men.

Investment or saving is 1%, 2%, 3%, .... n%, of the 1st, 2nd, 3rd, ..... nth, extra man above 50

and so at 50+n men is in aggregate(1+2+3+ ..... +n) hundredths of income units.

i.e., n(n+1)/2*100 income units

k is d(Inc)/d(Inv) where d(Inc) is always an increment of 1, and d(Inv) is the saving due to the last man - n% of 1 unit.

So much for the arithmetic. What does Keynes do with it? He says that if employment is 52, investment is only 0.06% of income. If investment falls by the gigantic amount (he implies) of two-thirds, to 0.02, then employment falls “only” to 51, in spite of the fact that the multiplier is huge. He contrast this with the case when employment is 90. Here the multiplier is only 2.5, but if investment now falls by two-thirds, from 9 to 3, employment declines to 69, i.e., by 19%. If investment becomes zero then employment falls to 50, a 4% drop from 52, a 44% drop from 90.

Note that Keynes, without making the slightest bow of acknowledgement, has silently moved from absolute investment changes to fractional ones. His original message was “give work to 1, this multiples to k”, where k is 3 or 4, say. However, he then realises that if a country has almost no investment, then his formula says, rather absurdly and embarrassingly, “give work to 1, this multiplies to 50 or 100”. So he slides out by suddenly talking about the implied fractional change in investment, which of course is large if you are starting from near zero.

Keynes gives no inverse formula to work in the direction of his original formulation, i.e., a formula giving the additional employment provoked by employing one more man in investment. It is, to a very good approximation:-

n = 14.1*(inv**0.5) - 0.5 which gives:-

This shows that 1 man added to zero investment gives a total employment increase of 14. Another 1 gives 5 more in total. From there on, k declines more slowly to 3 then to 2. So this poor country does have a whopping multiplier in its initial state - though only a fool or Joan Robinson would believe this.

[21.3.2001 later. Indeed. If you stand back, and think of a tribe of 50 noble savages, and try to ask yourself what the above reams of nonsense would mean, the answer would have to be – “not the faintest idea”. What do the fanciful assumptions correspond to when translated into real-world terms? What is this society with zero investment? Do the people exist in their bare skins, like wild boars? What exactly does a propensity to consume mean in such a tribe? Etc.]

He goes on to more dubious ground - not only poor countries have big multipliers, but countries temporarily poor through massive unemployment also have huge multipliers.

Using the same example, he says (p127) employment “has fallen to” 52 - he does not say from where. He then says - let 1 be added to “public works”. Reference to the first table shows that increasing employment in “investment” from 0.03 to 1.03 gives n=14, so an increase of 12, from 2 to 14 men - a stupefying increase.

He repeats the sum for a starting point of 90 men. Again we add 1. Here, table 2 shows that resulting increase is only 2 in total. He says:-

“Thus, public works even of doubtful utility may pay for themselves over and over again at a time of severe unemployment [note the assertive ‘over and over again’ alongside the tentative ‘may’!].” He does not pause to point out that at n=52, the “severe” unemployment is at a level unimaginable even in 1930s Britain, where the “high” value of n=90 would be more appropriate.

It is clear that Keynes draws no distinction between a poor country which has always been poor, and one that is rich but temporarily less so due to an unemployment level which is numerically slight, but made to appear massive by pictures of soup kitchens. Zambia, Bangladesh, Argentine, Italy - no matter! A simple and magical model indeed!

Why does k tend to 2 in the above scheme? k = d(inc)/d(inv). When the last (50th) man is added to give “full employment”, Keynes has laid down as an arbitrary exam-question assumption that 50% of his increment to income is saved. So k = 2. That’s all. Pure invention, based on nothing whatsoever. If the properties of his model had not turned out to his liking, he would have tuned his assumptions until they did.

Keynes' Magic Table

Keynes implies that the magic table below (but note that the table is my representation of what he conveys in three paragraphs, with minimal algebra) can be used to predict the result of adding employment to either of the first two columns, and I suspect somewhere he has implied that it predicts for increments in any of the three columns. In other words, he writes as if the position in any of the three columns can be adjusted as a stimulus, the values in the other two reacting automatically. This is by no means the case for algorithms representing real physical processes. A body will respond by accelerating if a force is applied to it, but it would make no sense to talk as if you could somehow make a force appear by accelerating the body. In other words, there are generally, in representations of the real cause-and-effect world, independent and dependent variables.

So, if you have 69 men employed and you add 9, 2 of those MUST be in “investment”, which moves from 2 to 4. If from the same starting point, you add 2 men in “investment”, then lo and behold, 7 more MUST spontaneously appear in “consumption”. Note that one way, if you add 9, it stays 9. The other way, if you add 2, it is “multiplied” to 9! So the effect does depend on where the seed is sown. So much for the arithmetical model. But Keynes, in his free-style musings (see below references to public works financed by “loan expenditure”, buried bottles, pyramids, cathedrals, gold mining) prefers to orate on the stimulus to growth given by any expenditure on anything whatsoever. He never gives any reasoning, or any reference whatever, to any bridge between the “mathematics” and his rhetoric.

Keynes (near bottom of p127) has a cursory reference to Kuznets “very precarious” numerical data for the US, indicating that k is about 2.5 for US (no detail given).

And now p128, the famous section vi where Keynes can be regarded (by his followers, I imagine) as frolicking around with some light relief, or, as I think, as really giving the STARTING POINT (and in my view finishing point) for his “general” “theory”. SEE EXTENDED QUOTE A COUPLE OF PAGES ON.

He defines “loan expenditure” as any government expenditure financed by borrowing from individuals. In his formulation, such expenditure is used either to increase investment (i.e. buy capital goods) or to increase the propensity to consume. He sees no need to explain this last. In my view, it is probably true, but needs to be balanced by adding “at the expense of decreasing the propensity to invest”. Suppose the “loan expenditure” was ENTIRELY spent on capital goods. How could there be any macroscopic effect, given that the government has,

or may have, merely diverted it from one private sector capital project, to another of the government’s choosing? If, on the other hand, the “loan expenditure” is partly spent on consumption, either by buying paper-clips or by paying the wages of civil servants, then here too, one has to bear in mind that if the government had not borrowed the money, it would necessarily be spent somehow. It is then incumbent on anyone trying to draw conclusions to show that the mix of the government spending is somehow healthier than the alternative mix of expenditure in the private sector.

Now Keynes, in his manner of hitting opponents with their own jargon, points out that if a man is involuntarily unemployed (i.e. he would work for less, but no jobs are offered), then “the marginal disutility of [his] labour is necessarily [i.e. by Keynes’s definition of involuntary] less than the utility of the marginal product”. This sounds to me as if he is saying the man would do SOME work FOR PLEASURE i.e. for nothing. Some careful argument from Keynes is now called for, but he simply says “If this is accepted, the above reasoning [above can only mean the stuff on k] shows [he says!] how “wasteful” loan expenditure may nevertheless enrich the community on balance. Pyramid-building, earthquakes, even wars may serve to increase wealth.”

As pointed out above, this transition from PLANT investment, to ANY useful expenditure, and then to any, even WASTEFUL expenditure, dropping all mention of disutility or propensities to consume or supplementary costs or windfall costs, is made without even a word of bridging text.

Instead of nailing this appealing thought down, he dives off to remark that practical commonsensical statesmen seem to prefer wholly to partly wasteful forms of public relief. Skating off on an entertaining but not apparently relevant tangent, he says that gold-mining is wholly wasteful, whereas giving a loan for public improvements at a reduced rate of interest is not considered (I’m certain this is not true – useful public works of all sorts were and are legion). He then goes on to his famous project for achieving full employment and increasing wealth all round, by burying bank notes to simulate a gold-mine. He admits it would be better to do something useful like building houses (which the governments of his day certainly did), but there are political and practical difficulties.

He says that periods of producing more gold have been prosperous ones, and cites the increasing production of gold in slumps, due to real price rise, as helping to cure recession. No references given. He asserts, in effect that gold ingots are never in surplus, nor do they amass running cost commitments. Like pyramids, cathedrals, dirge-singing, masses for the dead, two are twice as good as one - not so two railways from London to York, says he, quite arrestingly. He ascribes the fabled wealth of ancient Egypt to having both pyramid-building and gold-mining - utter nonsense of course (the Nile, flooding, and agriculture were slightly relevant) - but OK for King’s or Bloomsbury dining tables. But we, with our prudence, take careful thought before financially burdening posterity by building houses for them!

Sometimes one wonders both at Keynes’ capacity to talk complete nonsense, and at his audience’s capacity to admire it, smile at it, and swallow it.

Now a sentence which sounds important at first reading:-

“The sufferings of unemployment [are] an inevitable result of applying to the conduct of the state the maxims which are best calculated to ‘enrich’ an individual, by enabling him to pile up claims to enjoyment which he does not intend to exercise at a definite time.

Book IV ends with that clever sentence, rather as a good newspaper column might. In fact the whole of the last section vi of Book IV has the air of a newspaper article. Keynes says the section follows from “the above reasoning”, i.e. on the stuff about the multiplier, but nothing in the multiplier theory considers or even mentions paying people to do something USELESS. It rests (very precariously at that) on the assumption that what is not spent on consumption is necessarily spent on investment, and then inverts this observation (without drawing attention to this sleight of hand) to mean that employment on investment goods necessarily produces employment on consumption goods. If this was leading up to the pyramid-building idea, why did it not start with suggesting a straight transfer of buying power from the rich employed to the poor unemployed, which is what pyramid-building is? (And we don’t even know that. Maybe the workmen were press-ganged from the fields, or imported as slaves from far away.)

However, although Keynes is content to leave his sentence, which I have picked out in bold above, hanging in the air, let’s look at it.

It sounds analogous to mercantilism, which was a similar mis-perception that a state, like an individual, should maximise the gold and silver within its boundary. I.e., foster exports, hinder imports. The free-traders pointed out that the merry-go-round went round better if exports were fostered, and the gold spent on buying imports.

The “individual” in the quote piles up claims in the form of a portfolio, i.e. readily marketable assets in other firms or institutions. How can a state pile up claims? It can certainly pile up assets in the form of nationalised industries or of shares in private industry. BUT, TO USE THE SAME TENDENTIOUSNESS AS KEYNES, WE CAN BE FAIRLY SURE THAT THAT IS NOT WHAT HE HAD IN MIND. He would presumably have been in favour of the state copying the individual in THAT way.

Added later:- Keynes was objecting to the state following the maxims of individual thrift. No doubt in his day these maxims were freely deployed as rhetoric. But in reality, there is no way that a state can, within its own boundaries, have title on expenditure tomorrow. I suppose he just means that in hard times, state penny-pinching does more harm than good.

18.11.96

What I referred to above as “the famous section vi” is now given in full below. In my view, the following is the REAL substance of Keynes’s book ostensibly on a “general” economic “theory” of something or other. It is given verbatim (pp129-31). There are no comments or emphases added by me:-

“When involuntary unemployment exists the marginal disutility of labour is necessarily less than the utility of the marginal product. Indeed it may be much less. For a man who has been long unemployed some measure of labour, instead of involving disutility, may have a positive utility. If this is accepted, the above reasoning shows how ‘wasteful’ loan expenditure (see footnote), may nevertheless enrich the community on balance. Pyramid-building, earthquakes, even wars may serve to increase wealth, if the education of our statesmen on the principles of the classical economics stands in the way of anything better.

“It is curious how common sense, wriggling for an escape from absurd conclusions, has been apt to reach a preference for wholly ‘wasteful’ forms of loan expenditure rather than for partly wasteful forms, which, because they are not wholly wasteful, tend to be judged on strict ‘business’ principles. For example, unemployment relief financed by loans is more readily accepted than the financing of improvements at a charge below the current rate of interest; whilst the form of digging holes in the ground known as gold-mining, which not only adds nothing whatever to the real wealth of the world but involves the disutility of labour, is the most acceptable of all solutions.

“If the Treasury were to fill old bottles with bank notes, bury them at suitable depths in disused coal mines which are then filled up to the surface with town rubbish, and leave it to private enterprise on well-tried principles of laissez-faire to dig the notes up again (the right to do so being obtained, of course, by tendering for leases of the note-bearing territory), there need be no more unemployment and, with the help of the repercussions, the real income of the community, and its capital wealth also, would probably become a good deal greater than it actually is. It would, indeed, be more sensible to build houses and the like; but if there are political and practical difficulties in the way of this, the above would be better than nothing.

“The analogy between this expedient and the gold-mines of the real world is complete. At periods when gold is available at suitable depths experience shows that the real wealth of the world increases rapidly; and when but little of it is so available our wealth suffers stagnation or decline. Thus gold-mines are of the greatest value and importance to civilisation. just as wars have been the only form of large-scale loan expenditure which statesmen have thought justifiable, so gold-mining is the only pretext for digging holes in the ground which has recommended itself to bankers as sound finance; and each of these activities has played its part in progress - failing something better. To mention a detail, the tendency in slumps for the price of gold to rise in terms of labour and materials aids eventual recovery, because it increases the depth at which gold-digging pays and lowers the minimum grade of ore which is payable.

“In addition to the probable effect of increased supplies of gold on the rate of interest, gold-mining is for two reasons a highly practical form of investment, if we are precluded from increasing employment by means which at the same time increase our stock of useful wealth. In the first place, owing to the gambling attractions which it offers it is carried on without too close a regard to the ruling rate of interest. In the second place the result, namely, the increased stock of gold, does not, as in other cases have the effect of diminishing its marginal utility. Since the value of a house depends on its utility, every house which is built serves to diminish the prospective rents obtainable from further house-building and therefore lessens the attraction of further similar investment unless the rate of interest is falling pari passu. But the fruits of gold-mining do not suffer from this disadvantage, and a check can only come through a rise of the wage-unit in terms of gold, which is not likely to occur unless and until employment is substantially better. Moreover, there is no subsequent reverse effect on account of provision for user and supplementary costs, as in the case of less durable forms of wealth.

“Ancient Egypt was doubly fortunate, and doubtless owed to this its fabled wealth, in that it possessed two activities, namely, pyramid-building as well as the search for the precious metals, the fruits of which, since they could not serve the needs of man by being consumed, did not stale with abundance. The Middle Ages built cathedrals and sang dirges. Two pyramids, two masses for the dead, are twice as good as one; but not so two railways from London to York. Thus we are so sensible, have schooled ourselves to so close a semblance of prudent financiers, taking careful thought before we add to the ‘financial’ burdens of posterity by building them houses to live in, that we have no such easy escape from the sufferings of unemployment. We have to accept them as an inevitable result of applying to the conduct of the State the maxims which are best calculated to ‘enrich’ an individual by enabling him to pile up claims to enjoyment which he does not intend to exercise at any definite time.”

Keynes’ Footnote (as referred to in the passage above)

“It is often convenient to use the term ‘loan expenditure’ to include the public investment financed by borrowing from individuals and also any other current public expenditure which is so financed. Strictly speaking, the latter should be reckoned as negative saving, but official action of this kind is not influenced by the same sort of psychological motives as those which govern private saving. Thus ‘loan expenditure’ is a convenient expression for the net borrowings of public authorities on all accounts, whether on capital account or to meet a budgetary deficit. The one form of loan expenditure operates by increasing investment and the other by increasing the propensity to consume.”

End of extended quote from Keynes

This wonderfully evocative passage must have floated through the minds of statesmen and managers for two decades after the second world war. Yet it is no more than a colourful expansion of the core words, that if there is unemployment, then “wasteful loan expenditure may nevertheless enrich the community on balance - pyramid-building, earthquakes, even wars may serve to increase wealth”, and indeed, the expansion also, in effect, removes the word “loan”, and replaces “may” with “is bound to”.

Book IV The inducement to invest

Chap 11 The marginal efficiency of capital

Keynes immediately starts defining, and as usual, makes a poor job of it. “When a man buys an investment or capital-asset [so he now has two terms - are they in fact absolutely the same thing?], he purchases the right to the ... returns ... from selling its output [so in fact “it” is physical plant?]”. To write without exegesis as if “an investment” MEANS a machine with physical output is typical of Keynes’s style. The reader is left to construct the definition by assessing various clues in the context. But where I’ve abbreviated to “ … returns … “ above, Keynes writes “the series of prospective returns”, which he then calls “this series of annuities” [thus YEARLY returns - why?], then called finally “the prospective yield”. Is all this pseudo-complexity of any service? Does it add anything to saying “A man buys an investment expecting a certain yield”? He then complexifies further by introducing the “supply price” of the “asset” [abandoning “investment” for obvious (but invalid if both words DID mean the same) reasons], “sometimes called the replacement cost”, but this is “not the market price at which an asset of the type in question [why not just ‘it’ – is he trying to spin it out?] can actually be purchased in the market”, but “THE PRICE WHICH WOULD JUST INDUCE A MANUFACTURER NEWLY TO PRODUCE AN ADDITONAL UNIT OF SUCH ASSETS”. He does not pause to explain why “a price which would just induce” is different from a “market price”. Anyway, he converges unsteadily on the definition of “the marginal efficiency of capital as being equal to that rate of discount which would make the present value of the series of annuities given by the returns expected from the capital-asset during its life just equal to its supply price. Note that he has now introduced more terms unannounced. The definition to which we are converging no longer concerns an investment, or a capital-asset, or an asset, or plant (whose output can be sold), but CAPITAL, and we now implicitly have a third term to add to supply price and replacement cost, namely production cost.

Note well. Real science abhors the proliferation of different terms, indeed virtually forbids it. By contrast, speech, story-telling, literature, and rhetoric abhor repetitive uniformity. It demands “elegant variation” within one sentence or paragraph. Hence the fact that economists, as individuals and as a profession, cannot stick to any one nomenclature even within one book, let alone from century to century, or from Paris to Tokyo.

Keynes follows no lexical discipline even in the space of half a page. Surely capital, asset, capital-asset, investment, and plant (whose output can be sold) should never be bandied about as if they were simply interchangeable names for one thing. The same applies to supply price and replacement cost, and (apparently a different thing) the market price (surely economists of all people should be a bit careful of using price and cost interchangeably), and to series of prospective returns, series of annuities, prospective yield, “the series of annuities given by the returns” (yes I quote).

Note that the “the marginal efficiency of capital” has the “dimensions” of an annual interest or discount rate. The word “marginal” refers to the last unit of plant installed although Keynes’s “more precise” definition given above makes no mention of this.

We are now at the most astonishing piece of throwaway definition-making:-

“This gives us the marginal efficiencies of particular types of capital-assets.” Then:- “The greatest of these marginal efficiencies can then be regarded as the marginal efficiency of capital in general”.

Just like that! A quick read onwards shows no enlargement on this. So, needless and purposeless prolixity suddenly gives way to terseness just when elucidation is needed. We are to imagine an infinite variety of types of capital-assets (what constitutes a type?). All have their last or prospectively last unit (where? anywhere at all?), whose annualised yield is calculated. The greatest of these values is THE marginal efficiency “in general”. What, even if this refers to a particularly innovative plant for producing something ridiculously trivial, say a paper-clip? Or production plant for an illegal product, say heroin? What sense can there be, in the context of an aggregate theory, in defining a general parameter in terms of something so arbitrarily trivial and specific?

19.11.96 p136

He says with unjustified and unjustifiable optimism that “we can build up [how? - in the usual let-us-imagine way?] a schedule [for each type of capital] showing by how much investment in it will have to increase within the period [what period?], in order that its marginal efficiency should fall to any given figure [such as?]. We can then [hilarity increases] aggregate [how exactly?] these schedules for all [all?] the different types of capital, so as to provide a schedule relating the rate of aggregate investment to the corresponding marginal efficiency of capital in general [note IN GENERAL] which that rate of investment will establish”. Then with the usual inability to fix nomenclature, he continues:-

“We shall call this the investment demand-schedule; or, alternatively, the schedule of the marginal efficiency of capital”.

The picture conjured up is:-

If Keynes never proposes to put numbers to this (and how could he?), is this saying any more than, “if you invest more and more, then without being specific at all, there is bound to be a point where you conclude that enough is enough, more would not be worthwhile”? Or, in other words, “somewhere there is an optimum”.

(I’ve checked numerically that the present worth of a bond yielding x% per year is 100, if the return flow is discounted at x% per year. So, according to Keynes, a bond is always just and only just worth buying).

Keynes goes on (bottom of p136), “Now it is obvious (!) that the actual rate of current investment will be pushed to the point where there is no longer any class of capital-asset of which the marginal efficiency exceeds the current rate of interest.” I.e., the worst investment has a yield just equalling the current interest rate.

Now note that in this masterwork of economic theory, this is, as far as I recall, the first mention of “current rate of interest”, and it is introduced just in passing, as if he was talking about his foot, or the moon, i.e. as something given (exogenous!), fixed like a physics universal constant, and so familiar and fixed a part of everyday life as to NEED no introduction. Even the most stupid reader might think “doesn’t ‘the actual rate of current investment’ perhaps have SOME EFFECT on the ‘current interest rate’ - maybe even determine it?”

Ah, I see as he goes on (top of p137) that he is identifying this point, not with the worst CLASS of investment (see just above), but with the low marginal point to the right of the graph. And by persisting in the use of “investment demand-schedule”, he is insisting on the phrase IN GENERAL above, i.e. with the BEST investments. In other words, a close read reveals utter confusion, even if reading at normal attentive pace would give one the impression of a good convincing exposition.

The cheeky Keynes now says there are at least (!) 3 (only?) ambiguities to clear up (don’t count on it):-

1. Are we talking about the physical yield per £ invested, or the financial yield in £ per £? No answer given, but Keynes says he knows no way of doing the former!

2. Is efficiency a quantity or a ratio? says Keynes. It is usually a %, so it must be a ratio, says Keynes, but if so, what exactly is in the numerator and denominator? (sounds really alarming - is economics in 1936 (or in 1996) really in a state where the leading thinker has to ask this?). Answer - none given.

3. If yield is not a fixed rate r per year, but the yield of a real machine, hence expected to be (mon giddy dieu) r1, r2, r3, r4 ....... in successive years, what then? Why - “There is, as I have said above, a remarkable lack of any clear account of the matter .... The ordinary theory of distribution is only valid in a stationary state [i.e. r=r1=r2=r3=r4= ... ]”. So - no answer.

He tries to find illumination in Marshall p520. A man installs a machine yielding £3 a year for an initial cost of £100. So, 3%. Now let all the capitalists of the world do their utmost to find every productive investment going. If after all that, the machine is still JUST going, i.e. still judged to be JUST worthwhile (Marshall insists on the JUST), then “we can infer from this fact that the yearly rate of interest is 3%”! YAA...AH ROO... OOH!!! So, we infer from the fact that a little entrepreneur is still running his £100 machine with a yield of £3 pa that the interest rate in the world outside is 3%!! For, if it was less, he would buy another machine with borrowed money, and if it was more, he would sell up and invest with other people (I presume)! Marshall then goes into the hat trade. He says in effect that they may have a range of machines with yields of 20%, 10%, 6%, 4%, AND 3%, the last being the WORST yielders. They will not have a machine yielding less.

If I, playing the boy-bystander, said:- “if the current rate of interest is 3%, the entrepreneur will borrow if he can think of any way of using the borrowed money to finance a process which pays more than 3%”, would that homely statement, or rather re-statement of the obvious, illuminate anything more or less than the wads of complicated prose from Keynes and Marshall?

20.11.96 p141

“The most important confusion concerning the meaning and significance of the marginal efficiency has ensued on the failure to see that it depends on the prospective yield of capital, and not merely on its current yield.”

Seems a fairly elementary confusion to me. Keynes takes a long para to expand on this quite evident matter. Without of course citing any evidence, he says (bottom p141) this is the mechanism by which expectations of inflation influence output. The following sentence has a multiply ambiguous structure, but I take the following as the most likely option:- If people expect inflation, this “raises” the investment demand-schedule. (This would be so by definition, IF the demand-schedule is expressed as nominal yield, but Keynes has never specifically said that.) This causes more investment, and hence more employment. Contrariwise, if people expect deflation, it is depressing, says Keynes - full stop. But it must mean that people disinvest, hence less employment.

Just before this, Keynes notes that Marshall “(drew) back when his argument was leading him on to dubious ground”. I.e., he accuses Marshall of argumentative dishonesty. I dare say there are quite a few derogatory remarks elsewhere. For example, on pp19, 20, referring to Marshall’s passage which says all income is spent on services or commodities, and Mill who said that the means of paying for commodities is simply commodities (I tend to agree with Mill), and which Keynes apparently rejects with contempt, he says “contemporary economists, who might hesitate to agree with Mill, do not hesitate to accept conclusions which require Mill’s doctrine as their premise”. Then, “Marshall of the Principles had become sufficiently doubtful to be very cautious and evasive. But the old ideas were never repudiated or rooted out of the basic assumptions of his thought”. And, “Post-war economists seldom succeed in maintaining this standpoint consistently; for their thought to-day is too much permeated with the contrary tendency and with the facts of experience too obviously inconsistent with their former view. But they have not drawn sufficiently far-reaching consequences; and have not revised their fundamental theory.” Keynes exempts Prof Robbins from this:- he has remained entirely and honestly unreconstructed. So Keynes does not hesitate to ascribe stupidity or dishonesty or both to his illustrious rivals. But he is the same! Vague when it suits him, and incisive ditto. Stopping short, going quickly on, when he foresees that the brilliance of his argument so far would be dulled by the next step.

Here is a case in point. It is all very well to skate through the sequence:-

expect inflation - so invest - so employment increases

nodding all the way. And then say “and vice versa”. But vice versa is:-

expect disinflation - so disinvest - so employment decreases.

But “invest” means go out and borrow some money (from someone who has not yet heard of the coming inflation!!), go to a machine shop, buy a machine, come home, install the machine in a suitable building, go out and sign on some workers, train them, and set them to earn that increased nominal rate of return.

All these activities obviously meaning “increase employment”, “disinvest” cannot be “historified” by vice versa mechanisms. The machine, the building and the trained workers are there. The physical material cannot be sold (unless to someone - see above - who does not know disinflation is coming), nor can the investment in training. So why should this entrepreneur’s expectation that money will be worth more tomorrow make him stop using a machine which is earning its keep today? After all, why should he not “expect” that his workers wages, and the prices he charges will go down pari passu (!) with the disinflation?

Well, my stuff is not too coherent either, but it is enough to show that there are more balls in the air than Keynes can be bothered to notice, such as real v nominal, irreversibility, complete v incomplete information, and so on. Keynes needs to tell all of these stories in minute detail, not just issue an ex cathedra pronouncement.

I find on reading on that Keynes does discuss further, but due to spadework done above, I see his fallacies coming a mile off (I now have an expectation of fallacy). Fortunately, he is on this occasion quite explicit. “The stimulating effect of the expectation of higher prices is due, not to its raising the rate of interest, but to its raising of the marginal efficiency of a given stock of capital. For the stimulus to output depends on the marginal efficiency of a given stock of capital rising relatively to the rate of interest.” (p143)

[later 23.3.2001. Note that this is an ex cathedra statement that the expectation of inflation is a stimulus. There is no argument]

Oddly this is prefaced by the remark that changes in the value of money cannot have any effect on output, because either it is not foreseen, so nothing happens, or it is foreseen, so everybody makes exactly compensating adjustments, and again nothing happens. He pours scorn on Pigou for suggesting that the change may be foreseen by some, and not by others (p142). Yet that is exactly what Keynes is burying not too deeply in the passage quoted, because he is implying that the entrepreneur may see an advantageous move (investment) in expectation of inflation, but the money lender is blind to this, and keeps his interest rate unchanged, or lower than the expected rise of inflation. The whole idea of profitable investment, of course, is that the entrepreneur, in the natural order of things, knows more than the banker about his technology, and his net return over and above remuneration for his hours of work is a return for this knowledge, enterprise, and skill. It is surely an absurdity of the highest order to suggest that he also has a skill to outwit his banker on purely monetary matters.

Further on (bottom p143) Keynes says that “it is important to understand the dependence of the marginal efficiency of a given stock of capital on changes in expectation”. This really is odd, coming from the great master, addressing the most eminent contemporary economists. Having defined marginal efficiency in terms of expected yield, then yes, you would expect it to depend too on changes to this expectation.

Section iv p144

This section is oddly devoted to stressing that there are, in general, two dollops of risk-premium, the entrepreneur’s fear of bad outcomes, and the lender’s fear of losing his money. What this amounts to is that the lender is offering money at a risk margin above current interest rate, and the entrepreneur is considering no project unless its prospective yield is another dollop of risk margin above THAT. Heigh ho and nonny no.

Section v p145 (adds no value whatsoever)

Chap 12 The state of long-term expectation

This chapter is good “animal spirits” stuff.

By long term, he means a future far enough away for guesses about it to be uncertain! He then skates on to introduce confidence or “the state of confidence as they term it” but admitting that there is not much to be said about it a priori

Section 3 (p149) has a good skate-over of real business, with echoes of Keynesian “animal spirits” (not in the index, but occurs later in this book). “If human nature felt no temptation to take a chance, no satisfaction (profit apart) in constructing a factory, a railway, a mine or a farm, there might not be much investment merely as a result of cold calculation.” This is the great journalist on top form.

He says something reasonably striking (top p151):- Before the stock-exchange, the entrepreneur made irrevocable decisions. Now the community is landed irrevocably with his decisions, but he personally can re-consider his holding. “It is as though a farmer, having tapped his barometer after breakfast, could decide to remove his capital from the farming business between 10 and 11 in the morning and reconsider whether he should return to it later in the week.” Later (p153):- “Investments which are ‘fixed’ for the community are thus [by the stock market] made ‘liquid’ for the individual”. Good stuff.

This opens up new “flexible” opportunities. Instead of building a factory, one has the option of buying, or buying into, one. If you build, you have the option of floating it immediately, i.e. in effect selling, or part-selling, it. Selling shares is sacrificing future income for immediate cash, i.e., it is an alternative to a loan.

21.11.96 p151

If you can over-sell, i.e., somehow get the price raised above a normal level, it is equivalent to a cheap loan. Similarly, buying shares back is losing present cash in return for future income, i.e., it is equivalent to lending, and lending at high interest, if you know something the seller does not know. It seems from the above that as a shareholder, one should never buy on a float, and never sell on a buy-back. Coming back to Keynes, however, his main point seems to be that the entrepreneur’s decision to physically invest in new capital equipment is influenced by the stock market, since the latter is a market place where he may find that this equipment already exists, or where he can price this equipment and weigh up the potential competition, or which he can bear in mind as a potential group of ultimate buyers of his planned plant. This means that the judgement of the entrepreneur is supplanted by the collective judgement of the stock exchange.

He guesses that the golden rule of the stock market is that things will continue tomorrow much as today, unless something happens! (p152) This absurd but inevitable basis gives rise, inevitably, to “precariousness”. I.e.,

1. the majority of shareholders know little about “their” companies.

2. seasonal, or ad hoc, or one-off fluctuations in profits have logically nonsensical effects on shareprice.

3. waves of emotion among ignorant players have large and indefensible effects.

4. the minority of more informed people have no, or only secondary, interest in long-term value. At the forefront of their mind is whether they can turn a short-term penny.

5. the market needs both “speculative confidence” and “credit confidence”. I.e., it booms if it has both, but crashes if it lacks only one.

Keynes (p157) expands most instructively on point 4. He points out that intelligence for intelligence, speculation makes more sense than long-term investment, and is more enjoyable. Beating your fellow man in day to day manoeuvring (“anticipating what average opinion expects average opinion to be”) is a much more tractable proposition than peering into an increasingly uncertain future. Moreover, although Keynes avoids the Keynesian “in the long run we are all dead”, he remarks that “life is not long enough - there is a peculiar zest in making money quickly”! What he is describing is akin to persuading a child to part with its lollipop, but he does not venture into the distinction between “making money quickly” and “pinching somebody else’s money”.

Incomprehensibly, Keynes says that long-term “investors” would need large, hence borrowed, funds. Odd, since F&C, for example certainly existed in his day. He seems to inject a bit of personal ruefulness when he says that the long-termer is condemned whether he succeeds or fails. In the former case he is rash, an adventurer. “It is better for reputation to fail conventionally than to succeed unconventionally”.

As Keynes describes it, Wall St in 1936 was like London today, governed almost entirely by speculation on price, not by buyers of income. London then was comparatively illiquid due to stuffy club behaviour. Keynes thinks Wall St would benefit from government deal-taxes, to slow it down [echoes of the proposed currency dealing tax of Tobin]. In fact, he “sometimes” thinks it would be a good thing if share ownership was like wife-ownership, a solemn life-commitment. However, he immediately points out that it is only because of liquidity that so many people do invest in shares. If you know you can get out, then you need not consider with enormous toil and anxiety before you take the plunge. Keynes is obsessed with the danger that, in the absence of coercion, or of rule-bound inertia, it is “open to him [the potential investor], when assailed by doubts, to spend his income neither on one [consumption] or the other [investment]”.

This of course breaks the laws of Say, Mill, Marshall, Pigou and Stanners - either HE buys a share, or HIS BANK does - why does Keynes insist that the INTENTION of the investor matters? FAULTY or INJURIOUS spending does not contradict “our” rule. It may be injurious for our man to leave his money in the bank and hence make it available for the buying of shares, in the sense that we are on the wrong side of optimum investment/consumption ratio for that (i.e. what we NEED from our man is a decision to consume consumables), but to say he is consuming WRONGLY is different from saying that part of his income is neither consuming nor investing at all.

Keynes returns to his hobby horse (middle p161):- “They [previous writers] have overlooked the possibility that the phenomenon [dangerous consequences of hoarding] can occur without any change in the hoarding of money”.

I am not aware that this much stated, emphasised, and re-stated, Keynesian theme has ANYWHERE in this book been argued or substantiated. Of course, the US thirties depression DID happen, but why did it happen in the US and not (really) in the UK, and why is it a rather unusual if not unique happening? Why do widely disparate countries seemingly prosper with WIDELY DIFFERENT investment rates, to say nothing of enormously different investment and financial cultures of wildly varied liquidity? If Keynes’ answer were, “because of Keynesian economic management”, well, that would simply strain belief.

Ah Ha! Here (foot of p161) we have the famous “ANIMAL SPIRITS”.

This, I believe, is by far the most brilliant of Keynes’ perceptions. This is what he says (the comma after the first word needs to be heeded!):-

“Most, probably, of our decisions to do something positive, the full consequences of which will be drawn out over many days to come, can only be taken as a result of animal spirits - of a spontaneous urge to action rather than inaction, and not as the outcome of a weighted average of quantitative benefits multiplied by quantitative probabilities. Enterprise only pretends to itself to be mainly actuated by the statements in its own prospectus, however candid and sincere. Only a little more than an expedition to the South Pole, is it based on an exact calculation of benefits to come. ... The thought of ultimate loss, as experience undoubtedly tells us, is put aside as a healthy man puts aside the expectation of death. .... This means that economic prosperity is excessively dependent on a political and social atmosphere which is congenial to the average business man. ... We must have regard to the nerves and hysteria and even the digestions and reactions to the weather of those upon whose spontaneous activity it [investment] largely depends. ... It is our innate urge to activity which makes the wheels go round .... often falling back for our motive on whim or sentiment or chance.”

HOORAY!

This incidentally is a wonderful example of polemic, as opposed to logic and science, and of undisguised polemic as opposed to the polemic disguised as logic or science in this and many other books on the “theory” of economics. There is not, and there is not pretended to be, a scintilla of factual observation of the real world there, in the sense of a social scientist taking notes. This is a clever man in his study, unaided by any enquiry other than introspection of his own, and experience of his friends’, behaviour. It is a clever and sustained expression of a homely thought which you might hear expressed in more earthy ways in a pub or barrack room. And no doubt, a diligent search would uncover passages of similar tendency in Homer, Plato, Shakespeare and others. “We’re here because we’re here”, and “Why did the chicken cross the road?” are not millions of miles from the same thought.

This polemic, contains, incidentally, the observation that an entrepreneur’s prospectus is also substantially a polemic, i.e., ultimately persuasive by its rhetoric rather than by its facts or logic. It fails, of course, to carry through to the observation (although I’m convinced Keynes could well have done so, if there were not obvious polemical reasons against this) that the General Theory of Employment, Interest and Money is not in any way, shape or form a general theory, or even a theory, but itself a polemic disguised as such!

22.11.96 p163

Examples of risk mitigated. Owners of buildings have long-term contracts with tenants. Utilities have returns guaranteed by the state which licences them. Public authorities invest WITHOUT having an idea of the return - only that it seems on the whole to be a good thing.

Chapter ends down-beat. Long-term too far away - interest rate maybe the only intermediary.

Last para,

“Only experience, however, can show how far management of the rate of interest is capable of continuously stimulating the appropriate volume of investment. For my own part I am now somewhat sceptical of the success of a merely monetary policy directed towards influencing the rate of interest. I expect to see the State which is in a position to calculate the marginal efficiency of capital-goods on long views and on the basis of the general social advantage, taking an ever greater responsibility for directly organising investment; since it seems likely that the fluctuations in the market estimation of the marginal efficiency of different types of capital calculated on the principles I have described above will be too great to be offset by any practicable changes in the rate of interest.”

is intensely, and in my view foolishly – pessimistic. It says that maybe only the state can “calculate the marginal efficiency of capital-goods on long views and on the basis of social advantage”. Crazy. Sounds like the “public authorities” just cited in the previous-but-one para, who have no idea of the “marginal efficiency” (EH????), but go on just the same. Or like the Soviet Union investing in dams and windbreaks. Not that that I’m instinctively against that! The state too can have animal spirits! But it’s got nothing to do with long-view CALCULATIONS (!) of marginal efficiency of capital-goods.

Note also Keynes’s curious acceptance of the idea that the government is involved in the “management of the rate of interest”, as if he believed in the myths of Montagu Norman, Alan Greenspan, and Eddie Lord George. What would Keynes advise in the case of today’s Japan, where the “managed” interest rate is zero, and still there is no recovery.

Chap 13 The General Theory of the Rate of Interest

“Propensity to save” mentioned without qualification for the first time here - but note that Keynes has written up till now as if there is no propensity to save, only a propensity to consume, the balance of income being left with nothing to do except - to be saved! The only previous mention is on p65, where he specifically says “the conception of the propensity to consume will, in what follows, take the place of the propensity or disposition to save”, thus implying that putting saving in the driving seat was a solecism of his predecessors.

Important Keynes accuses classicists of believing that r, the interest rate, balances the propensity to save (a force tending to drive r down) with the demand for capital in the shape of the prospective yield of projects on the drawing board:-

All these joky economics diagrams look alike. Now Keynes says with enormous cheek, just like any irreverent student flicking ink balls at the back of the class (p165):-

“[This] breaks down as soon as we perceive that it is impossible to deduce the rate of interest merely from a knowledge of these two factors [i.e., the supply of savings and the demand for saved money].”

as if anybody in their right mind would think, that it was even remotely possible to work out the propensity to save, the marginal efficiency of capital, and to deduce the balancing value of interest rate. Keynes does not say how we perceive this, and who “we” are. He gives no sign of fear in the face of the mind-boggling evaluation just mentioned. He seems unaware that no economist who ever existed has ever been able to conclude any rhetorical flourish by actually working out a verifiable numerical quantity. If all economic theories “broke down” as soon as we “perceived” that no number could be “deduced” from it, the economics faculties of universities would be devoid of students.

Thus he dismisses the Pigous of this world with one line, and immediately turns away, ending this short section I with the one-line paragraph:-

“What, then is the answer to this question?”

So what’s the difficulty? Ah ha! the difficulty lies in the saver’s liquidity-preference! I.e., he might want some cash in his pocket.

Note here Pigou’s well-judged remark:- How can the foremost expositor of his time be so opaque? Pigou is too much of a gentleman to give the obvious answer. For Keynes, opacity is a polemical weapon.

29.11.96 p166

Liquidity-preference:- Keynes makes a big thing of this. If he sat in Marshall’s classes, he shows no sign of hearing about the Principle of Continuity. Listen to this:- “Does he want to hold it [unspent income] in the form of immediate, liquid command (i.e. in money or its equivalent)? Or is he prepared to part with immediate command for a specified or indefinite period, leaving it to future market conditions to determine on what terms he can, if necessary, convert deferred command over specific goods into immediate command over goods in general? In other words [!], what is the degree of his liquidity preference - where an individual’s liquidity-preference is given by a schedule of the amounts of his resources, valued in terms of money or of wage-units, which he will wish to retain in the form of money in different sets of circumstances?”

This is the master polemicist switching gear from the pithy to the convoluted. Note:- there is NOTHING in the above which is at all difficult. This is not a difficult passage in relativity theory. It is MERELY asking:- “Does he want to hold unspent income in the general spendable currency, i.e. in cash, or does he want to buy title to a specific asset, which cannot be used to buy a packet of sweets?” The phrase “valued in terms of money or of wage-units” means “valued any way you care to mention”, and is thus COMPLETELY redundant. It is there simply to sound portentous. The “schedule” which is said to “give” the liquidity-preference is simply incomprehensible as stated. What DOES need many more words is just HOW money is distinguished from non-money, i.e., the principle of continuity needs to be invoked, but the loquacity stops at the point where it is needed. Indeed verbal colouring is used to IMPLY that non-cash is VERY illiquid, when in fact it rarely is.

Then he defines interest rate in the most bizarre way imaginable. “The rate of interest is, in itself, nothing more than the inverse proportion between a sum of money and what can be obtained for parting with control over the money in exchange for a debt for a stated period of time.” So, if interest rate is 4%, or 0.04, the inverse is 25, so that is the ratio

(sum of money)/(what can be obtained for parting with control)

This just about makes sense if we read “interest”, and not “rate of interest”. But I am sceptical that ANYONE, no matter how alert or clever, could parse this sentence at a reading. And what is achieved by this convolution? - when the sentence would be perfectly clear if re-worded as, “The interest is nothing more than the fraction a/b, when a is the sum of money which can be obtained for parting with control over sum of money b for a year”.

Also note that in NORMAL usage, “X is nothing more than Y” implies that X is something complicated or obscure, while Y is a simple clarification of X, as in “a machete is nothing more than a large knife”. Keynes reverses this, since X is the interest rate, with which the reader is already perfectly familiar. The reader can only feel dazzled, if the great man’s simplified explanation, Y, is beyond him.

I have to row back a bit on 2 points, continuity and the definition of interest rate.

1) Keynes plays the trick he has already played in distinguishing, or rather refusing to clearly distinguish, between two parts of a continuum named by him. E.g., see the farrago above, of which the following is a much reduced sample:- p58 of Keynes

“The line between supplementary costs and windfall losses is PARTLY A CONVENTIONAL OR PSYCHOLOGICAL ONE, depending on what are the commonly accepted criteria FOR ESTIMATING THE FORMER. ... Thus, we cannot get closer to a quantitative definition of supplementary cost than that it comprises those deductions from his income which A TYPICAL ENTREPRENEUR makes...”

And the following:- p61 of Keynes

“Any REASONABLE definition of the line between consumer-purchasers and investor-purchasers will serve us equally well, provided it is consistently applied”

So he does here:- (p167) “We can draw the line between money and debts at whatever point is most convenient FOR HANDLING A PARTICULAR PROBLEM. ... three months, one month, three days, or three hours. As a rule, I shall assume that money is co-extensive with bank deposits.”

(dismissal, or silence on, or rapidly walking away from, a real problem)

So he deals with Marshall’s head cracker by saying “please yourself - you do not even need to be consistent except within a particular problem”. Note however, that this is not some trifling matter, but one which Keynes is building up as the key to where classical economists went wrong, believing that r governs and is governed by what might be called “consumption-preference”, whereas he, Keynes, maintains that r is governed by the strength of the liquidity-preference, this being the preference as between “money” and “debt”, the distinction between which he has just so cavalierly dismissed. OK, wise-guy, what if I take you at your word, and define everything I can safely recover in 10 years as “money”?

2) On rate of interest he says p167 “The rate of interest is NOT the ‘price’ which brings into equilibrium the demand for resources to invest with the readiness to abstain from present consumption. It is the ‘price’ which equilibrates the desire to hold wealth in the form of cash with the available quantity of cash; which implies that if the rate of interest were lower [than what?], i.e. if the reward for parting with cash were diminished, the aggregate amount of cash which the public would wish to hold would exceed the available supply, and that if the rate of interest were raised, there would be a surplus of cash which no one would be willing to hold.”

(the ex cathedra statement)

So far, this is an ex cathedra Keynes statement. No argument given, no ifs or buts, flat axiom straight out of the blue. Note that he is not just saying “look, classicists, you’ve forgotten something, you should add THIS to your considerations. He is saying “r is NOT what you are saying AT ALL. It is, on the contrary, THIS.” Note of course also that Hicks, who claimed to have Keynes’s tacit blessing, brought the classicists supposed view back in, amalgamating it with Keynes’s:-

-------------------- IS/LM digram below -----------------------------------------

IS Investment/Savings

LM Liquidity/Money

The LM (liquidity/money) is the locus of points where the supply of money, released let us say by the sale of bonds, is equal to the demand for money to perform transactions. The LM curve slopes upwards for the following reason. At periods of low national output, the volume of transactions is low, the money available for the buying of bonds is relatively plentiful, so interest rates would tend to be depressed. At periods of high national output, the converse applies.

The IS (investment/savings) curve is the locus of points where the supply of investment funds (savings) is equal to the demand for such funds (physical investment). This locus is plotted as a function of the (long term) interest rate (vertical axis) and the national income. The IS curve is downward sloping, i.e., interest rate r declines with increasing national output. The reason is as follows. At periods of low national output, consumption takes priority, and so saving is not only absolutely less, but relatively so. Funds for investment are therefore scarce and interest rates are high. The converse obtains at periods of high national output.

[later 23.3.2001. Inserted from elsewhere. For Keynes, as interpreted by Hicks without demur from Keynes, IS is the (savings)/(PHYSICAL PLANT investment) balance, while LM is the money/bond balance.]

----------------------------- IS/LM diagram above --------------------------------------

(Below is a remarkable contradictory statement extracted from some pages further on)

So, agreed truce-text (“they would accept and I would not dispute”, p178) is:- “If the level of income is assumed to be given, we can infer that the current rate of interest must lie at the point where the demand curve for capital corresponding to different rates of interest cuts the curve of the amounts saved out of a given income corresponding to different rates of interest”.

(This to my mind is the same as saying r is “determined by” the two factors mentioned, that is, by the very factors which Keynes has just denied.)

Keynes however here emphatically repeats (bottom line p167):- “The quantity of money is the factor, which, in conjunction with liquidity preference, determines the actual rate of interest in given circumstances”. But note the inevitable fudge - “in given circumstances”. Like for instance a circumstance where a fairy has waved a magic wand to keep fixed the savings and hence investment rate?

Keynes does not pause to put any of this in the context of the real world outside of his study. For example, although I can easily imagine that entrepreneurs and savers ponder deeply on the effect of interest rate on their plans for investment in physical plant and paper respectively, and I have some small experience of the latter, I cannot for the life of me say that I relate AT ALL the laughably tiny amount I carry in cash (and on a saw-tooth of £200 I think it is bigger than many) to the relatively huge amount I have illiquid. AND, come to that, I do not regard my illiquid assets as all that illiquid. If needed, I could have the lot in my bank account within a week. And with a completely affordable bridging loan, I could effectively have it within a day.

Of the two following diagrams, Keynes dismisses the first and embraces the second:-

but he expresses the latter in a more complicated way. He seems to talk as if at any given time the QUANTITY of money is fixed by some outside agency, and r is always just such as to make people WANT that quantity of money. So if things are such that there is a lot of money about, then r is low so that people WANT or prefer just that amount.

3.12.96 p167

ESSAY - continuing sceptical train of thought on liquidity:-

(failure to clarify whether he is taking about income or wealth)

My own liquidity is this:- 48% house, 24% bonds, 24% equities, 3% bank deposit at 2% REAL interest, 0.1% bank deposit at zero interest, 0.02% cash. All except the house is realisable within 2 weeks. The house would be realisable in 3 months say. However, this is my wealth. Keynes’s propensity to consume, and hence to save, is explicitly in terms of income. When it comes to the classicists’ alleged belief that r mediates between buyers and sellers of cash in the shape of plant investors and paper investors respectively, Keynes does not specifically stress income. But it is clear that in the aggregate, existing wealth is 100% illiquid, since all existing paper corresponds precisely with all existing physical assets, and therefore, although one owner can go liquid at any time, the new owner goes correspondingly illiquid, the aggregate position remaining unchanged. That is, this market which in which r mediates is the market for new unspent income. Incidentally, in discussing the multiplier, Keynes assumes that saving is simply governed by the propensity to consume, i.e. it is simply what happens to be left unspent. He mentions interest rate (pp93-4), but only to dismiss or downplay it. In this classical view, however, r must exert an attractive effect on savings, and r would mediate not only between plant investor and saver, but between the income-recipient-as-consumer and the income-recipient-as-saver. Now, Keynes asserts that r is not determined in this market (or these 2 markets) at all, but only in the market of saver-as-money-holder, and saver-as-(say)-bond-holder, r being the price the bond-issuer pays to the saver to compensate for the loss of convenience. Of course this bond-issuer is none other than the plant investor mentioned above. At this point, the scientist would say “This is getting too complicated. I see no exit from this many, many body problem, each body being itself a many, many, many body problem, so I’ll give up and try solving a simpler problem first - like the search for the Higgs boson”. The economist is not feased. If he is Keynes, he embarks on very clever words which play down the complexity by not mentioning it, i.e. by evolving a plausible single- or few-stranded story-line. If he is Hicks, he puts as many parameters as the theorists have verbally debated (in reality there are infinitely more) into one single fearsomely complicated diagram with no calibration on the axes, flashes it in front of Keynes, who gives a non-committal grunt, and then flogs it as Keynes-approved material which “sums up” the general theory.

But back to my personal illustration. Having concluded that Keynes’s interest theory applies to income (since he presents it as the correct substitute for the classicists’ theory), I guess that 50% of my monthly income is spent on monthly “running expenses”, but when yearly bills for utilities, holidays, clothes, etc, are taken into account, this rises to 80%, and even higher when 5- or 10-yearly expenditures like cars and medical are taken into account. Keynes’s theory applies only to the partition of savings, so my cash is a much bigger fraction than above (even if still only 10%), and the rest is really totally liquid (although interest-bearing at 2% real), not because the rate of interest for less liquid funds is too low, but because I am too idle, or insufficiently interested in money, to place it elsewhere. So, of my monthly income, 100% of unspent money is kept as (effectively) cash, and I suppose that every six months or so, the amount begins to catch my eye, and I place part of it in some relatively, but only relatively, illiquid form. In effect, I deal in terms of wealth, not income. The relatively liquid buffer which I maintain at a fairly constant level of perhaps 10 months’ worth of monthly unspent income is a slice of my wealth (the 3% mentioned at the start of this day’s essay), not of my income, and I personally, contrary to what Keynes places so much stress on, am not aware that the interest rate of more illiquid funds exerts any pull on me at all, as regards the size of this buffer. Why should it, since all I am sacrificing is (r-2)% of 3% of my notional income from my wealth? So if r is 4% real say, this is 2% of 3%, or 0.06%, of my notional real investment returns. And that implies that I “sacrifice” the convenience of my buffer completely, whereas Keynes regards the value of r as doing some tuning on its size. So summing that up, my unspent income is 100% liquid, my aggregate unspent wealth is as near as makes no difference 100% illiquid (but only relatively), and variations in r, even if it doubled, have no visible effect on this situation.

Added later:- Question for Keynes - why should r exert influence on the size of the

relatively liquid part of my wealth when we are talking about a small percentage of a relatively small percentage?

How does the competing classicist’s theory look to me personally, as a small investor? Very good. Different entrepreneurs are competing for the available money, including mine when I get round to placing it. At this specific point in time when I am making this placement, then of course the value of r has an effect on my choice of placement. QED. Note that Keynes asserts correctly (p94) that interest rate has no effect on my propensity to consume, i.e. on my internal market as between consumption and saving. I spend what I need to spend. Saving is just what is left unspent. So why does he not see this when it comes to the placing of savings? My imperative there is to place. Even my 3% buffer is placed - in a liquid but interest-bearing account. Just as I spend, to suit my convenience and needs, but discriminatingly at each specific point of purchase, so I place, to suit my convenience and needs, but discriminatingly at the point of placement. By “discriminately”, I mean that I take account of price and quality in each market, as far as I am conveniently able.

Back to Keynes p168.

He says interest is the reward for parting with liquidity. Not at all. What would be the point of keeping my savings liquid? Far from requiring a reward, I am only too glad to get rid of it, to get it into a safe place. That, in fact, is my imperative (and this corrects what I said above - that placing was my imperative). If a bank was nothing but a strong vault for unneeded cash, and I had to pay for storage, I would do that. Who would want bags of notes lying about? The fact that in the case of money, the bank can and does make a profit by lending my money to somebody else, allowing me to store my cash for nothing, or even (which is the actual case with me) paying me to store my cash there, is simply an additional bonus, and of course, one I make some attempt to optimise by placing my savings in various forms of “bank”, with various combinations of return and risk

So, my imperative as regards unspent income, as it aggregates, is to put it in a

safe place. For this I would be willing to pay a storage charge, but, in practice I find that most havens for money have negative storage charges, and naturally, I choose at each placement how to balance the size of the (usually negative) charge against other factors such as safety. The charge, of course, is primarily determined by the negotiation between the bank and the people who want money for business uses.

Keynes goes into gobbledygook mode:- “Liquidity-preference is a potentiality or functional tendency [eh?], which fixes [?] the quantity of money which the public will [this is the economist’s “will”] hold when the rate of interest is given. M=L(r)”.

M is this quantity of money, and L is the liquidity-preference function. Presumably it is a monotonically decreasing function, i.e. the bigger r gets, the smaller is the quantity of money wanted. Note that with typical economists’ confusion, M is L. I.e. any scientist would write it:- M=M(r) or in words, the quantity of money is a function of interest rate. It is typical of Keynes that he thinks of M as money, and L as a functional tendency, i.e., not only as different things, but different types of things, whereas the scientist sees then as the same thing, one expressed as a mere name or symbol (M), the other (L(r)) as an algebraic expression involving other symbols, but necessarily identical in value with M.

The economist’s “will” is a word which denotes “escape (from excessive clarity) hatch”. So M(r) is not the physically observed value of M when interest rate is physically observed to be r. If it were, the verb would be “holds”, instead of “will hold”. M(r) is the value M would have had, in the economist’s imagination, if interest rate were imagined to be r instead of what it actually is. So it is a function which can never be drawn as a specific curve on calibrated axes. It is merely a symbolic representation of a purely verbal train of thought.

4.12.96 Still p168

Note that above I have given infinity times as much discussion of my point of view than Keynes gives of his. He merely says of the classical view “this is rubbish”, and of his own “here is the correct view”. I may have to retract this as I read on.

Why do people have a liquidity preference, asks Keynes. I.e., why do they want money at all, when they could be earning interest? Seems a rum question to me.

Note that Keynes, in introducing this question, specifically places it in the context of WEALTH. “Why should anyone prefer to hold his wealth in a form which yields little or no interest?”

His answer, clothed in a certain amount of not very clear algebra, is bizarre in the extreme.

“If the need for liquid (sic) cash may conceivably [!] arise before the expiry of n years [!], there is a risk [!] of a loss being incurred in purchasing a long-term debt and subsequently turning it into cash, as compared with holding cash. The actuarial profit [calculated for a bond, say] ..... must be sufficient to compensate for the risk of disappointment.”

Of course, it is a safe bet that EVERYONE may conceivably need cash before the expiry of n years. Nearly every word there seems to be chosen to maximise hilarity. And to precede this with if is like saying “If the sun rises again tomorrow”. But I have to record that I did not laugh at this sentence, and I dare say nobody ever has, but why? It is really bordering on the ridiculous, but Keynes has a portentous way of making the trite seem important, the ridiculous seem sober, and the downright wrong seem plausible. It was there, in debating, that his genius lay, not at all in anything to do with economics.

Anyway, he is saying that people are always balancing present certainties against inevitable future risks or uncertainties. Nobody in his senses would buy a bond for £15000 if that was all the money he had, and he absolutely had to buy a car in 9 months’ time for £15000. On the other hand, that is a very rare situation. We never know that a given car will cost £15000 in 9 months’ time, nor do we often have to buy something, nor do we usually have no leeway at all in our purchase dealings - there are nearly always ways out. So in real life, somebody might buy a bond for £15000 even if he could see a purchase of about that amount coming up in a few months. I do not think that anything I’ve just quoted affects my financial position, and I suspect most people’s, that the amount of my liquid account is such as to give me no hassle for all likely purchases, and that this position is not affected in the least by weighing up the returns on relatively illiquid investments. My rationale for my personal level of liquidity is 1) no hassle, and 2) err on the larger side since no tangible sacrifice of investment income is in play, as clearly illustrated above.

Keynes now gives a second (in a moment he claims it is the third) reason for liquidity - namely, for speculative purposes. People keep a large amount of cash if they see the opportunity of buying cheaper in the future. I.e. they are Bears. They expect asset prices to go down. Bulls, on the other hand, buy assets, and even borrow to buy more, (i.e. they go illiquid) because they expect asset prices to rise. Indeed, an idealised model is as follows. Two groups have equal amounts of cash and assets. The groups then simultaneously turn Bearish and Bullish, respectively. 1st scenario:- the Bears sell all their assets to the Bulls, who pay for them with their cash. So the Bears go completely liquid, the Bulls go completely illiquid. After a while, the Bulls perceive their error, since prices go down. They sell all of their assets back to the Bears cheaply, leaving the Bears with all the assets, plus the surplus cash. Note that in this scenario, aggregate liquidity does not change. 2nd scenario:- Not only do the Bears sell all their assets to the Bulls in exchange for their cash, but also they lend all this money, plus their own money, to the Bulls, and with this the Bulls buy more assets from outsiders. When prices fall, the Bulls sell all their own and the Bears’ assets back to them. They also sell all the outsiders’ assets back to them (the outsiders), but since they have made a loss, this is insufficient to repay the loan from the Bears, so they make an additional loss in favour of the Bears.

6.12.96 STILL p170

The above fantasy is made plainer as follows, in arbitrary value units. I assume that assets decline to half their original value, and that loan is interest-free:-

Net result:- Aggregate value declines from 6 to 4, due to the value of 4 assets declining from 4 to 2. The loss of 2 units is borne entirely by the erroneous Bulls, who are wiped out. If the Bears and Outsiders choose to convert to the now bullish asset, they could have 4 and 6 respectively, a total of 10 compared with the original aggregate value of 6. Needless to say, aggregate liquidity is constant at 2 throughout.

Back to Keynes p170

In introducing this topic Keynes merely mentioned the need to make small transactions as a reason for liquidity. He now resurrects this. So his list of reasons is 1) transactions 2) security for foreseen future transactions 3) speculation funds.

Keynes, to my eyes, seems to be floundering, as is illustrated by the following flailing paragraph, first unblemished (except for bold font), and then with my interleaved commentary (p171):-

(below, the inessential is in normal font, the essential is in bold)

“It may illustrate the argument to point out that, if the liquidity-preferences due to the transactions-motive and the precautionary-motive are assumed to absorb a quantity of cash which is not very sensitive to changes in the rate of interest as such and apart from its reactions on the level of income, so that the total quantity of money, less this quantity, is available for satisfying liquidity-preference due to the speculative-motive, the rate of interest and the price of bonds have to be fixed at the level at which the desire on the part of certain individuals to hold cash (because at that level they feel “bearish” of the future of bonds) is exactly equal to the amount of cash available for the speculative-motive. Thus each increase in the quantity of money must raise the price of bonds sufficiently to exceed the expectations of some ‘bull’ and so influence him to sell his bond for cash and join the ‘bear’ brigade. If, however, there is a negligible demand for cash from the speculative-motive except for a short transitional interval, an increase in the quantity of money will have to lower the rate of interest almost forthwith, in whatever degree is necessary to raise employment and the wage unit sufficiently to cause the additional cash to be absorbed by the transactions-motive and the precautionary-motive.”

And with annotations:-

“It may illustrate the argument [he does not say what argument - the previous paragraph ends with the statement that ‘an organised market gives an opportunity for wide fluctuations in liquidity-preference due to the speculative motive’] to point out that, if the liquidity-preferences due to the transactions-motive and the precautionary-motive are assumed to absorb a quantity of cash which is not very sensitive to changes in the rate of interest as such and apart from its reactions on the level of income [he says ‘if it is assumed’, but does he mean that that is what he rather believes? ], so that the total quantity of money, less this quantity, is available for satisfying liquidity-preference due to the speculative-motive, the rate of interest and the price of bonds [in order to play the part Keynes assigns to it, the interest rate must be that of bonds, and the price is therefore mathematically linked] have to be fixed at the level [singular, confirming previous comment] at which the desire on the part of certain individuals to hold cash (because at that level [singular again] they feel “bearish” of the future of bonds) is exactly equal to the amount of cash available for the speculative-motive. [Note - that is all one sentence. Also note that the syntax quite absurdly has “desire … is exactly equal to the amount of cash” - Keynes’s convoluted care and verbal exactitude is all pseudo. Also note that by the time you reach here, you have forgotten that you have been promised an illustration of the argument, but all you’ve got is a child’s level re-statement.] Thus each increase in the quantity of money [in many places Keynes insists on the “inelasticity(qv) of the production of money”] must raise the price of bonds sufficiently to exceed the expectations of some ‘bull’ and so influence him to sell his bond for cash and join the ‘bear’ brigade. If, however [this start of a sentence usually means ‘If, contrary to what I have just said’, but I see no part-counterpart of that sort here], there is a negligible demand for cash from the speculative-motive except for a short transitional interval [this mention of a short interval implies that he is counterposing this to a long interval, but the latter has never been mentioned], an increase in the quantity of money will have to lower the rate of interest almost forthwith [the immediacy is ludicrous in view of what follows], in whatever degree is necessary to raise employment [no mention of what interval is needed for that!] and the wage unit [ditto!] sufficiently to cause the additional cash to be absorbed by the transactions-motive and the precautionary-motive.[is this saying any more than that spare cash will be spent?]”

This can only be a man who is of such commanding prestige, for reasons antecedent to the argument, that he is contemptuous of lucid argument. This is a verbal battering ram whose massive weight is supplied by the brand name Keynes and not an intricate machine whose efficacy depends on its parts. It is the sort of passage which Pigou might have had in mind when he asked why the most gifted expositor of the age was so incomprehensible.

Keynes starts off, without a syllable of justification, by saying the classicists are wrong in their common-sense view that interest rate is governed by the demand of entrepreneurs for money, and the size of the pool of money available to lend held by rich but less entrepreneurial men. He baldly states:- Not so, it is determined by the extent to which these rich men want to retain money rather than lend it. He then examines this, and concludes (or rather, slyly hints) that in so far as this “want” depends on the requirements of doing transactions, or taking precautions in relation to future transactions, it DOES NOT interact with interest rate, i.e., it is fixed by these needs, irrespective of interest rate. That leaves money needed for speculation - but only by bears. There is no analysis, apart from brief but verbally dense and obscure fireworks, of this extremely complex notion. What about the bulls? Are they not borrowing money to buy? And if so, are they not indistinguishable from the entrepreneurs who are doing the same thing [but see below]? He then talks as if these bears are pondering, not about whether to retain cash or lend it to entrepreneurs at a certain rate of interest which compensates them for their desire for cash, but whether to retain cash or buy bonds, and I presume he means government bonds (he does not bother to elucidate). Equities are never mentioned in this context (but see below). The interest paid by the bond seems to play no part in this imaginary contest in the mind of the rich bear. All that matters is that the price of the bond should rise high enough to convert him into a bear, i.e., into someone who thinks, contrary to the collective wisdom of the market, that the price is too high and must fall. Then, having tossed out this head-cracker, Keynes nonchalantly, and presumably temporarily, abandons this whole idea of his, the one which is going to set the world by its ears, in a single throwaway sentence - “If, however this is not so ...”, and leaves all pursuers gasping by changing the subject completely. If a rise in the quantity of money (how or why? - he doesn’t say) is not equilibrated by this balance going on in the minds of rich potential bears, and leading by a complicated process to a lowering of interest rate, then why! - the only course left would be for the transactions-motive to take the strain. And how could this happen? Easy! If more money has to be absorbed by having more transactions, purchases have to be increased, so output has to be increased, so more people have to be employed, so entrepreneurs need more loans, so interest rates have to be lowered - “almost forthwith”! This one isolated sentence seems to me to re-state the fundamental but unargued “Keynesian” insight - provide money - scatter it from helicopters - bury it in bottles - no matter - and hey presto! - jobs. It appears to be put as a (dismissed) alternative to his current insight - provide money - people with unspent income mop it up - bond interest rates come down.

THE BIG DISCOVERY - FOOTNOTE P170

This footnote, and its parent text, rocked me with the realisation that for Keynes “investment” excludes bonds - I think; I still have to get to the bottom of this. If it is so, then it would clear up AT LAST! one of the deepest mysteries of the IS/LM diagram, namely that for Keynes/Hicks, IS is the (savings)/(PHYSICAL PLANT investment) balance, while LM is the money/bond balance. I’ve always had this clearly stated in my accompanying verbiage, but I never appreciated (and still do not REALLY) that the Keynes mind draws this curious distinction which has never existed in my mind, i.e., that there is a difference in kind between buying an equity and buying a bond. To me, they are just different ways of buying a return, in one case from the profits good or bad of a firm, in the other fixed in annual percentage terms. The destination of the money, it seems to me, could be physical plant or consumables, or people’s salaries in both cases. If I were an entrepreneur, it seems to me that it would be purely a matter of strategy whether I raised money to buy plant by taking out a bank loan, selling bonds to individuals, or issuing equity. And if I used part or all of the proceeds of an equity sale to pay salaries or office decorations - well, there’s no law against that.

The above means that Keynes had firmly in mind that a bond was a government bond, issued in order, not to build plant, but to finance the purchases, wage bills, and benefit pay-outs, of the government.

[later 23.3.2001. Surely in Keynes’s day, German industry was financed almost entirely (and even today to a very significant level) by bank loans and bonds. What was a German IS/LM diagram supposed to look like?]

So the world as he describes it is one where speculators, split into bulls and bears, in their little bond-world, settle the rate of interest by reference to the bears’ desire for liquidity in the speculative bond market. Meanwhile, in a separate world, linked only by the interest rate, entrepreneurs are deciding which of their projects are viable in the light of this given interest rate, and borrow exactly the corresponding amount from savers at this interest rate, which neither savers not entrepreneurs influence in the slightest. The savers, meanwhile are saving an amount influenced not at all by the above, but by the level of income. This last is essentially determined by the activity of entrepreneurs ........ und so weiter ....

[later 23.3.2001. I suspect that the cognoscenti, reading the above paragraph, would say I have clearly not understood IS/LM. To which, my only reply would be – maybe, indeed probably, but have you?]

So,

Important (if correct!!!) >

saving=investment=spending on plant

consumption=spending on consumables=direct consumption + indirect consumption

via (government) bonds

money - for transactions

- for possible near-future transactions (precautionary)

- for bond-bears

Note:- no mention at all of equities.

So. my dazzling discovery has resolved nothing, changes nothing in the above appreciation.

If I am clearer about Keynes, I have added to the confusion about the real world. Keynes is flailing about, mixing up prices, yields, interest rates, equities, and bonds, without, of course, ever leaving himself open to obvious inconsistencies. This is the manner of the very clever, very money-and-City-experienced financial journalist, whose work you read, nodding in partial recognition at the easy bits, impressed by the clever but obscure bits, and which you put aside the moment you reach the end.

When all is said and done, is it really a big revelation that more money may tend to raise bond prices and, what is the same thing, lower interest rates? Or, failing that, that it may stimulate demand and employment?

7.12.96 p171

And, when that is admitted, does it really mean anything of any longer-term consequence? These first order (supposed) effects inevitably have countervailing reactions, so it is not clear whether the effect is real, or nullified after a greater or less time.

I digress now to reflect that Keynes writes almost ENTIRELY from the study. By that I mean not only that he does not refer explicitly to any personal knowledge he might have of the working of the real world, but that he, to a quite astonishing degree, involves in his exposition almost no allusion to any data or facts or even observations of others (apart from allusions to “the classicists” he is attacking). The book has no bibliography. There are tables of what he himself admits are “precarious” data on pages 102-3, but that is the only instance of the citation of data that I recall, and is of no fundamental importance to his theory.

Take the following paragraph, for example (p172).

“Nevertheless, circumstances can develop in which even a large increase in the quantity of money may exert a comparatively small influence on the rate of interest. For a large increase in the quantity of money may cause so much uncertainty about the future that liquidity-preferences due to the precautionary-motive may be strengthened; whilst opinion about the future of the rate of interest may be so unanimous that a small change in present rates may cause a mass movement into cash. It is interesting that the stability of the system and its sensitiveness to changes in the quantity of money should be so dependent on the existence of a variety of opinion about what is uncertain. Best of all that we should know about the future. But if not, then, if we are to control the activity of the economic system by changing the quantity of money, it is important that opinions should differ. Thus this method of control is more precarious in the United States, where everyone tends to hold the same opinion at the same time, than in England where differences of opinion are more usual.”

Keynes, in the first two sentences, down to “....movement into cash”, ostensibly describes a quite detailed cause-and-effect model, but cites no evidence whatever from the real world for its accuracy. In this exposition all the verbs are qualified by “may” (5 times) or “can” (once), and two of the main elements, “liquidity-preference” and “precautionary-motive” have themselves been discussed in the previous paragraphs with many “may”s. Moreover, a careful reading of it (more careful, I imagine, than that given by the normal reader) reveals that the train of thought is by no means clear. For example, the “whilst” which begins the second part of the second sentence might be expected to introduce a contrast, but both parts of the sentence conclude with an increased or strengthened “movement into cash”. In passing to the consequences of the model, however, Keynes employs the common rhetorical trick of suddenly dropping the tentative language. There are no “mays” at all in the rest of the paragraph. The next sentence begins “It is interesting that .... “, as if the object of interest, namely that “the stability of the system and its sensitiveness to changes in the quantity of money is dependent on the existence of a variety of opinion about what is uncertain”, was something objective and established, and not the (alleged) consequence of something he has just conjured up, with 5 “may”s, from his own mind. Keynes is here stating as a fact, something whose premise has been acknowledged by himself to be problematic and which has been supported by no evidence. Moreover, even if all the “mays” were removed from that premise, the derivation of this purported fact from the premise is by no means clear to at least one very attentive reader. The paragraph goes on with further wide-ranging unqualified and unsupported observations, including the sort of wild generalisations about English and American mass behaviour which you might hear in a pub, but do not expect to see in an academic book of economic “theory”.

9.12.96 p173

My conclusion is that this paragraph, which is not untypical, and which “reads” rather impressively, adds in fact no value. It may or may not, according to taste, contain “interesting” thoughts, but its objective fact-based content is zero.

Keynes is not, however, a charlatan. His very next paragraph shows him taking very damaging pot-shots at himself:-

“Whilst an increase in the quantity of money may be expected , cet. par., to reduce the rate of interest, this will not happen if the liquidity-preferences of the public are increasing more than the quantity of money; and whilst a decline in the rate of interest may be expected, cet. par., to increase the volume of investment, this will not happen if the schedule of the marginal efficiency of capital is falling more rapidly than the rate of interest; And whilst an increase in the volume of investment may be expected, cet. par., to increase employment, this may not happen if the propensity to consume is falling off.” (The ivory-tower Keynes does not, of course, think of the possibility that investment in plant could increase and employment could as a direct consequence fall. He thinks in terms of more plant, not better plant.)

And he goes on to say that the consequence, if all “if”s are annulled, and employment, output, and prices do rise, the effect on the need for money for transactions will be such as to give negative feed back to the process outlined, that is, to raise interest rates again.

So the sequence:-

Q up --> r down --> Inv up --> employment up

is by no means inevitable, each link being dubious, and even if it proceeds that far:-

Q up --> r down --> Inv up --> employment up --> transactions up --> Q down

Q being the quantity of money available for speculation.

At this point, a scientist would lose interest - this is TOO complicated. And it is only a thought-process, with little or no prospect of any experimental verification. But no doubt Keynes will steam on, unfazed.

I expect Keynes now to talk as if:-

increase money -------->> increase output

is true. the “if”s being forgotten.

After all, the very paragraph in which these caveats are given, begins with a boast that “we have now introduced money into our causal nexus [note:- causal] for the first time, and we are able to catch a first glimpse of the way in which changes in the quantity of money work their way into the economic system.” Some causal nexus when A may or may not cause B, and B may or may not cause C, and C may or may not cause D, and D, if it happens provokes changes which tend to oppose the change in A! And when Keynes has no evidence, and shows no sign of even being aware of its necessity.

He reminds us (bottom p173) that in his Treatise on Money, he confounded bonds and equities [note- in the General Theory he hardly mentions equities]. Bears’ need for cash operated equally in both markets. Now he wants to link the need for liquidity only to the interest rate on bonds. Having been set in this market, the interest rate then determines which investment projects go ahead. How this interacts with the equities market as such Keynes does not say. His claim is that this separation [itself extremely unclear] avoids “confusion between results due to a change in the rate of interest and those due to a change in the schedule of the marginal efficiency of capital”, but in my view this separation exists only in Keynes’s mind. It cannot be demonstrated, nor can the two different types of “results” be distinguished or examined, or even clearly defined, in the real world, as I have already commented (reproduced below)

---------------------------- previous comment -----------------------------------------------.

I never appreciated (and still do not REALLY) that the Keynes mind draws this curious distinction which has never existed in my mind, i.e., that there is a difference in kind between buying an equity and buying a bond. To me, they are just different ways of buying a return, in one case from the profits good or bad of a firm, in the other fixed in annual percentage terms. The destination of the money, it seems to me, could be physical plant or consumables, or people’s salaries in both cases. If I were an entrepreneur, it seems to me that it would be purely a matter of strategy whether I raised money to buy plant by taking out a bank loan, selling bonds to individuals, or issuing equity. And if I used part of the proceeds of an equity sale to pay salaries or office decorations - well, there’s no law against that.

The above means that Keynes had firmly in mind that a bond was a government bond, issued in order, not to build plant, but to finance the purchases, wage bills, and benefit pay-outs, of the government. So the world as he describes it is one where speculators, split into bulls and bears, in their little bond-world, settle the rate of interest by reference to the bears’ desire for liquidity in the speculative bond market. Meanwhile, in a separate world, linked only by the interest rate, entrepreneurs are deciding which of their projects are viable in the light of this given interest rate, and borrow exactly the corresponding amount from savers at this interest rate, which neither savers not entrepreneurs influence in the slightest. The savers, meanwhile are saving an amount influenced not at all by the above, but by the level of income. This last is essentially determined by the activity of entrepreneurs ........ und so weiter ....

So,

saving=investment=spending on plant

consumption=spending on consumables=direct consumption + indirect consumption

via bonds

money - for transactions

- for possible near-future transactions (precautionary)

- for bond-bears

Note:- no mention at all of equities.

-------------------- End of previous comment -----------------------------------------------

In other words, Marshall’s Principle of Continuity is in full play. In the real world, everything merges into everything else. Line drawing is a natural and necessary habit of the human mind, but is sustainable in any specific case only if there is a visible benefit. I do not see any here.

Note added later:- I find now, perhaps due to my now better appreciation of the nuances, that I have mis-paraphrased Keynes above, or at least, my words may not precisely convey what his do. I find that even here Keynes does not mention equities! He says “assets” and he refers to bonds as “debts”! I quote his quite short paragraph in full:-

“Whilst liquidity-preference due to the speculative-motive corresponds to what in my Treatise on Money I called ‘the state of bearishness’, it is by no means the same thing. For ‘bearishness’ is there defined as the functional relationship, not between the rate of interest (or price of debts) and the quantity of money, but between the price of assets and debts, taken together, and the quantity of money. This treatment, however, involved a confusion between results due to a change in the rate of interest and those due to a change in the schedule of the marginal efficiency of capital, which I hope I have here avoided.”

End of para, end of section iv.

Now (still in my “later” voice) let’s look at this kettle of fish. Here he specifically equates “rate of interest” and “price of debts”. However a debt or bond involves a debtor (issuer of the bond) and a creditor (buyer of the bond). The buyer pays the price of the bond, 100, the issuer pays the price of the loan, r per year. In normal speech, the price of a bond is the buying price to the holder. Similarly the price of an equity is the market price of the equity at the stock exchange. If one is going to equate interest rate with price of debt and then go on to talk of the “price of assets and debts taken together”, this can only mean that the price of an asset in this sense is the annual return on it, namely the dividend!! Not only that, but the price of either a debt or an asset is a price paid by the issuer of the bond or equity. If this is so, I would need to start this book again, at the beginning, to be sure I had not completely misunderstood texts written in this totally unfamiliar, Alice-in-the-looking-glass language!!

“Involved a confusion”! “Between rate of interest and schedule of marginal efficiency of capital”! So this asset is not even an equity; it is literally an item of physical plant! And the “price” of this plant is not what you would pay to buy it but its calculated annual return in percent of its value! No wonder Keynes turns swiftly on his heel! End of para, end of section, on with next section! I note again the suspicion that both Keynes and the vast majority of his readership have waded through such quagmires of contextually defined (i.e., verbally undefined) rhetoric with not the least perception of difficulty.

Keynes finishes this chapter (p174) with a very confused reflection on hoarding. Within this, quite incidentally and without discussion, he makes the extraordinary statement that “the quantity of money is not determined by the public”, as if he was talking in the 12th century, or some epoch when money was the king’s coinage and only the king’s coinage. This from the man who only 9 pages before has said that “we can draw the line between ‘money’ and ‘debts’ at whatever point is most convenient for handling a particular problem .... 3 months, one month, 3 days, 3 hours, or any [!] other period”! Of course, the government physically issues “money” in the narrowest of these options, namely banknotes and coins, but even for this “money”, it is not in practice in control. For wider definitions, it quite manifestly is not.

He concludes, in relation to hoarding, “The habit of overlooking the relation of the rate of interest to hoarding may be part of the explanation why interest has been usually regarded as the reward for not-spending, whereas IN FACT [my emphasis] it is the reward for not-hoarding”. This is a re-statement of his really absurd insistence (p167 - see above) that:-

“The rate of interest is NOT the ‘price’ which brings into equilibrium the demand for resources to invest with the readiness to abstain from present consumption. It is the ‘price’ which equilibrates the desire to hold wealth in the form of cash with the available quantity of cash; which implies that if the rate of interest were lower [than what?], i.e. if the reward for parting with cash were diminished, the aggregate amount of cash which the public would wish to hold would exceed the available supply, and that if the rate of interest were raised, there would be a surplus of cash which no one would be willing to hold.”

Note the use of the phrase “IN FACT”. How could he possibly prove, demonstrate, or even render plausible or convincing this contention, which he bizarrely and lazily labels “a fact”? In this chapter, he has not even tried! He seems to regard it sufficient merely to state his position, and throw scorn at the “usual” position. In reality, both must be active elements in the matter, maybe two of very many!

11.12.96

Chap 14 The Classical Theory of Interest

This promises to be entertaining - Keynes pouring scorn on “classicists”, while I pour scorn on the lot of them.

He starts by saying that he has difficulty finding what the classical theory is! Surprise! “It is fairly clear [!] that this tradition has regarded the rate of interest as the factor which brings the demand for investment and the willingness to save into equilibrium with one another.”

ESSAY on demand and supply and price

Note the use of the two entities, “demand” and “willingness”, which are quantities, in terms of verbal logic, but which are unquantifiable and therefore not quantities, in terms of scientific logic. This is the fundamental fuzziness of economics. Two people face each other, one selling a shirt, the other buying it. In their minds are motives and feelings and scruples, and in short mental factors of all kinds, which are unquantifiable and unknowable to any other person, and perhaps only dimly perceived by each person himself. The seller might be thinking “I am going to sell this shirt in the next quarter of an hour, come what may, because I want to get home”, and the buyer might be thinking “I am going to buy this shirt come what may, because I have an interview tomorrow, and the shops will soon be closed”. I.e., demand might be strong, and the urge to sell (why do economists always talk about demand as if only the buyer was moved by Psychics, and about supply as if it was just a mindless number) might be strong, but who can tell? (Also, quite apart from that, the buyer might be a very clever actor, and the seller very stupid, although in the nature of things, the seller is usually the more skilled. In other words, the price might not be fixed by supply and demand, but also by the cunning of the two “opponents”, and, for that matter, a vast number of other things besides. But put these distractions aside.) Now, how can these deeply hidden mental factors be assessed? Easily. They are all summed up in the price. If the price is low, it shows that demand is low (the seller has perhaps got the impression that the buyer is only marginally interested), and the urge to sell is high (the buyer may have noticed that the seller has packed his stall up, and has only one shirt left). The observed price, which is the only tangible numerical quantity involved, could equally well be the outcome of very very low demand and low but not very low urge to sell, or of high but not very high demand and very very high urge to sell, or any adverbially contrapuntal combination of that sort.

The point here is that two internally complex, unquantifiable, unknowable entities are being invoked as being antecedent to the actions which determine one very precise numerical quantity. At choice, one can say that these unquantifiable entities explain why the price is what it is, or that the level of the price is in some sense a measure of the balance between the two entities. Either choice represents wholly normal conversational behaviour, but it is not normal scientific behaviour. In science, if a numerical observation of the temperature of a piece of ice shows that it is -2 degrees Celsius, one deduces that it is close to melting. That is the conventional and only operationally valid way of ordering the thought process. If one reversed it, saying something like “the piece of ice wants to melt, it has a strong propensity to melt, and so it has arrived at a temperature only a degree or two below freezing”, then the speaker would be dismissed by a scientific hearers as someone who has not yet learned the way of science. Conversational or literary hearers would not reject this utterance out of hand. They might say “oddly expressed, but the drift of meaning is clear”, or they might possibly look for poetic resonances.

Talk of “demand” and “willingness”, is in this last conversationally normal but scientifically unacceptable mode of speech. What makes it open to refutation by scientists (whose utterances, of course, are in the great majority conversational, so they have no objection in principle) is that economists dress their formulations up in scientific terminology, even when using only words, and go on to show that this is not only a seepage of scientific vocabulary into ordinary English (for example, words like momentum) by drawing scientific-looking graphs, and applying algebraic symbolism and the differential calculus to them - and then taking the results seriously, although no one has ever been able to attach a number to them. At least, not convincingly - economists are notoriously never able to command unanimous agreement for any numerical result, even amongst themselves.

(end of essay on demand and supply and price)

Keynes has so far used no graphs, and there has been no algebraic development, and in several places he states that these devices are unnecessary (echoing Marshall’s weaker statements). But he uses algebraic symbols, and graphical language such as “intersection”, and scientific language, as “equilibrium” in the above-quoted sentence. He certainly wants to convey the impression that he is not just conveying an impression, he is saying something objective and true. And, of course, he did call his book “The General Theory”, thus riding on the back of Einstein’s General Theory of Relativity, the sound of which had caught the public imagination.

Keynes goes on to talk about “investment” as if r was involved here - no explicit mention of equities. And he specifically talks of the interest as “the price” of money, which is the language of bank-loans, not even bonds.

Keynes boldly states that his formulation above (in bold) “is not to be found in Marshall’s Principles in so many words”. Note that he is accusing Marshall, correctly I have no doubt, of failing even to define the forces which determine interest rate. He is reduced to:- “This is what I was brought up on and what I taught for many years to others”!

In summary, he is saying that it is commonly believed that more saving reduces, more investment increases, the going rate of interest.

And he follows on:- “Now, the analysis of the previous chapters will have made it PLAIN [yaroops!] that this account MUST BE ERRONEOUS”.

Is this not jaw-saggingly fantastic! He puts forward, as a pure STATEMENT, with so far as I have been able to detect, NO attempt at convincing exegesis, and certainly NOT A SCINTILLA of factual evidence, a madly implausible thesis full of conjectures and maybes, which supplants AS ERRONEOUS what everybody else has believed since time began, and he has the CHEEK to say his ANALYSIS has made it PLAIN that the classical theory MUST BE erroneous!!!!!!!!!!!!!!!!!!!!!!!!!!!

At what point did I fall fast asleep when this demonstration was taking place?

First he identifies points where the classicists were right:-

Savings=investment in aggregate (although, he says, Marshall did not expressly say so)

Keynes schedule of marginal efficiency of capital = classic demand-curve

He quibbles about classic view that r determines the amount saved. “When we come to the propensity to consume and its corollary the propensity to save, we are nearer to a difference of opinion, owing to the emphasis which they have placed on the influence of the rate of interest on the propensity to save. But they PRESUMABLY would not wish to deny that the level of income also has an important influence on the amount saved [more likely, they assumed aggregate income constant]; whilst I, for my part, WOULD NOT DENY that the rate of interest MAY PERHAPS have an influence (though PERHAPS not of the kind which they suppose) on the amount saved out of a given income”, the main determinant, he implies, remaining income level. I.e., s=s(inc, r) where r “may perhaps” be present.

So, agreed truce-text (“they would accept and I would not dispute”, p178) is:- “IF THE LEVEL OF INCOME IS ASSUMED TO BE GIVEN, we can infer that the current rate of interest must lie at the point where the demand curve for capital corresponding to different rates of interest cuts the curve of the amounts saved OUT OF A GIVEN INCOME corresponding to different rates of interest”.

[Note added 28.3.2001. This point of intersection gives ONE point on Hicks’ IS curve. Others are given as the “given level of income varies”.]

Note added later:- On p167, Keynes said, “The rate of interest is NOT the ‘price’ which brings into equilibrium the demand for resources to invest with the readiness to abstain from present consumption. It is the ‘price’ which equilibrates the desire to hold wealth in the form of cash with the available quantity of cash; which implies that if the rate of interest were lower [than what?], i.e. if the reward for parting with cash were diminished, the aggregate amount of cash which the public would wish to hold would exceed the available supply, and that if the rate of interest were raised, there would be a surplus of cash which no one would be willing to hold.” The truce-text is a retraction from the above emphatic position.

(Long ESSAY on the tautology involved in savings, investment, demand, supply)

Note added later:- In reading and analysing the above, I did NOT appreciate the importance of the first “If”. I therefore read it as an extremely odd and unacknowledged capitulation to the classicists. In fact, it is odd in a different way. Keynes first guesses that classicists “would not deny” that saving depends to some extent on income, and for his part, he “would not deny” that “perhaps” it “may” depend to some extent on the interest rate if income is fixed. Now this implies that it might or it might not, and if it does not, then Keynes is not proposing any other independent variable, i.e., it depends on income only. However, with no further argument or discussion, he says in his truce-text that it does depend wholly on the interest rate, if income is fixed. What does that mean if not that saving is a function of income and of interest rate? His only let-out would be that the conceded “curve of the amounts saved out of a given income corresponding to different rates of interest” turns out to be flat for all income levels! I.e., although it is conceded to be dependent on r, the dependence just happens to be zero. Back to my original essay, perhaps amended:-

My comment on truce-text:- First this quotation illustrates perfectly what I said above about Keynes’s tacit claim to be scientific by the graphical talk he uses. Second, if you accept a priori that there is such a thing as a money-demand curve (investment v interest rate), and a money-supply curve (money v interest rate), and if you accept that the actualised money-demand (investment) and the actualised money-supply (savings) must be equal, then this truce-text is simply a tautology. In fact, it is nothing more or less than an alternative way of saying investment=savings. The Keynes implicit picture of monotonically rising or falling curves, the usual crossed swords of economics text-books:-

is not in any way required for my assertion. Notionally, the curves can have any shape whatsoever, ascending or descending, straight or fantastically curved and looped, as long only as they cross somewhere, at least once. Nor is it in the least dependent on what “investment” and “savings” actually mean. All we need to know is that investment and savings, no matter what they may physically mean, are always at any point in time equal, and that they are both functions, any functions whatever, of one other parameter, no matter what, and it then follows tautologically that the value of this third parameter “must lie at the point where [one curve] cuts [the other]”.

Another way of showing that the truce-text has no factual or explanatory content, only logical content, is shown by re-writing the truce text with undefined parameters A, B and C:-

“It is given that the current value of A is always equal to the current value of B, and that both are functions of a third parameter C. The current value of C must lie at the point where the curve of A against C cuts the curve of B against C.”.

This is self-evidently true, no matter what entities A, B and C physically represent. Therefore Keynes’s statement of agreement between himself and the classicists is empty of content. It simply re-states that investment=savings.

This train of thought leads further:-

What is this strange assertion that investment=savings on which he and classicists agree? Keynes remarks that he cannot find this or that in Marshall, but I cannot recall seeing any definition of either investment or savings in Keynes. He has said that savings = income minus consumption. Not seeming to have heard of Marshall’s Principle of Continuity, he never bothers to say where the dividing line between consumption and saving comes. He seems to talk fairly consistently of investment as the purchase of plant. If that is so, and if investment=savings, then consumption is any purchase which is not plant. And savings is not savings if the money does not end up in the purchase of plant. So, if I save £1000 and lend it to Mr. A at 5% interest, and A spends it on paying his staff, or buying food for the firm’s Christmas dinner, then, interest or not, it is not saving, it is consumption. Maybe A’s firm consists of NOTHING BUT staff working from home, or from a rented office. Maybe his product is advice, and my 5% return comes not from a capital asset, but straight from the pockets of Mr. A’s clients. In that case, any borrowing by that firm in order to surmount any temporary cash flow problem cannot be investment in the Keynes sense, and indeed, one can see that such vignettes as I’ve just done could be multiplied indefinitely, and this process would then become an essay in illustrating Marshall’s Principle of Continuity, namely that the spectrum of purchases would defy categorisation into investment and consumption, and any dividing line would be entirely arbitrary.

I find I’ve been over this ground before (above), tending towards the same result. However, I am now going much further. Not only is the Keynes agreed position with classicists merely tautological given that investment does indeed and in fact equal savings, the seemingly factual statement that investment=savings now turns out itself to be utterly empty of meaning, because, first, the word “investment” cannot be defined by appeal to any tradition, everyday use, or objective logic, and second, in so far as one might succeed in more or less arbitrarily deciding what is and what is not “investment”, one would have no option but to define, in turn, “savings” as being money spent on exactly the purchases so defined. That is, no saver can know if he is “saving” in this purely definitional sense, or rather in the infinite possible number of definitional senses, since that can only be determined post hoc, and in general, not even then, since a given parcel of money leaving the saver cannot normally be traced to the point where it is used, ultimately, to make a purchase of a consumer-good or an investment-good, however these are distinguished.

So the above paraphrase of Keynes’s agreed text can be further modified to:-

“The current value of A is always, by definition, equal to the current value of B. Both are assumed to be functions of a third parameter C. The current value of C must then, of necessity, lie at the point where the curve of A against C cuts the curve of B against C.”

Note added later:- this differs only in the italicised words.

The question then arises:- If the whole statement just given is empty of content, what is the meaning of those functions of A and B against C? - since the statement is empty but true, a tautology, no matter what these functions may be? The answer must be that functional forms which can change in any conceivable way without affecting anything must be of no consequence, mere verbal flourishes or rhetorical gestures. Moving from our symbolic version back to Keynes’s text, these functions are what potential investors and potential savers MIGHT HAVE DONE if interest rates had been MAGICALLY different from what in actuality they were. In other words, they are indeed mere verbal flourishes, with no observable counterpart in the real world.

This conclusion, I have no doubt, applies to all these unquantified graphs which appear in the text-books of economics.

(End of long essay on the tautology involved in savings, investment, demand, supply)

Interim remark:- The original opposition was

classicists:- r mediates between investment and saving

Keynes:- r mediates between speculative cash and bonds

BUT NOW

truce:- at a given level of income, r mediates between investment and saving, and

at the same time, mediates between speculative cash and bonds

This is essentially the Hicks diagram - income, investment, savings, money and bonds are uniquely co-determined!!!!!!!!!!

12.12.96 p179

Now, Keynes says he is going to point out where he and classicists diverge.

He says that having agreed so far, classicists should, but do not, agree with:-

“an important truth [!]; namely, that if the rate of interest IS GIVEN [eh? - by whom?] as well as the demand curve for capital and the influence of the rate of interest on the readiness to save out of given levels [note plural] of income, [then] the level [now singular] of income must be the factor which brings the amount saved into equality with the amount invested. But, in fact, the classical theory not merely neglects the influence of changes in the level of income, but involves formal error.”

This farcically strong language (truth, formal error) reminiscent of the inquisition, is hardly appropriate to the extremely wobbly nature of this revelation. Of course, if the interest rate is given, and if the demand curve for capital is given, this is just a very roundabout way of saying that the amount of money needed for investment is fixed, and by definition, the amount needed for savings is fixed at the same value. Indeed, the formulation requires that these amounts of money are not just needed, they are the factual position at the point in time considered. In other words, Keynes has set up an exam-question situation, with no conceivable relevance to the real world. Now he adds that the readiness to save depends not only on the rate of interest but on the level of income. So, if savings are fixed by the quite arbitrary setting of the “question”, the only free parameter is income! This, according to the formulation quoted, adjusts up or down, and “brings the amount saved to equality with the amount invested”! Classicists are accused of not noticing this! One can see that the wily Keynes is once again gnawing at his bone - if you need investment, put income in people’s pockets. But any lecturer setting the above question, and any student giving the above answer, would be taken severely to task. The parameters (and in reality there are an infinity of them, not three) all react together. In the schoolroom, one parameter can be changed to make the equation balance, but in the real world they all change in reaction to each other.

Now, as far as I can tell at a glance, Keynes accuses classicists of precisely the fault I have just accused him of! He says that they assume that demand for investment, and the inclination to save, can be “shifted”, to give a new intersection point, as if income did not matter (Keynes puts it more bluntly still - he says explicitly that they assume income constant). If I were a classicist, I would indignantly reject this. Assume income constant, or assume anything else you like about income - the reaction on the inclination or indeed the capacity to save can always be reflected in the shift or change of shape of the savings curve. If I were totally cynical, I would say - no matter what, there is going to be an outcome representable by a single point, and you can draw any two curves you like through that point. My cynical formulation has no predictive content. The classicists and Keynes would all claim that their formulations have - but these claims have not been factually established to this day. He says that “the classical theory has not been alive to the relevance of changes in the level of income or to the possibility of the level of income being actually a function of the rate of the (sic) investment”.

Behold! Keynes now (p180) gives what so far as I can tell is the ONLY crossed-swords diagram in the book, and even this is attributed to Roy Harrod:-

The datum point is the intersection of the curves (Keynes has them tastefully curved) investment1 and savings1. The value of r here is r1. Savings1 corresponds to the quantity (not a curve) income1.

Keynes says if investment1 “shifts” to investment2 (i.e., entrepreneurs become pessimistic - they want less investment), it is not good enough to imagine that investment1 shifts but savings1 does not, so that interest rate decreases to intersection r12. The pessimism will be reflected in lower incomes, so at a given interest rate, people will want to save less, so savings1 shifts down to savings2, and the end value of r is higher (r2) to tempt the required amount of savings.

13.12.96 p180

Keynes then continues:-

“If nothing had happened to the state of liquidity preference [ savings1 fixed] and the quantity of money, so that the rate of interest is unchanged [at r1 - this is according to his theory of the fixing of interest rates]”, then income would HAVE to fall to the level corresponding to savings2. This appears to me to be another exam-paper exercise. It demonstrates, shows, proves, indicates, nothing about the real world. It merely shows the consequences of his premises. It is a paper exercise set to show what would happen if things were as he said they were.

The nub of Keynes’s criticism of the classicists seems to be (he himself does not home in on precisely this, maybe because he was not a scientist) that the classicists talked of the market they set up to mediate between borrowers and savers as if the activity of the borrowers (i.e., what they did with the savers’ money) had no effect on the savers’ income, and hence on their savings. If this is what he means, it would be a great deal easier if he said so, instead of all this rigmarole about curves.

If stated thus, Marshall’s question of TIME (which, like continuity, Keynes seems not to have heard of) comes into it, just as it comes into the ordinary demand/supply diagram. The latter assumes that sellers come to market with a certain “supply” or stock of goods, and that the buyers come through another door with a certain level of “demand” or urge to buy these goods, and with a certain amount of money in their pockets. The price then finds its own level. Of course there is a time-development. The sellers might, as a result of their experiences, go away and make arrangements to produce more, or less, or improve the product. The buyers too might come back next time with different “demands”. On the first day, however, there is no feedback, no “third parameter”.

In the same way, the classicists would be right to ignore feedback in the first instance. The “sellers” come with their goods (the loan of their money, their illiquidity), the “buyers” come with their money (their undertaking to pay interest), and the rate settles out. It is only with the run of time that the buyers build their plant and influence the sellers’ incomes, and hence their consumption, and hence their left-over income (savings). This means that later, the sellers come to market with less or more illiquidity to sell (and in reality, a million other things have happened as well), and the buyers too come with entirely changed requirements. So what is wrong with saying that the classicists are right, on the day, but what has happened before the day may owe something to Keynes? Or that the classicists (and common sense) are and always have been essentially right, and Keynes is merely coming along to sketch in what is happening between meetings of the market?

Surely “classicists” were not so stupid as not to consider these feed-back happenings. Suppose you have a market in guns. On day 1, the suppliers sell a lot of guns. On day 2, they return to sell more, but instead they are robbed by the now-armed buyers. Or suppose you have a market for seeds. The sellers return later to find that many of the buyers are now sellers of the next generation of seed.

All Keynes is doing is to point out that there is a feed-back of this sort here. The skin-flint sellers of today may return tomorrow impoverished by the lack of today’s investment. Klar, nicht?

However, it is bizarre in the extreme to imagine that this comparatively simple picture is clarified by inserting a wildly implausible theory that the interest rate is NOT settled AT ALL in the classicists market, but is settled ONLY BY some vague define-it-as-you-will entity called the quantity of money, and a private contest inside each saver’s mind as to how much of this indefinable entity suits his equally vague and undefinable “preference”.

Keynes says (p182) that “the mistake originates from regarding interest as the reward for waiting as such, instead of the reward for not-hoarding”. Re-written, this says “the mistake originates from regarding interest as the reward for not hoarding cash in a box, instead the reward for investing”. But WHO ever made this mistake?? If a 16-year old schoolboy incorporated this mistake in the answer to an exam question - “he saved his money in a box and lived off the interest”, even the doziest teacher would give a red-pencil comment in the margin. Yet, here is Keynes, the greatest 20th century economist, master speculator, attributing this mistake to his opponents!!

Keynes says the classicist might have known the something was up, because Cassel established that “it is not certain that the sum saved out of a given income increases when the rate of interest is increased”. So, concludes the egregious Keynes, you could not be sure that the savings/investment curves would cross at all! So, these curves cannot be the answer! Really! This reasoning only applies if Keynes adopts the classicists’ position on the elementary demand/supply market, where higher price (interest rate) tends to pull out more supplies (savings). In this story, a market would be impossible (as Keynes says) if supplies were fixed.

Self-evidently this is not the case here. The money/debt market is not representative of the generality of markets, or, more appositely, it does not conform to the simple classical demand/supply model. Here you have entrepreneurs who calculate a priori what returns they can expect from various investments, to make a sort of fixed price shopping list. So they are not normal buyers, who may go to market with a shopping list, but never on the basis that their target price MUST be met. If you are shopping for food, clothes, shelter, etc., you have to come home with something. On the other hand, you have savers, who, according to me at least, have a more or less fixed amount of unspent money. In an ideal world, their task is easy. They will lend their money to the top tranche of returns on the aggregate shopping list, at whatever absolute level that may be. I suppose there is a caveat (which actually, I think, aligns with Keynes’s view) that if the highest real returns were very low, zero, or negative, then there might be a tendency to raise consumption. Remember, however, that there have been times of negative real returns, and saving did not cease. So these are not normal suppliers, who typically have a floor price below which they will not sell. They are more like the sellers at a knock-down auction. Everything goes to the highest bidder (the items with highest return on the aggregate shopping list), without reserve price. This picture works I think providing only that there is no collusion among the multitude of entrepreneurs.

The second warning that the classicists had (p182) was that “in volume II dealing with the theory of money”, “it has been usual to suppose that an increase in the quantity of money has a tendency to reduce the rate of interest”, whereas, “in volume I dealing with the theory of value”, they had the 2-curves theory as above where the quantity of money plays no part in the determination of interest rate.

He says that classicists “failed to isolate correctly the independent variables of the system ... [which are] the propensity to consume, the schedule of the marginal efficiency of capital and the rate of interest. ... [and not their candidates] saving and investment”.

I have a feeling I can go along with that, but we’ll see.

17.12.96 p183

I can now see that the passage just above is the beginning of a completely unannounced peroration, which there is nothing for it but to quote in full:-

“Thus the traditional analysis is faulty because it has failed to isolate correctly the independent variables of the system. Saving and investment are the determinates of the system, not the determinants. They are the twin results of the system’s determinants, namely, the propensity to consume, the schedule of the marginal efficiency of capital and the rate of interest. These determinants are, indeed, themselves complex and each is capable of being affected by prospective changes in the others. But they remain independent in the sense that their values cannot be inferred from one another. The traditional analysis has been aware that saving depends on income but it has overlooked the fact that income depends on investment, in such a fashion that, when investment changes, income must necessarily change in just that degree which is necessary to make the change in saving equal to the change in investment.

“Nor are these theories more successful which attempt to make the rate of interest depend on the ‘the marginal efficiency of capital’. It is true that in equilibrium the rate of interest will be equal to the marginal efficiency of capital, since it will be profitable to increase (or decrease) the current scale of investment until the point of equality has been reached. But to make this into a theory of interest or to derive the rate of interest from it involves a circular argument, as Marshall discovered after he had got half-way into giving an account of the rate of interest along these lines. For the ‘marginal rate of efficiency of capital’ partly depends on the scale of current investment, and we must already know the rate of interest before we can calculate what this rate of interest will be. The significant conclusion is that the output of new investment will be pushed to the point at which the marginal efficiency of capital becomes equal to the rate of interest; and what the schedule of the marginal efficiency of capital tells us, is, not what the rate of interest is, but the point at which to which the output of new investment will be pushed, given the rate of interest.

“The reader will readily appreciate that the problem here under discussion is a matter of the most fundamental theoretical significance and of overwhelming practical importance. For the economic principle, on which the practical advice of economists has been almost invariably based, has assumed, in effect, that, cet. par., a decrease in spending will tend to lower the rate of interest and an increase in investment to raise it. But if what these two quantities determine is, not the rate of interest, but the aggregate volume of employment, then our outlook on the mechanism of the economic system will be profoundly changed. A decreased readiness to spend will be looked on in quite a different light if, instead of being regarded as a factor which will, cet. par., increase investment, it is seen as a factor which will, cet. par., diminish employment.”

Before going back to check this through in minute detail, I note that the last sentence echoes once more Keynes’s root insight or hunch or hobby horse. Note, too, that as it stands it must be nonsense, since there must be an optimum spend. If you are already under this optimum, then by definition, Keynes must be right, but if not, not. Perhaps he believed that if you are in recession (and perhaps only then is economists’ advice sought or tendered) then ipso facto you are below optimum spend, but he does not say this.

The “thus” with which the peroration starts gives the impression that there is directly antecedent text containing the exposition on which the peroration is based. This is simply not so. There has been a rambling discussion which seems to contain only one thought - that classicists ignored feedback from investment to income, and therefore interest rate was indeterminate, because this depended on savings, which in turn depended on income, and hence on investment. Keynes is never absolutely explicit in any of this. He says he is unclear as to what classicists really thought, because he says no coherent exposition of this can be found. He then confusingly analyses their supposed position using his own viewpoint. That is he can never say “Their analysis is this; my analysis is that”, in two clearly separated texts. The whole issue is discussed, not step by step, but all at one go - my comment echoes that of Pigou here. Anyway, he concludes - fairly convincingly - that it is not enough to talk about these investment and savings in isolation, and if he is right that classicists did this, OK.

However, he goes much further:-

“Thus the traditional analysis is faulty because it has failed to isolate correctly the independent variables of the system. Saving and investment are the determinates of the system, not the determinants. They are the twin results of the system’s determinants, namely, the propensity to consume, the schedule of the marginal efficiency of capital and the rate of interest.”

Not only are S and I not the only independent parameters, they are not even in the list of independent parameters. The independent parameters are the propensity to consume, the schedule of the marginal efficiency of capital and the rate of interest. But so far as I can see, he nowhere argues this out. On the contrary, he immediately muddies the waters by saying that these “independent” parameters are “capable” of “affecting” each other. What can that mean except that they (and the other two as well, says I) are in reality co-determined?

It is all very well to say that the classicists were wrong to say (if they did say) that S and I determine interest rate, in the sense that the S and I curves can move independently:-

S & I --->> R

And it could be argued that the Harrod diagram above is better, giving:-

investment demand decreases

incomes fall

savings fall

interest rate falls, but not so far as it would have if incomes and savings had stayed steady

but this simply means that the classic picture was right, once the feed-back is added. And this feed back could be via income, allied with Keynes’s propensity to save. Why isn’t Keynes satisfied with that, instead of insisting that their gods should be totally abolished, and his elevated to the throne of glory?

I am rather partial to the idea that ALL income is related to productive investment plus the “human capital” needed for invention and operation of the plant. That is:-

--> investment --> income --> saving --> investment --> income --> saving -->

but is JMk’s quarrel with the classicists anything more than that he prefers to start his circle at the word "income" and not at the classicists preferred starting point, the word "investment"?

According to my picture, interest rate is a mere proxy to mark the equilibrating point, whether in the pre-Keynes classicists picture, or in the post-Keynes Harrod modification of the classicists picture, as price is a mere proxy in the conventional demand/supply diagram. However, as said before, I prefer the metaphor of the auction room, where the price is a mere indicator of the balance of desire to sell and desire to buy, or a room where the height of mercury in a thermometer is a mere indicator of the balance between the strength of the heating of the radiators and the strength of the cooling of the windows and the cold air outside. Keynes will have none of this. He accuses classicists of giving priority to saving, whereas he insists on giving priority to spending and also, it seems, on elevating interest rate from a mere cipher to a player, presumably because he was a propagandist for, and believer in, the use of (central bank) interest rates to stimulate investment.

The peroration continues without adding much until we come to:-

“The significant conclusion is that the output of new investment will be pushed to the point at which the marginal efficiency of capital becomes equal to the rate of interest; and what the schedule of the marginal efficiency of capital tells us, is, not what the rate of interest is, but the point at which to which the output of new investment will be pushed, given the rate of interest.”

Now, not only has this not been argued. It is an entirely new thought which has not even been mentioned before, and is not developed further. The peroration continues without reference to this “significant conclusion”, with a flat re-statement of the Keynesian “spend, do not save” slogan, as already referred to.

The passage reinforces the idea of interest rate as a given. The picture is of an administrator decreeing that the interest rate is r (sub-picture - r is very low), and that plant operators will operate existing and new plant (Keynes says “output of new investment” but the need for the qualification “new” is not apparent) flat out, to get returns exceeding this very low figure. So - new brush strokes added to the Keynes picture but with no supporting - even fallacious - argument whatsoever.

Now, let’s look at that last paragraph again:-

“ ...... a matter of the most fundamental theoretical significance and of overwhelming practical importance. .... A decreased readiness to spend will be looked on in quite a different light if, instead of being regarded as a factor which will, cet. par., increase investment, it is seen as a factor which will, cet. par., diminish employment.”

Here is the central Keynes message, trumpeted with those clarion words. Yet the merest child in scientific matters might have argued a priori (i.e., with no theoretical or scientific pretensions whatsoever) as follows:-

Output depends on the invention, manufacture and operation of plant of all sorts. (In case this sounds ridiculously materialistic, it has to be pointed out that even the production of the most ivory towered intellectual, poet, or philosopher depends on somebody providing his food and shelter). This embraces all the extensive, and today more and more extensive, cultural, educational, financial, transport, retailing and service structure which that entails. This implies that a certain number of workers must be dedicated to the production of goods which are not of use to individual citizens, but which are used by the remaining workers in order to produce the goods which are of use to individual citizens. It is clear a priori that the fraction of workers which must do this work of producing these intermediate goods (which we shall call “investment” in “investment-goods”) must have an optimum value in order to have maximum output at a certain point in the future (say 3 years hence, since in the long run we are all dead, and 3 years seems a reasonable time in which to build most types of plant). For, if this fraction is zero, output must eventually fall to pre-industrial revolution levels. On the other hand, if it is one, then there are no customers for the goods which might notionally be produced. If there is an optimum level of this fraction, then by definition, if it falls below, production will be improved by raising it, and if it rises above, production will be improved by lowering it. Thus there is no desirable direction of change. More does not necessarily mean better - or worse.

Inserted 22.12.96, on finding that Malthus in preface to “Principles of Political Economy” is quoted by Keynes (p363) as giving exactly my argument as above.

“The principles of saving, pushed to excess, would destroy the motive to production. If every person were satisfied with the simplest food, the poorest clothing and the meanest houses [i.e., they consumed next to nothing], it is certain that no other sort of food, clothing and lodging would be in existence [a tautology I think!]. The two extremes are obvious; and it follows that there must be an intermediate point, though the resources of political economy may not be able to ascertain it [exactly!], where, taking into consideration both the power to produce and the will to consume, the encouragement to the increase of wealth is the greatest.”

Now, as said above, it is conceivable that if there are business cycles, the investment fraction is always below optimum at the peak of the cycle, and always above optimum at the trough. I do not know, nor does Keynes, since he does not enter AT ALL into this discussion. But it is clearly not a “general theorem”, to use Keynes’s vocabulary, that “a decreased readiness to spend ...... is a factor which will diminish employment”. It will only do so if investment is currently above optimum, i.e., if spending less and investing more will make things worse, move things even further from the optimum.

So my child-onlooker’s theory is in fact The General Theory, not Keynes’s. However, it is empty of prescriptive content, and Keynes’s is not. So although he is wrong, or at least not demonstrably right, least of all by his own demonstration, he is the economic genius of the 20th century, not me!

18.12.96 p186 Appendix on Marshall et al.

“There is no consecutive discussion of the rate of interest in the works of Marshall, Edgeworth or Professor Pigou, - nothing more than a few obiter dicta [!!]”

I’m not sure whether to quote his quotations from Marshall verbatim or not. I’ll try summarising first.

Keynes refers back to an earlier quotation (p139 of this book, pp 519-20 in Marshall):-

(italics=summarisings)

Factory:- investment of £100 yields £3 pa in net output. “If it pays, and only just pays” we infer that the interest rate is 3%. But making a theory of this involves “reasoning in a circle”. The reason appears to be that in reality, the rate of interest could be anything. Its value r determines only WHICH machines are used, i.e. those which return more than r .

Personally, I don’t see this. “Making a theory” is too vague for me. If (marginal cost=price) gives me no difficulty, I don’t see why (marginal rate of return=interest rate) should.

Now to Marshall p534 and p593:-

p534. Increased demand for “capital”, within a closed boundary, would not have as a first order effect an increase in the supply of capital, since this is quasi-fixed “by labour and waiting [by which perhaps he means income and waiting]”. So interest rates go up, at least in the first instance. No doubt, if this state continues, there could be “extra work and extra waiting”, hence more supply.

This seems clear enough to me, but Keynes comments querulously that M is saying capital when it should be money (!!) He attacks him for being vague and inconsistent! And for telling his story, not Keynes’s. I.e., Keynes prefers the story that a rise in demand for capital goods would be held by a rise in price of capital goods, interest rate remaining fixed. In my view, ALL of these processes are going on. (As an aside:- Hicks’ IS/LM does not portray the price of capital goods - a feed-back too far!)

I note here that Keynes’s attack on M for saying “interest on capital”, when “interest” is strictly the price for borrowing “money”, is hugely rich coming from a man who has said that money can be defined to mean anything you care to mention, anything “that is most convenient for handling a particular problem”.

p593. Keynes chides M for saying that to talk of interest rate in the context of old plant is only of limited sense. Keynes snorts that r ONLY applies to the borrowing of money. M says that r only gives the present value of old plant - what it is worth at today’s discount rate.

Seems a harmless old-bufferish remark to me. According to Keynes, that is ALL Marshall has to say on interest! Now to:-

Pigou, Economics of Welfare. p163. Pigou says nothing “theoretical” about interest. He rambles on a bit about how “waiting” releases resources from consumption to investment, says this might be measured in year-pounds [I suppose £1 for 1 year], and adds that “savings” do not necessarily land up as “capital accumulated” [of course - as said above the two things can only be brought into equality or any other describable relationship by a process of DEFINITION]”

Pigou, Industrial Fluctuations. p251-3. (Keynes - “his only significant reference to what determines the rate of interest ... where he controverts the view that the rate of interest lies outside the central or any other bank’s control”) Banks’ interest rate is bound to long-term rates, but that does not mean they have no influence. When they create credit, they make a forced levy of real things from the public, and cause a fall in real interest rate of long and short loans alike.

Again, this seems to me to be OK (by which I do not mean “true”, but only that it is a logical train of thought). Keynes says M and P have hardly any business to be talking about interest at all, since they take as read the existence of money and banks, but talk on as if they had no part in events in the real active world. So, on to Ricardo:-

Ricardo, Principles of Political Economy. p511. Explicitly expounds a money-does-not-matter theory of interest. The real-world rate of return on capital is all there is to it.

Keynes says this is what M and P really think, but they are “uncomfortable”, and “seek refuge in haziness”. This is the master of haziness talking. Keynes then, in my opinion, goes right over the top. Whereas I imagine Ricardo hardly thought about employment and unemployment as such (maybe he had the good sense to think that these were undefinable non-entities), but only about a world of bankers, entrepreneurs, land-owners and workers (after all, what sense does it make to enquire after the employment and unemployment and full employment only of workers? - why not enquire if bankers, entrepreneurs, and land-owners are fully engaged in exploiting their factors of production?), Keynes accuses him of assuming that “there is always full employment”. Why should he accuse him of ignoring something which was current in endless conversations, articles and speeches in 1936, but which neither Keynes nor anybody else ever thought it necessary to define, because everybody in 1936 just knew what it was? Keynes then goes on, unilaterally, in the guise of a comment on Ricardo, but in fact having nothing to do with Ricardo, to re-state once again, with no shred of supportive argument, his slogan:- ““Ricardo and his successors overlook the fact [how can you have a fact when the entities concerned are undefined?] that even in the long period the volume of employment is not necessarily full [meaning?!] but is capable of varying, [and now comes an ex cathedra Keynes doctrine] and that to every banking policy [to the best of my knowledge Keynes has not up to now even mentioned such a thing] there corresponds a different long-period level of employment; so that there are a number of positions of long-term equilibrium corresponding to different conceivable interest policies on the part of the monetary authority”.

Wow! Absolutely nothing before has led up to this, and yet Keynes is talking as if he was just counterposing to Ricardo something his “theory” (after all, we are near the end of a book called “General Theory”) had developed. But up till now, we have heard of the spend theory of stimulating employment (also unsubstantiated), but not of the monetary authority/interest rate theory. The first concerns interventionist government, the second interventionist central and other banks. And this is introduced in an appendix, and as a mere commentary on Ricardo! So, presumably there is an interest rate which guarantees “full” employment and therefore full production! How simple! Why have I never before heard of this dictum of “Keynesian economics?” Is it because even Keynesian economists recognise its absurdity?

Keynes makes the fair point that Ricardo’s money-doesn’t-matter is only true in steady state, and the passage quoted by Keynes does talk of banks lending money, which is not really in detail a steady state matter - it’s a real life matter. He compliments Ricardo, extremely back-handedly, on sticking steadfastly and consistently to his “hypothetical world remote from experience as though it were the world of experience”, and then equally backhandedly, says, “with the weaker spirits, his successors, common sense cannot help breaking in”.

In his last section of this appendix, he takes a swipe at von Mises, Hayek and “also I think” Professor Robbins. They dared (“it is not clear how this conclusion is reached”) to think the exact opposite of Keynes, i.e., that to stimulate production, you should cut consumption demand down! The argument is:-

cut spending on consumables

price of consumables falls

relative price of capital goods goes up, returns go down

interest rate falls

this stimulates investment (Yaaaaaroooooohhhh!!!!)

Keynes wearily comments that investment should be stimulated if either returns go up, or interest rates go down. Well, let’s remember that these gents were professors, and that Keynes was only a lecturer/journalist.

24.12.96.

Digression to sample the prose of Edgeworth from “Mathematical Psychics” p4:-

The following passage is copied verbatim, including italics.

“To illustrate the economical problem of exchange, the maze of many dealers contracting and competing with each other, it is possible to imagine a mechanism of many parts where the law of motion, which particular part moves off with which, is not precisely given - with symbols, arbitrary functions, representing not merely not numerical knowledge but ignorance - where, though the mode of motion towards equilibrium is indeterminate, the position of equilibrium is mathematically determined.

“Examples not made to order, taken from the common stock of mathematical physics, will of course not fit so exactly. But they may be found in abundance, it is submitted, illustrating the property under consideration - mathematical reasoning without numerical data. In Hydrodynamics, for instance, we have a Thomson or Tait reasoning ‘principles’ for ‘determining P and Q will be given later. In the meantime it is obvious that each decreases as X increases. Hence the equations of motion show’ - and he goes on to draw a conclusion of momentous interest that balls (properly) projected in an infinite incompressible fluid will move as if they were attracted to each other.”

[Added later, 28.3.2001. I have re-checked the above text – it seemed on re-reading so incomprehensible. I found that it is transcribed exactly as printed! I have now put the wacky quotation in bold.]

Note that the last sentence (“In Hydrodynamics …… “) contains 3 full stops, 2 of them within quotation marks. The drift of the whole passage is fairly clear - that you can have “mathematical reasoning without numerical data”! But this ordinary thought is mystified rather than clarified by Edgeworth’s wacky verbiage.

Back to Keynes (24.12.96 cont) p194

Chap 15 Psychological and business incentives to liquidity

Liquidity-preference==demand for money==income-velocity of money

PT=GDP=MV

P=£/unit

T=no of units/year

GDP in £/year

M=cash in £

V=no of transactions/£.year

So M=GDP/V

“.. so that an increased income-velocity may [note the “may”] be a symptom of a decreased liquidity-preference”.

Note that this is a hopelessly definitional statement, since velocity cannot be observed as such. It can only be obtained by dividing aggregate income (GDP) by the amount of money, the latter itself being hopelessly subject to definition. Result - this is a statement which one might as well not bother to make. Keynes himself goes on to make questioning noises - but not nearly enough!

“It is not the same thing, however, since it is in respect of his stock of accumulated savings, rather than of his income, that the individual can exercise his choice between liquidity and illiquidity.”

This is hopelessly, hopelessly, confused. Savings is what is unspent. Keynes envisages “the individual” deciding how to move the line between his liquid and illiquid savings. But the individual’s savings are only a paper title for future spending and have no current actuality - currently they are somebody else’s income, which this somebody else is deciding to spend or not to spend. Cash is not savings, or not yet savings. It is the no man’s land between income and savings. I may draw cash today and spend it today, or I may keep it in my pocket, spending nothing, for a month. Or more likely, I draw it today, and I spend it in dribs and drabs over some period which is not pre-defined, is in fact defined by how long the cash lasts. If my income is steady, and my cash happens to last a long time, my true savings (let’s say excess of income over expenditure in a year) will tend to increase. Plainly Marshall’s Principle of Continuity is in full force here! - with the spectrum:-

notes & coin to spend today - notes & coin to spend in the next week or two - bank deposit at zero interest to spend in small transactions via withdrawals of notes & coin or cheque - bank deposit at near-bank-rate as a sort of buffer, or reflection zone, between transaction money and “investment” - “investment “, i.e., titles to bonds and equities.

The latter clearly has no direct relationship to my current monthly income, and my notes & coins, and near- notes & coins hasn’t either (the extent of my notes & coins is really determined by the size of my trouser pocket and the wallet which fits in there), so only the interest-bearing buffer is income dependent (I think, but I’m not too sure), being about 2 to 3 times my monthly income.

Note that in all my personal reflections on my own “liquidity”, nothing counts on the liquid side but trivial considerations of convenience, and nothing on the illiquid side but prudence, safety, convenience and yield, more or less in that order.

25.12.96 p197

Keynes goes again through the transaction motives for holding cash - not too convincingly as if he himself is getting bored with this story-telling. He more or less agrees with me (which I did not realise before) that these are mundane quasi-fixed requirements. Then he gets on to the “speculative-motive”, which he says is special - because “experience indicates” that aggregate demand for money responds to changes in interest rate. He then plays the trick of immediately re-wording this neutrally, “i.e.”, there is a “curve relating” demand for money and rate of interest on bonds “of varying maturities”. So, within the same sentence, A responding to B becomes A correlated with B. The next sentence begins a new paragraph which immediately sketches the following train, which Keynes says again that “experience indicates”:-

central bank buys bonds in “open market operations” for cash

price of bonds is bid up

interest rate of bonds falls

interest rate falls

So B responds to A. In quick succession, in the space of half a page, a causal relation is stated, then it is re-stated as a neutral correlation, then it is re-re-stated as a causal relation with direction reversed! Of course, such a balancing act is not impossible (delta A might be followed by delta B, and vice versa), but no conviction is carried if the author says that “experience indicates” both, as if he was merely describing the same thing in different ways, and without even remarking on the reversal. This can surely only mean that he is stupid, or that he is willing to engage in verbal sleight of hand, contemptuous of his readers.

26.12.96

Keynes says as an aside that US Fed open market operations in 1933-4 were confined to “very short-dated securities”, so their rates might have been affected, not the rate for “much more important” long-term securities. I sort of think this may be typical journalist talk, meaning “if it had worked, I would have said ‘told you so’, but it didn’t quite”. At any rate, his remark, at face value agrees with my view - why do “experts” drool on about “base rate”?

Keynes now draws a distinction between interest rates changing because something tangible has happened (e.g., more money injected), and changing because of unrelated or distantly related events acting on the minds of players. He calls the latter “affecting the liquidity function”. He illustrates this with what seems to me a truly silly scenario. “If the change in the news affects the judgement and the requirements of everyone in precisely the same way, the rate of interest (as indicated by the prices of bonds and debts) will be adjusted forthwith to the new situation without any market transactions being necessary.” Oh really? If there are no transactions, no buyers, no sellers, how can brokers make a price? Of course, if the broker unilaterally adjusts the price, and no buyers or sellers rush in, he knows he has guessed right. So if the wave of sentiment is sufficiently universal and obvious (a war breaking out or something) interest rates (or indeed the price of anything whatever) could change without much actual cash-flow. But flow is in principle necessary, just as a water or air valve needs some reverse flow to cause it to close. Surely, since any real situation will involve some sentiments, but rarely universal ones, this means what I always suspect, namely that if anything happens, almost anything can happen next. In other words, Keynes is shooting himself in the foot.

Extraordinarily, he goes on to say almost that! But with immense incoherence. In general, he says, “the new equilibrium rate of interest will be associated with [note the cautious avoidance of causality] a redistribution of money-holdings. Nevertheless [he states without reasons] it is the change in the rate of interest, rather than the redistribution of cash, which deserves our main [another defensive word] attention”. There is no rhyme or reason to this. He continues:- “The latter is incidental to individual differences, whereas the essential phenomenon is that which occurs in the simplest case.” Why? What does “essential” mean here?

What he is generally driving at is that if there is an interest rate change, the extent to which there is subsequent market activity is an index of unanimity - no flow, complete unanimity - large flow, large numbers seeing advantage in selling, equally large numbers seeing advantage in buying. This is almost a new (and quite good) general view of a market. A market needs diverse opinions! If the persons on each side of a saddler’s counter have identical views on the saddle, there will be no sale! One person has got to want the other’s saddle, while the saddler has got to prefer money! That is why saddler and customer are at the market. If to make a sale, the saddler brings his price down, but the customer revalues the saddle downwards in concert, no sale will ever take place. It is an odd reflection that in the money market, there are many actors who are constantly ready to change from buyer to seller and vice versa. There is no quasi-fixed distinction between the supplier and consumer as there is in a conventional market. If everyone in concert suddenly wants to be a buyer, the price will go up, but there will be no sale! I am now saying virtually what I castigated Keynes for saying above, namely that if there is unanimity there can be a price rise which is not mediated by transactions:- there is no cash flow. I am right too, since unanimity is an ideal and impossible concept.

Anyway, why is the “simplest case” the “essential” one? Keynes does not say. As so often he states it as master to pupil, ex cathedra. Then he goes on to clinch the matter by stating as an observation, but in a purely anecdotal way, that “even in the general case [i.e., no unanimity], the shift in the rate of interest is usually [says he] the most prominent part of the reaction to a change in the news. The movement in bond-prices is, as the newspapers are accustomed to say, ‘out of all proportion to the activity of dealing’; which is as it should be, in view of individuals [note sloppy English] being much more similar than they are dissimilar in their reaction to news.” The section ends there, with interest rate now “usually” “reacting” “most prominently” to news!

This quite short essay on the “speculative-motive”, less than three pages long (pp196-9) is perhaps the most incoherent, rambling, random-walk-like passage I have yet encountered in Keynes. In it we have had quantity of cash, interest rate, and general news promoted in quick succession as main actors. It started with interest rate affecting cash, moved on to cash affecting interest rate, and ended up with news (not mentioned at all up to that point) “usually most prominently” affecting interest rate with no movement of cash at all! Clearly this is a man who can readily produce an authoritative-sounding story to fit any happening whatsoever involving news, interest rates and cash.

Here, I see that Keynes slips this embarrassing net, and into algebra! I look forward to that.

31.12.96 p199

Section II Keynes mentions that he is going to assume so-and-so as “a safe first approximation”. A scientist would never say this except as being equivalent to a promise that a second approximation was lying downstream. Needless to say, I do not expect this from Keynes. It is just good-sounding talk. He decides to treat cash as being in 2 parts, M1 and M2, the first for transactions, the second for speculation. He simply states that M1 is only income dependent. And that M2 is only interest rate dependent and state-of-mind dependent. He then immediately re-states in algebra that M2 is only interest rate dependent. He does not seem to think that these arbitrary assumptions are worth even speculating about, let alone citing evidence for. He does not even state what he means by money (although he does call it cash). As said above, I do not have any CASH for “speculation”, and my cash (bank notes) is really governed only by the convenience of the notes which fit into my wallet. If cash machines delivered only £10 notes, my cash might be limited to say £150 (15 notes) at one withdrawal. With £20 notes, this becomes £250 maximum (13 notes). Suppose Keynes was to submit himself to a survey of real individuals (for which he would first need to define cash!). Does anyone remotely suppose that his assumptions would be borne out? Would anyone really expect to find that a rich man carries or holds more cash than a relatively poorer one, and that a speculator holds more still - and that this latter amount would depend on the interest rate? Note that not only does Keynes not define cash, he does not breathe a word about whether he is talking about individuals or the aggregate. If the latter, it is conceivable that trends undetectable among individuals would emerge from the national total. But in that case no comparison would be easily possible. One would be back to the old situation of looking at time series of cash and of national income.

Anyway, I’ve written a paragraph on a matter which Keynes covers in 2 lines. He charges on. His algebra embodies the confusion already remarked on. He writes

M1=L1(Y) M2=L2(r)

This enables him to say that M1 is money, but L1 is a function, specifically the “liquidity function”. A numerate person would say that M1=M1(Y), i.e., that the amount of money is a function of income. In my experience, it is unknown to call a function by a specific name, unless it is merely to describe its form (parabola, cubic, etc). Keynes will talk as if there are three entities involved, money, income, and a liquidity function, whereas there are only two, money and income, and the first is a function of , i.e., is determined by, the second. This point is not an easy one to make to an audience of economists, since it distinguishes people for whom algebra is just another polemical device, from those for whom algebra is a working tool. For the latter, the two sides of an equation are necessarily and by definition the same thing, not different things. If someone needs to have this explained, then almost certainly explanation will prove to be impossible. This is a feature of the two cultures.

He goes straight into his usual muddle. Having said that Y and r determine M1 and M2 and hence M which is the sum of these, he now proposes (i at top of p200) to discuss “the way in which changes in M can come about”, and starts a story:- “Suppose that changes in M can only result from increased returns to the activities of gold-miners”. Note the “only”. So M is being treated as if it were exogenously fixed, literally 7 lines below the M=M(Y,r) story. However, the gold-miners were presumably introduced simply to jog the reader’s interest, since they are immediately ditched, along with their increased returns, and never heard of again, by saying that this is the same as the government printing money. The subsequent passage needs to be quoted in full, since it a ripe example of Keynes in obfuscation-mode.

“The new money accrues [accrues?] as someone’s income. The new level of income, however, will not continue sufficiently high for the requirements [flooze] of M1 to absorb the whole of the increase in M; and some portion of the money will seek [flooze] an outlet in buying securities or other assets until r has fallen so as to bring about an increase in the magnitude of M2 and at the same time to stimulate a rise in Y to such an extent that the new money is absorbed either in M2 [,] or in the M1 which corresponds to the rise in Y caused by the fall in r. [WOW!] Thus at one remove [eh?] this case comes to the same thing as the alternative case, where the new money can only [ONLY - WOW AGAIN!] be issued in the first instance by a relaxation of the conditions of credit by the banking system [groan - what banks exactly - are these exogenous banks?], so as to induce [wooze] someone to sell the banks a debt or a bond in exchange for the new cash. It will, therefore, be safe for us to take the latter case as typical [Yaaaaaaaaaaaaaarooooooh!!!].”

7.1.97 p200

Let’s try and re-write the above Keynes stuff in straightforward colourless English. I take it in two parts.

1st part. The new money is an addition to aggregate income. The increase in the cash for transactions, however, must be less than the increase in total cash. The difference must be used in buying additional securities until r has fallen so as to bring about an increase in cash for speculation and in aggregate income, to such an extent that the original addition to aggregate income is absorbed either in cash for speculation or in that cash for transactions which corresponds to the rise in aggregate income caused by the fall in r.

I say that the above is largely incomprehensible, and to the extent that it is fleetingly comprehensible, it is wrong. First, Keynes does not say whether he is talking about real or nominal income, and when one is talking about printing money the distinction is crucial. Aggregate real income cannot be changed by printing any amount of notes. Of course, aggregate nominal income can, and the real income of the recipient individuals can. Second, as already said, it is not at all clear that more income necessarily means more cash for transactions. Why should Keynes dismiss out of hand (as he does later) that the velocity of cash does not increase? Third, why should more income give rise to more cash for speculation? Especially when Keynes has said only one page earlier that this is a function only of r (in his algebraic formulation) and also of “state of expectation”? He tries to square this circle by pretending that, first, securities are bought with spare cash not needed for transactions (as if this cash was just cash, without qualification, and that cash for speculation was somehow not involved here), that this purchase depresses r, and that this then fosters an increase in cash for speculation. I fail to see why an increase in income which translates inevitably (in Keynes’s rendering of the story) into a rise in cash for speculation cannot be described in terms of the latter being a function of the former. Fourth, Keynes sneaks in an assumption that this fall in r also stimulates a further rise in income (perhaps real income this time), and, in an extremely convoluted piece of syntax, manages to come back full circle, implying (I think!) that everything pans out as if this rise in income was the only thing that had really happened, with the cash either in M1 or in M2 (he says, very oddly) being augmented by amounts determined only by this rise. Thus he comes to the conclusion that printed money has exactly the same effect as funded money, and that is what the 2nd part says:-

2nd part. This is thus equivalent to the case in which cash is issued in the first instance by a reduction of r by the banking system, so as to induce bond holders to sell bonds to the banks in exchange for the new cash.

8.1.97 Still p200

Keynes implies, I think, that this is the normal or conventional case. I.e., somebody wants (and this want is created or strengthened by fact that bond price is raised) cash, so he sells an asset to get it. Or authorities want more cash in the system, so they lower interest rates, this raises the price of bonds held by outside bond-holders, some of whom are then tempted to sell in exchange for the newly printed cash.

How can Keynes assert that this “comes to the same thing” as simply printing money in the first place, and then scattering it from helicopters? His story is that the additional cash is somebody’s additional income, that they do not spend all of it, that although transactions must go up, they “cannot” take up the extra cash, that this spare cash “must” be used to buy securities, that therefore r “must” come down, that speculation cash “must” then increase, and that also income “must” be boosted further, and that this entails a certain need for cash, which, lo and behold, is just what was injected in the first place. A likely story.

Let’s stand back and consider this again. In the space of one short preambular sentence and one rather long and convoluted one, and without once mentioning the words real, nominal, individual, aggregate, Keynes sketches an extremely complex interacting system and gives its precise response to a step input, and asserts that this response is exactly the same as it would be if another step input was given. There is no argument, no appeal to authority, no reference to evidence.

In the next paragraph, he more or less re-states the 2nd response system:-

Increase in cash, M

r decreases

cash for speculation, M2, increases AND income, Y, (output) increases AND (hence) cash for transactions, M1, increases

Keynes gaily adds, “Since Y partly depends on r, it follows [!] that a given change in M has to cause sufficient [!] change in r for the resultant changes in M1 and M2 respectively to add up to the given change in M”. !!!!!!

So M --> r --> M2
          --> Y --> M1

i.e., a step change in M provokes by 2 different mechanisms (one involving the income, including investment, of the whole country, both involving the psychological responses of millions of people), step changes in 2 subordinate quantities, M1 and M2, just such that M1 + M2 = M!

OK if you read it quickly and with the eyes of faith - and presumably that is what economists have been doing for 50 years!

One last thing on this passage (only one page long!) - it is trailered as an “investigation” of the relation of changes in M to Y and r. Some investigation!

The next bit (headed ii, p201) is trailered:- investigation of what determines the shape of L1(Y). The answer takes half a page and is:- M1 is a constant fraction of Y! Why? Because V is the income velocity of money, and by definition it is V=Y/M1 (or V=Y/M, but Keynes “proposes” to opt for the former), and “if we have a short period of time in view ... we can treat V as nearly enough constant”. He then moves on to iii.

Note first that without saying so, Keynes is now dealing with the aggregate, since V hardly makes sense for an individual.

This paragraph is one of boundless cheek. In all the wooze and flooze of economic data, income is fairly solid, and cash, while endlessly debatable as to its definition, can be defined and quantified. V, on the other hand is totally invisible, a figment of the imagination. It is defined, and is only perceptible as, the ratio of income to cash, however the latter are defined. Incidentally, no scientist, or anyone with any respect for straight thinking, would call this ratio a velocity. Velocity is distance divided by time. It has the units:- distance per unit time. V is a pure number per unit time, i.e., what in science would be called a frequency. If cash is defined as bank notes, V is the number of times per year (say) that you have to go to the bank for cash. V is a dummy variable. You have some chance of measuring Y, and some chance of first defining and then measuring cash. You have no chance whatever of measuring V (at any rate in the aggregate - with one individual you could enumerate the number of cash withdrawals from his current accounts), except by dividing Y by M. For Keynes to say that he will investigate the relation between Y and M, and then appeal to the pretended fact that V is constant to deduce that Y/M is a constant, is simply outrageous. The only way you could check this “fact” would be to measure Y and M and check the constancy of their ratio.

The second element of monumental cheek is to say that “if we have a short period of time in view ... we can treat V as nearly enough constant”. This is the fallacy of the Greek philosopher who thought that a flying arrow must be stationary at every precise moment of its flight:- “if we have a short period of time in view, as short as can possibly be imagined, we can treat the flying arrow as nearly enough stationary”. For centuries, scientists have been incapable of uttering this type of phrase. The arrow is flying with velocity V no matter how small the interval of time (or - what is the same thing - of distance) over which its flight path is measured. The only circumstance in which it makes sense to say “we can treat V as constant” is in the context of things which are going much faster than any conceivable variation of V. For example, in discussing the speed of a speed-boat, it might be possible to say, “for all practical purposes we may treat the speed of flow of different parts of the river as a constant, since the variation from one part of the river to any other is small compared with the average speed of the river, or the speed of the speed-boat.”

The only way in which Keynes could say that M bears a fixed ratio to Y would be to measure both over a period of time, i.e., to cite observational evidence. He does not do this. It suits his story to have this relationship, so he chooses to “investigate” it by means which pass merely rhetorical muster, while appearing superficially to sound scientific, or logical. In fact, even in terms of Keynes’s “thought experiment”, it is not even plausible to assert that V is constant in the context in which he is working. If there is a sudden injection of new money, it is at least as plausible to assert that V will suddenly increase, i.e., that although the volume of transactions goes up, the cash used remains constant. After all, the amount of cash one uses for transactions has a great deal to do with the available denomination of notes, the physical size of one’s wallet and pocket, and simply habit. If one is in the habit of drawing £200 for out-of-pocket expenses, and one’s income suddenly goes up by 3%, one is not going immediately (or ever) to start drawing £206 for these expenses. The fact of £20 notes becoming common did more to increase my cash holding that any question of my level of income.

Therefore I say that Keynes’s section ii, his “investigation” into the form of relation between Y and M1 is simply worthless - worse, it is fraudulent.

Next, (iii p201) we have the investigation into the relation between M2 and r. M2, the cash for speculation, depends on uncertainty - no uncertainty, no need for cash ready to react to whatever turns up. This, remember, from someone who 2 pages before wrote M2=L2(r). However, given some fixed state of uncertainty, there are 2 reasons, says Keynes, why you expect M2 to go up if r comes down. Keynes now talks about the “risk of illiquidity”. He doesn’t elucidate (of course) but presumably it is the risk that having bought bonds at 4%, r suddenly increases to 8%, thus halving the price of your asset. So it is a risk of r going up (Keynes doesn’t even elucidate thus far). However, on checking, it seems I’ve got the wrong sign!! He seems to talk as if the risk is of r decreasing. Anyway, the 1st reason is simply stated to be that if r comes down, the risk of illiquidity increases, just like that. The 2nd reason is that “every fall in r reduces the current earnings from illiquidity, which are available as a sort of insurance premium to offset the risk of loss on capital account, by an amount equal to the difference between the squares of the old rate of interest and the new”.

9.1.97 (p202)

What does reason 2 mean? Keynes gives an illustration, which states that if r rises MORE that its own square per year, the speculator should remain in cash. So if r=4, then stay in cash if r is expected to be more than r=4.16 in one year (0.04 squared is 0.0016). The arithmetic of this example is far from clear but the thought is clear - if interest rate are going to zoom up, then bond prices are going to zoom down, hence keep money intact to buy later at bargain price. Per contra, if r is expected to zoom down, then prices are expected to zoom up, so buy bonds now. So it seems to me that a decreasing r represents a liquidity risk, not an illiquidity risk as Keynes calls it.

Anyway, since according to Keynes, the square is involved, this discriminant between buy and not-buy gets very low. If r=2%, then stay in cash if r is expected to be more than 2.04%. I.e., at r=2%, nearly everybody would stay liquid, not because 2% is not attractive, but because everybody would reckon:- “r is so low, it must increase, if only by a little, so I’ll wait”. Keynes says:- r=2 “leaves more to fear than to hope”. Which I think means there is little room between 2 and zero, but plenty of room above zero.

I find all this deeply unconvincing. Keynes is at pains not to elucidate here. He writes a very convoluted sentence such as e.g., “if the rate of interest on long-term debt is 4 per cent, it is preferable to sacrifice liquidity unless on a balance of probabilities it is feared that the long-term rate of interest may rise faster than by 4 per cent of itself per annum, i.e. by an amount greater than 0.16 per cent per annum”. This would be a great deal clearer if he said (note - Keynes uses r in his text when it suits him) “if r is 4%, it is best to stay in cash if r is expected to rise by more than 0.16 percentage point per year, 0.16 being ....”, or, “if r is 4%, it is best to exchange cash for bonds if r is expected to rise by less than 0.16 percentage point per year, 0.16 being ....”. In science, clarity is a clear and unmitigated good. In rhetoric, it is not, as one can observe daily in politicians’ speeches, or in newspaper articles. At best, clarity is boring, at worst it weakens the speaker’s case and so is avoided. Keynes is a rhetorician par excellence. No doubt he is sometimes obscure because what he is saying is complex (this is not the case here), but, otherwise, as Pigou implied, it cannot be believed that he is obscure unless he wishes to be. If Keynes was serious about this passage, he would discuss a great deal more. Why long-term interest rates? He has already said (p167, in a footnote!) that he will generally regard cash a stopping at bank deposits, so why is illiquidity now being equated with long-term? And why is illiquidity talked of and illustrated in terms of bonds, when equities are equally liquid or illiquid, and involve quite different psychological factors? And, is the simple psychology of liquidity, as presented by Keynes credible anyway? r has often been as low as 2 or even 1 per cent, and in real terms has often been negative. I do not believe people will keep mountains of cash just because r is low. I believe they will choose the best of the “illiquid” havens available, and if that returns a real interest of minus 3%, so be it, and I think history shows this is so.

And what is cash anyway? Notes and coin are indeed cash, indeed liquid, but even a bank deposit is in reality invested somewhere at interest. It is liquid to the bank depositor, but only as, in effect, a very fast bond-market, in which the bond proceeds go to the bank, not the depositor. A deposit in gilts, via the Post Office, is not so vastly illiquid, compared with a bank deposit.

So - very unimpressed so far with section iii.

Now Keynes does something I am beginning to be used to. He reverses his train of thought. Having for the last paragraph expatiated on the thought that M2 has only a highly obscure relationship to r, i.e., that given r, it is not a simple matter to arrive at M2, he concludes the above discussion with:- “It is evident, then, that the rate of interest is a highly psychological phenomenon”! Maybe he means that r and M2 are co-determined in a highly obscure process, so that they are both highly psychological phenomena, but he does not say this. In fact, I do not think that in the whole book he ever expresses the idea of co-determination. He nearly always implies a causality which is working in one direction at any one time, even if in the next sentence it silently reverses direction!

The next sentence blithely states that there is a rate of interest which corresponds to full employment - no, it does not state it, it merely slips it in, in passing. Does chancellor Kohl of Germany, where interest rates are noticeably low, and a good deal lower than in UK, but which has high and rising unemployment, know this? Surely this is nothing more or less than pop economics. r cannot be lower than this because then there would be “true inflation”. Then he goes on to another question-begging statement-in-passing that the “long-term market-rate of interest will depend, not only on the current policy of the monetary authority, but also on market expectations concerning its future policy”. Thus he is stating, without producing a shred of justification, that long-term bond rates depend entirely on the actual or expected actions of “the monetary authority”. To anyone who has looked at time-series plots of interest rates, this contention is simply absurd. At the very most, all one might say is that the multifarious actors in this scene are looking at each other, to some extent. In any event, this sort of observation cries out for clarity on whether we are talking about real or nominal interest rates. Quite obviously, a monetary authority, or better, a government as a whole, can plausibly claim to affect nominal interest rates, since money supply is the business they are in, although the great difficulty they have in reducing inflation, or in keeping it down, throws even this claim to control in doubt. Any claim to control real long-term interest rates is laughable. Keynes asserts that the monetary authority can “easily” control short-term interest rate, but even this is far from being self evident. This picture is of the controller moving the controls at his volition, like the driver of a car applying the brake and the accelerator. However, any central bank is well aware that it is merely one of many actors - and actor is a good word since whatever power there is depends more on appearances than on direct linkages. It is a moot point whether the bank rate is driving the market 3-month rate, or vice versa, or a bit of both. And loan contracts between commercial banks and (usually small) businesses need not necessarily be framed to follow the bank rate. And further, there is the freedom to obtain foreign loans. The whole picture depends also on legislation. Perhaps the legislative picture was very different in Keynes’s day.

Keynes waffles on, rather desperately. The long-term rate may be more recalcitrant, especially if it gets down to what are perceived to be “unsafe” levels. The same low level may seem safe, or unsafe depending on how it “strikes public opinion”. “Its actual level is largely governed by the prevailing view as to what its value is expected to be”. Any level generally thought “likely to be durable, will be durable”. “It may fluctuate for decades about a level which is chronically too high for full employment”, particularly since it is assumed that the rate is fixed by objective factors outside of people’s own heads. Keynes ends this section (p204 chap 15, II, iii) by saying that he believes the public can be relatively easily led to expect lower rates of interest.

Now this section iii was announced (top of p200) as being “to investigate what determines the shape of L2 [meaning the function written down just previously M2=L2(r)]”. In other words, it was to investigate how the value of M2, the cash for speculation, varies with r. We were then told that everything else being equal, a decrease in r would give rise to a rise in M2. This was for two reasons, which seemed to merge into one reason, namely that a low r signalled the likelihood of a higher r to come, i.e., a bear-market in bonds (equities not mentioned at all). What would be regarded as “a low r” would depend on virtually everything going on - “the state of expectation”. Without any indication that that is all he has to say on the matter under “investigation”, namely lower r gives higher M2 all of a multitude of other things being equal, he skates sideways into a “Keynesian” discussion of interest rates, namely that they are at the level which everybody thinks is appropriate (while saying in parallel that the monetary authority and its expected behaviour entirely determines it), and so it is not surprising that it may settle at a level too high for full employment. FULL STOP.

Note well that Keynes spent a whole chapter saying that the classicists were simple minded and confused about what determines interest rate, that he could find little in Marshall and Pigou about it, that it was absurd to say it was determined by the contest between entrepreneurs and savers, and that they had ignored the feed back from investment decisions to the aggregate income of savers.

It seems now that he has three “theories”:-

1) Modified Pigovian as above

2) Monetary authority as above

3) The mind-set of the public as above       Vive la variété!

On to section III (p205). Yet another formulation! “We can sum up [!] the above” by saying that M2 depends on the interaction between “a certain potentiality in the minds of the public towards holding cash [for speculation]”, and “the terms on which the monetary authority is willing to create cash”!!!!!!!!!!!!!!!!!!!! Well, this is a new way of saying M2=L2(r)! Unless these terms are equivalent to r, which would be odd, since, as said above, Keynes seems to go out of his way to say “long-term, i.e., market bond, rates”. He goes blundering on:-

“Corresponding to the QUANTITY of money CREATED by the monetary authority”, he says, thus giving the impression that this is the exogenous control lever, whereas he has just been talking of the bank rate as the control, “there will, therefore [wherefore?] be cet. par. [!] a determinate [!] rate of interest or, more strictly [!] a determinate complex of rates of interest for debts of different maturities”. So, this quantity of money determines the interest rate of everything no matter what! Keynes was a man of affairs. How could he write such dreadful nonsense? Indeed, he goes further. “The same thing would be true of any other factor in the economic system taken separately”. So this paltry dQ determines the whole economy, OTHER THINGS BEING EQUAL OF COURSE. If absolutely nothing else in the universe is happening except that a butterfly is flapping its wings, then by definition everything that then changes is due to this flapping of wings. In reality, however, a trillion trillion ... other things are inevitably happening, so the theory is worth nothing. So with Keynes’s cet. par. It is far more arguable that 10-year bond rates have absolutely nothing to do with the creation of cash. His reason for asserting this is that the banks are dealers in money and bonds, and not in “assets” and consumables. He doesn’t enlarge.

He goes on to make a most extraordinary plea that if the above is not so, it ought to be, that the monetary authority should be so all-pervasive that “the complex of rates of interest [i.e., of all maturities] would simply be an expression of the terms on which THE BANKING SYSTEM is prepared to acquire or part with debts”. Unless one happens to be Dr. Schacht, or Gospadin Kaganovitch or some such figure, the mind reels. This would mean that NO-ONE would be able to make a loan to anybody else at terms agreeable to both! What if no customers turned up to buy “gilt-edged bonds” at “the stated prices” (p206 3rd line). Would they be forced to buy? Perhaps by being forbidden to lend money to anybody else? Keynes says regretfully, “The monetary authority often tends in practice to concentrate upon short-term debts and to leave the price of long-term debts to be influenced by belated and imperfect [sic] reactions from the price of short-term debts; - though here again there is no reason why they need do so”. Really? Would secondary markets be proscribed? A monopoly lender and borrower?

Chap 15 ends there, give or take a few maunderings.

10.1.97

Small diversion to Edgeworth and Malthus

Dipped briefly into the above before returning them from borrowing.

Edgeworth is not as wacky as he sounds. He gives the impression of understanding Lagrange and Thomson (i.e., Kelvin) a great deal better than I have ever done, and he seems extremely at home with the associated mathematics. However, he doesn’t help me, because he starts differentiating “utility” without any real discussion. He is more or less saying - pleasure exists, it can be greater or less, why not differentiate it? In doing so he evidently lays a lot of the foundations for “field” images of pleasure (pleasure as a function of several variables), as in the drawing of indifference curves.

Malthus is a delight to read. Clearly a clever and nice man. He is not much good on demand, either, although he obviously is bothered by it and has a long discussion of what it means (pp61-68).

I like his opening words (p61):- “The terms demand and supply are so familiar ... that ... it has not been thought necessary to interrupt the course of the reasoning by definitions or explanations. These terms, though in constant use, are by no means applied with precision”. He then discusses this at some length, and certainly shows that a lot of head-scratching is in order, but so far as I can see comes out as wise as he went in.

I like too the opening of his introduction (p1):- “We should fall into serious error if we were to suppose that any propositions, the practical results of which depend upon the agency of so variable a being as man, and the qualities of so variable a compound as the soil, can ever admit of the same kinds of proof, or lead to the same certain conclusions, as those which relate to figure and number. ... The science of political economy bears a nearer resemblance to the science of morals and politics than to mathematics. ... This conclusion ... is further strengthened by the differences of opinion which have prevailed among those who have directed a large share of talent and attention to its study.”

Lastly, and nothing to do with my present subject, I was struck by a passage in the anonymous “memoir” prefacing the book, defending Malthus’ “Essay on Population”, since it echoes some present day language:-

“At the time [1798] when the Essay was published, there were two great dangers ... on the one hand Mr. Godwin .. striking at the reverence for all social institutions by holding out delusive visions of perfectibility, .. and on the other, a real and practical [sic] pauperism was diffusing itself widely and rapidly over the land, and undermining the basis both of property and law, by an ignorant and indolent reliance on their [sic - whose?] omnipotence - that foresight and frugality, the special virtues of their station, were fast losing ground in the estimation of the poor, and that they were recklessly sinking into a state of entire dependence on the parish rate; while the conduct and opinions of those above them, so far from repressing their error, rather tended to encourage it.”

[Added 29.3.2001. Maybe it is just that I am now 4 years older, but I find the syntax of the above verging on the incomprehensible!]

10.1.97

(cont) Back to Keynes

Chap 16 Observations on Capital

Observation I p210

Keynes starts with what seems to me to be a farrago of nonsense. He says:-

saving today depresses today’s consumption without laying ground or plans for tomorrow’s consumption. Indeed it signals to today’s entrepreneur that demand is decreasing, so he makes less provision for tomorrow. So saving more can actually depress demand for investment goods.

In my view, this is simply too simple. It results from insisting too stupidly that the chicken does come before the egg.

This blinkered one-sided view makes him conclude, depressingly, that “Since the expectation of consumption is the only raison d’être of employment, ... a diminished propensity to consume has cet. par. a depressing effect on employment”. Equivalently, he could have said that an augmented propensity to invest has, cet. par. a stimulating effect on employment.

Malthus had already refuted this (as indeed anybody of commonsense could have done) in a commonsensical passage farcically cited by Keynes himself (p363), saying, in criticism of Adam Smith, that although it was true that parsimony was a good thing, it was “not true to an indefinite extent”, i.e., in my words, there is an optimum. Keynes is glad to cite this in his own favour, but of course Malthus might equally have said, in criticism of Keynes, that although it was true that consumption was a good thing, it was “not true to an indefinite extent”, i.e., there is an optimum. Oddly, Keynes seems not to see this (if he does later on, I’ll flag it!) Perhaps he was so embattled by 1930s frugalists that he could not afford to see that their point of view had any merit.

Keynes now plunges into the “saving is not necessarily investment” embroglio. He says savings=investment is an “absurd though almost universal idea”.

Reference to p178 shows Keynes agreeing that savings=investment, or at least that this is the situation where entrepreneurial demand equals savers’ supply. And on p74, he says quite explicitly that “In the previous chapter saving and investment have been so defined that they are necessarily equal in amount ... merely aspects of the same thing. Several contemporary writers (including myself in my Treatise on Money) have given special definitions of these on which they are not necessarily equal”. This refers back to p63 where again it is written quite explicitly “saving = investment”.

It is again to be remarked the monstrous cheek of this man, the sheer contempt for the intelligence of his readers (perhaps in the event justified - I don’t think I’ve ever heard Keynes mentioned in any other than tones of awe, or at worst, he was muddled but right). He reaches p210 having discussed ad nauseam in terms of investment=savings, and then he suddenly says - without the least preamble or reference back, exactly as if he were a different man, writing a different book, and unaware of the other - that this is an absurd idea!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!! !!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!

13.1.97 p211 “absurd though almost universal idea”

So we have dwelt on this point where Keynes denounces his own formulation as an absurd delusion (of others - unspoken). He calls it a specious fallacy that increased saving, by some mysterious process, produces increased investment. Curious from a man who maintains that increased nominal money, by some mysterious process, calls forth jobs and goods, both for consumption and investment. Isn’t saving like scattering money from helicopters in the path of entrepreneurs? Not free of charge admittedly, but cheaper than hitherto. “It is of this fallacy that it is most difficult to disabuse men’s minds. It comes from believing that the owner of wealth desires a capital asset as such, whereas what he really desires is its prospective yield.” This is exactly like saying that the recipient of Keynes’s free distribution of cash desires jobs and the manufacture of consumption and investment goods. In fact, it is like saying that Adam Smith’s invisible hand is a nonsense. No, the cash receiver has nothing in his mind whatsoever about tomorrow’s jobs and tomorrow’s manufactures - he wants to go into the nearest shop and buy today’s goods. The whole idea of the invisible hand is that each actor looks after his own tiny here-and-now interests, but lo and behold, the mighty wheel moves on a tiny notch. “In order that an individual saver may attain his desired goal of the ownership of wealth, it is not necessary that a new capital-asset should be produced to satisfy him”. Exactly. The fellow who receives one of Keynes’s freshly printed £1 notes, too, needs no new production. He goes into the nearest shop and spends it on a good already there. But the whole point of Smith’s invisible hand and Keynes’s multiplier, is that each purchase has knock-on effects. “Every act of saving involves a ‘forced’ inevitable transfer of wealth to him who saves ... These transfers of wealth do not require the creation of new wealth”. Yes, but Keynes is now muddying the waters. He is intentionally simplifying an extremely complex situation. There are at least 4 distinct cases:- 1) saver hoards; 2) saver buys a gilt or equity from another ‘dissaver’; 3) saver lends to another consumer; 4) saver lends to entrepreneur to buy new plant. Only the first is a “forced” transfer of wealth*, only the others have a “prospective yield”, only the last involves “new production”. We are back to the individual v aggregate and consumption v investment distinctions which Keynes is simply ignoring, and which can only be solved by definition, and not by anything in the real world. Saving, by definition, is NOT saving, unless it results in new plant. Hoarding is another thing. Buying a gilt in the open market does absolutely nothing in aggregate. Lending at interest to a consumer is just rendering a paid service. “The prospective yield of the marginal new investment is not increased by the fact that somebody wishes to increase his wealth.” Now, usually, Keynes is guilty of slipperiness and obfuscation, but this time it is simply a clanger. Obviously, “the prospective yield of the marginal new investment” IS increased, if “the fact that somebody wishes to increase his wealth [by saving]” depresses interest rates. But NO! Keynes has seen this pitfall, and hastily fills the gap by saying that “the prospective yield with which the producers of new investment have to be content cannot [he says] fall below the standard set by the current rate of interest. And the current rate of interest depends, as we have seen [he says, egregiously], not on the strength of the desire to hold wealth [omitting the strength of the desire to buy plant], but on the strength of the desires to hold it in liquid and in illiquid forms respectively, coupled with the amount of the supply of wealth in the one form relatively to the supply of it in the other. If the reader still finds himself perplexed [YAROOH], let him ask himself why, the quantity of money being unchanged, a fresh act of saving should diminish the sum which it is desired to keep in liquid form at the existing rate of interest. Certain deeper perplexities [groan] ..... next chapter.” (p213)

* [Added 29.3.2001. In 1997, I seem to have understood and accepted Keynes’s idea that hoarding involves a “forced transfer of wealth” to the hoarder. I have re-read the relevant page of Keynes. I now fail to have the least inkling of what this “forced transfer” could mean. The finding of a helicopter-drop of newly printed cash does involve a forced transference of wealth, i.e., it diminishes the share of aggregate wealth held by all others, but if I simply put part of my income in a box instead of buying a new chair with it, well, it is simply a temporary buffer, pending spending on either a consumable or the purchase of some title to an asset. Keynes is very sparing of using the word “hoarding”. He talks always of “saving”, and it is impossible to be clear what he has in mind at any given point. When you are dealing with a man who starts this chapter with, “An act of individual saving means a decision not to have dinner today”, what clarity can you expect?]

[3.10.2003

I interpolate here an observation, made on looking at recent Eurostat tabulation of a breakdown of the “national income” of the countries of the European Union, that the entry in the column marked “saving, net” obeys the identity:

net saving = net national income + balance of current transfers with the rest of the world -final consumption expenditure

or, if “income” is given its ordinary sense which includes transfers:

net saving = net national income - final consumption expenditure

What could be simpler, and totally in line with normal parlance?

I presume that gross saving would have a similar definition, with “net national income” replaced with “gross national income” (i.e., neglecting the “consumption of fixed capital”).

Clearly, for the statisticians, as for me,

gross saving = gross capital formation, and

net saving = gross capital formation minus capital consumed (i.e., made obsolescent, etc)

14.1.97 p213

Keynes is saying - saver “saves” £x. What happens? Nothing. Now Keynes is a past master, when it suits him, of creating the “butterfly flaps its wings in Barbados, hurricane as a result blows in the Indian Ocean” type rhetoric. Witness the following edited-down version of the passage quoted above:-

“New money accrues as income. Some portion buys securities until r has fallen so as to increase M2, and so as to raise Y to such an extent that the new money is absorbed in M2, or in the M1 corresponding to the rise in Y caused by the fall in r.”

Note - it suits Keynes’s book to say:- save and nothing happens; or: spend and a giant wheel is set in motion, geared up by a multiplier, to increase Y (output).

His powers of convincing rhetoric would be quite capable of being put into reverse, if required.

Anyway, let’s try to follow his “logic”. Saver has £x to save. Entrepreneurs are already catered for at the going rate of interest. I.e., every project viable at that rate of interest is already financed. So our saver has no takers. This of course is screwy in the extreme. If at any given moment, all projects are catered for, how did they get catered for in the first place? The saver cannot rely on the sudden access of his money driving down interest rates, first because Keynes “as we have seen” has shown that interest rate does not depend on this saver/entrepreneur market, but on the saver/saver market equilibrating cash and bonds, and, in any case, even if there were a saver/entrepreneur market (!), it is competing with the bond market. But why should the saver find a taker in the bond market? I suppose the answer is that there is always a taker in the bond market if you offer a high enough price, i.e., take sufficiently small yield. But if he must take a smaller-than-the-going-rate yield in the bond market, why should he not take a smaller-than-the-going-rate yield from his next-in-line entrepreneur? Put in another way, why should it be the case that “the prospective yield CANNOT fall below the standard set by the current rate of interest”, when, if that were the case, no one would ever have an incentive to buy and sell in the secondary bond market? As everybody knows, r fluctuates from minute to minute in the bond market, and it fluctuates from minute to minute in the equities market, AND there is no discernible link between them, either as to their relative level or as to their relative fluctuations. Lastly, the real world bears no resemblance to this prim little tale. The entrepreneur really has little idea what his rate of return will be. The saver really has little hope of assessing the accuracy of anything the entrepreneur says. Each is really playing blind man’s bluff in a welter of really inaccurate and difficult to understand information. No saver can ever know for sure where his money ends up. No entrepreneur can swear that so and so’s money was spent up to the last halfpenny on the actual buying of a bit of plant. Nobody on earth has the faintest idea what the “prospective yield” on a given capital asset will be, since this is going to be subject to all the unforeseeable buffetings of the stock market. As Malthus said:- Saving is good, up to a point, and nobody knows what that point is.

I suppose any brilliant polemicist, since he is capable of arguing anything, has argued almost anything you care to mention. So Keynes in his famous animal-spirits passage has said, more memorably, more or less what I’ve said above about the real blind-man’s-buff world.

Keynes’s final question:- “Let him ask himself why, the quantity of money being unchanged, a fresh act of saving should diminish the sum which it is desired to keep in liquid form at the existing rate of interest?”, defies analysis. He would need to elucidate why the quantity of money is unchanged, what form precisely the act of saving takes, why the amount of cash comes into the matter at all (speculative cash is speculative cash - nothing to do with someone who by definition has decided to invest £x today).

A common sense view would be that if people “save”, some investment will take place, i.e., the entrepreneur will find some way of getting his hands on some of it, and once the outcome of a year’s such activity is assessed, the aggregate investment can be dubbed, retrospectively, the real savings of the year.

Observation II p213

Keynes makes a seemingly good distinction between the yield and the productivity of an investment. The physical output of the investment may go on unvaryingly, but due to external factors, its yield may change from day to day, decrease, or become negative. He seems to mean by this that if interest rates decrease, other people could buy the same plant for lower cost, and produce cheaper goods. This seems further to mean that the first entrepreneur will pre-empt this by lowering his prices hence reducing his profits - perhaps to zero or below. Mind you, banks today base loans on bank rate. If the entrepreneur has a variable-interest loan, then the entrepreneur has a fixed margin - another feature of the real un-Keynes world.

The above is why (I don’t see the train of thought myself) Keynes “sympathises with the pre-classical doctrine that everything is produced by labour” plus know-how plus the use of physical plant produced by past labour. He seems to be saying:- There is one factor of production, labour, not two, capital and labour.

His next thought process seems to be:- If capital is out, where does time (rate of interest) come in. “Smelly and risky processes” make an appearance. Articles requiring smelly work “must be kept sufficiently scarce to command a higher price”, which seems an odd wrong-way-round way of saying that articles needing hard-to-get labour will inevitably be expensive! One can see why some economists become apoplectic about Marx’s labour theory of value, which to your average man-in-the-street seems just common sense.

He drifts on to the idea of optimum time - shorter would be wasteful of workers, longer would involve storage costs and deterioration - and higher interest charges if, he says airily, rates are above zero.

Then “Observation II” ends, without it becoming apparent what on earth Observation II is. This section almost looks like a bit of musing from his laptop, which he didn’t like to throw away.

15.1.97

Observation III p217

(Pigou comments on this section)

Starts off zanily:- “We have seen [where?] that capital [money, plant?] has to be [implying an external force not specified] kept scarce enough [by whom?] in the long-period [as usual not specified - months, years, decades?] to have a marginal efficiency which is at least equal to the rate of interest for a period equal to the life of the capital.” After a bit of head scratching, I think it means that plant has to be kept sufficiently uncompeted-with to maintain its margin over costs. This is thus a way (and in my opinion a wrong way) of saying something simple in an obscure way. Now it appears that Keynes is about to launch into his end-of-history idea. Suppose we have plant coming out of our ears. So you cannot find an investment home for love nor money. So r=0. “Marginal efficiency is zero and would be negative with any additional investment”. Keynes then goes on to one of his roller-coaster sentences, ending up “ ... the position of equilibrium will be one in which employment is low enough and the standard of life sufficiently miserable to bring savings to zero.”

16.1.97 p217

But why?

1) If plant is enough and everlasting, so the building of more plant is unnecessary, why shouldn’t sufficient workers work the plant, and all the rest attend to their needs?

2) Why should Keynes assume as an unchangeable truth that peoples savings will be zero only if they are “sufficiently miserable”, just because that tends to be the case today?

3) Even today, there must be many well-off people who have no significant savings. It is a state of mind, and states of mind can change.

4) Keynes, without saying so, and just a few lines below where he has been musing that savings have nothing to do with investment, is here assuming, implicitly but unambiguously, that savings are synonymous with investment.

5) In an investment-free society, there might still be reasons to save, e.g., to buy a big item such as a house or car, for a rainy day, for retirement, for the children. If, on aggregate, this amount of money was constant, it would have no effect whatever. All yearly income would be spent, yearly, on consumables, or at least, on non-plant; whereas now, all yearly income is spent, yearly on non-plant and plant, and only eventually over the many-year term, on consumables. If it went up or down, then there would be deflation or inflation respectively. So, in my humble opinion, there would be little difference from now. People would save for many of the reasons they have always saved. They would bank their money for safe-keeping at zero interest. (Keynes says zero interest is impossible, but this is simply not so. A very rich man living in a violent period would pay a premium, i.e., negative interest, simply to keep his money safe).

6) IN ANY CASE, zero investment is ridiculous even in a fairy story. If plant does not wear out, why should houses, cars and many other “consumables”? If history is at an end, with no advance in anything whatsoever, why buy anything apart from food? (And, if we need food, it would imply that our bodies are somehow exempt from the suspension of deterioration). If all needs for plant are sated, why not the needs for anything whatever?

7) If, on the other hand, deterioration is not suspended, and plant, houses, curtains, cars and human muscles do need to be replaced or restored, then we are only a nuance away from today’s situation, with investment, interest and all the rest of it.

8) If plant were super-abundant, the cost of all produce would simply be the labour cost. So we would have the ludicrous situation that nobody would want to own the plant which is the sine qua non of everybody’s prosperity, since it gives no return. So, what might happen is that some powerful group would seize all plant, and extort rent for the use of it. Plant would then play exactly the same role as land in pre-industrial times.

Keynes ruminates (p219) on the UK and the US as examples of post-WWI societies with too much plant, but with interest rates institutionally prevented from falling correspondingly, with the result, he implies obscurely, that with plenty of plant and plenty of labour to work it, there is under-employment and under-production. Keynes does not elucidate. His normal train of thought is that plant will not be bought at interest rate r if the expected return per year does not match or exceed this. Now suppose that r starts low, so a lot of plant is purchased, but suddenly goes high to R, so that it is now uneconomic to install more plant. This is Keynes’s state of over abundant plant and too-high R. His scenario seems to be that since the plant cannot earn R, but only r, the owner shuts it down. But this would be true only if the loan for the plant was on variable interest. If so the plant owner goes bust. But since that does nobody any good whatever, neither the owner nor the bank, it is in everybody’s interest just to carry on, earning r. If the original loan was at fixed interest r, then of course, the owner again carries on. Perhaps, however, a statistically more probable situation is that the owner has many strings to his bow, and the bank can insist successfully on getting interest R, paid out of the owner’s other profit streams. Even in that case, it still mitigates the owner’s loss if he continues to operate the plant.

So Keynes has not succeeded in linking his story to UK and US recessions. His story is of course closely related to his usual one:- the plant is there, the labour is there, and all it needs is for the government to come along and “stimulate the economy” by decreeing lower interest rates.

He now goes, first into one of his wonderful incomprehensible sentences, and then into one of his wonderful purple passages. First, the incomprehensible sentence:-

“If - for whatever reason - the rate of interest cannot fall as fast as the marginal efficiency of capital would fall with a rate of accumulation corresponding to what the community would choose to save at a rate of interest equal to the marginal efficiency of capital in conditions of full employment, then even a diversion of the desire to hold wealth towards assets, which will in fact yield no economic fruits whatever, will increase economic well-being”

Let’s try to get to grips with this one! It is of the form:- if A then B. Statement B is perfectly clear. So let’s concentrate on A, i.e., on:-

“the rate of interest cannot fall as fast as the marginal efficiency of capital would fall with a rate of accumulation corresponding to what the community would choose to save at a rate of interest equal to the marginal efficiency of capital in conditions of full employment”.

The sheer abundance of words, many of them conjunctions, numbs the mind, so let us first reduce the volume by writing r= rate of interest, and mec=marginal efficiency of capital. Next, we observe that “rate of accumulation of capital” does not “correspond to”, but simply is “what the community would choose to save (in a year, say)”, since it is quite clear in all of this context that savings=investment. The statement A is then:-

(if) r does not fall as fast as the mec would fall with a savings level corresponding to r=R, where R is the (high) rate of interest numerically equal to the mec in conditions of full employment.

17.1.97 p219

So it seems that this impenetrable sentence (and my stripped-down version is only in degree more penetrable) simply re-states the situation I have described above, namely a situation in which r cannot, for vague institutional reasons, fall in step with the fall in marginal efficiency of plant (and this fall can only be grasped by another long and unconvincing story).

So much for A.

[Later, 30.3.2001. Rather echoing something I inserted above – my powers of understanding must have been better in 1997 than they are now! I wrestle in vain with Keynes’s palpably ludicrous sentence, but I find little enlightenment when I go to my attempt at elucidation. It seems to me probable that Keynes is spinning a sort of end-of-history yarn (which he certainly does, more explicitly, elsewhere) that involves decreasing marginal efficiencies as prosperity increases, and trouble starts when interest rates “for whatever reason(!)” cannot keep pace downwards]

B is clear:- “Even a diversion of the desire-to-hold-wealth towards assets-which-will-in-fact-yield-no-economic-fruits-whatever, will increase economic well-being”. Or in other words, even spending on something completely useless (and Keynes’s logic means that this need not be confined to anything describable as “assets”) will be beneficial to society. Clear, but Keynes makes not the slightest effort to connect the clear B with the obscure A, although his syntax implies that if A is true, then B follows. Much is made of Keynes’ “sticky wages”. I cannot recall any mention of “sticky interest rates”, but this is what we have here. Moreover, we are here at the very core of Keynes’s famous “Keynesian” message. At this point he goes into top polemical gear, with the following purple passage, which I’ll copy first, then come back to this strange failure to bring evidential or logical guns to bear at the very point where they are needed.

Purple passage (p220 - see similar passages pp129, 131) (following on directly from above incomprehensible sentence):-

“In so far as millionaires find their satisfaction in building mighty mansions to contain their bodies when alive and pyramids to shelter them after death, or, repenting their sins, erect cathedrals and endow monasteries or foreign missions, the day when abundance of capital will interfere with abundance of output may be postponed. ‘To dig holes in the ground’, paid for out of savings, will increase not only employment, but the real national dividend of useful goods and services. It is not reasonable, however, that a sensible community should be content to remain dependent on such fortuitous and often wasteful mitigations when once we understand the influences upon which effective demand depends.”

So, this, now dazzlingly clear, peroration has absorbed many words, while precisely none at all have been used to demonstrate its truth.

Now, let’s go back a bit. Keynes, in his incomprehensible sentence, clearly implied that what people choose to save depends on the interest, and that the latter generally equals the mec (marginal efficiency of capital.). Remember that Keynes does not think that the mec determines the interest rate. His preferred causal chain is that r is settled in the cash/bonds market, i.e., within the saving community without reference to the real world, and that the entrepreneurs then borrow for those projects for which the mec is equal to or greater than r. Thus, generally, at any time mec=r. Now, the cash/bonds market is not essentially to do with income or with saving as such (if we reserve the word saving, as Keynes tends to do, to mean something like “the unspent residue from a year’s income”), but with wealth, i.e., with accumulated savings. So savings as such have no play in determining r (this is nonsense, but it is the Keynes anti-classical nonsense). The saving rate, according to Keynes, is determined primarily by income, indeed by that and the propensity to consume. Nowhere, to my knowledge, does Keynes give any theory to link saving with interest rate. He devotes almost 2 pages (pp93,94) to throwing cold water over the “classical” notion of such a determining link, and even, while grudgingly conceding that big changes in r might have an influence, casting doubt on the direction of the effect. On p110, he casts this doubt aside, and states in categorical terms that “we can be CERTAIN that a RISE in the rate of interest will have the effect of REDUCING the amount actually saved”. On p178, we have the “truce agreement”, “which the classical school would accept and I would not dispute”, which shows savings INCREASING with r for a given income. Keynes’s reconciliation of these seemingly contradictory positions is as follows:- r increases, propensity to save increases, BUT propensity to buy new plant simultaneously decreases, so income decreases, and thus, the condition of for-a-given-income does not apply. These two trends compete, and the second inevitably wins (argument given on p111).

19.1.97 p220

Keynes is never precise enough to be nailed down. In his higher-r-lower-savings mode, he is looking from the viewpoint of an economy already in recession, and saying that if r goes up, it will make things worse. In our if-A-then-B sentence, he is looking from the viewpoint of an economy receding from a situation of full employment, but in which r “sticks” at its too-high, full-employment, value, attracting savings at too high a proportion of a declining income. In this latter scenario, the savings are nevertheless less then they would have been, says Keynes, if interest rate had been less, since, in the latter case, the savings ratio would be less, but the income level would more than compensate. Keynes does not explain how the decline from full employment would occur in the first place.

What Keynes has done is simply to reiterate, and once more with much verbal juggling but without coherent argument, his old song that unemployment and recession are due to saving too much, and the cure is to spend more, on anything.

Observation IV p220

(Pigou comments on this section)

Keynes now goes bananas on the end-of-history theme. “Let us assume”, says he, that the State intervenes in some vaguely (un)specified way, but involving “ensuring” an appropriate interest rate (now what was all that about liquidity again?) to give full employment (never defined of course), and also promote the growth of plant investment, so that he “should guess that a properly run community ... ought to be able to bring down the marginal efficiency of capital .. to zero within a single generation; so that we should attain .. a quasi-stationary community where change and progress would result ONLY [!!!!] from changes in technique, taste, population and institutions ... .”

Now, first of all, how does this description of Shangri-La differ from the state of affairs in 1936 or in 1996? Our “community” was, and is, far from stationary or quasi-stationary precisely because of that “ONLY”, i.e., changes due to technique, taste, population and institutions. The reason we are here in 1996, and not in 1596 is due ONLY to changes in “technique”. The variation of employment of the average adult by a few hours per week (the unemployment which of course, in 1936, was seen as being of gigantic importance, since it just happened to be linked, at least in middle class perceptions, with potential unrest and revolution) is a mere bagatelle, a hardly perceptible wavering of an upward curve.

Secondly, Keynes has already been over this end-of-history ground only 4 pages back. Then he said that if mec was zero, savings would be zero, and unemployment and misery would be high enough to ensure just this. Now he is saying that “a man would be free to accumulate his earned income with a view to spending it at a later date”, which is precisely what I commented above..

Thirdly, what is this state of zero marginal efficiency of capital? It seems to be a level of plant accumulation at which no more projects can be foreseen. If “technique” was constant, and labour fixed, and population fixed, it would be the plant level at which there is simply no more labour to tend any extra item of plant, or better perhaps, at which demand for products by the fixed body of consumers is sated. As commented before, this is simply zany. In this Shangri-La we would need also to stipulate that nothing would deteriorate, that nobody had a new idea, that “institutions” were congealed in aspic, that no rough individuals try to seize this plant which allegedly has no return but which mysteriously is the sine qua non of all well-being! However, why bother even to argue whether an absurdity is a total absurdity or merely an absurdity? This “let-us-assume” is a “let-us-assume” too far. Ideas on everything, including technology must change, populations cannot be held constant, power struggles cannot be decreed away, institutions must evolve, plant must wear out and must not only be replaced but improved, life must go on. Unemployment, on the other hand, to which Keynes gives so much importance, cannot even be defined (the “unemployed” are only a small fraction of those who are objectively not employed). It cannot be made to be the major variable of economic thought. This tail cannot be portrayed as capable of wagging the dog. If the State is to intervene to cure this perceived malady of unemployment, would it not be a great deal easier for it to do so simply to say “let no-one henceforth be unemployed, or without sustenance” than to intervene with the bells, whistles, levers, balances, myths, causalities of baffling circularity, as proclaimed by Keynes?

20.1.97 p221

ESSAY on unemployment

Keynes’s title proclaims “The General Theory of Employment .... “. He lays great stress on “unemployment” and “full employment”. It is curious then that he feels no need to define what he is talking about, as if the terms were perfectly clear. But they are by no means clear. The word “unemployment”, according to the OED, has been “in common use from c 1895”, so it is not as if the word denotes a fundamental aspect of the human condition. The earliest use the OED can find of “unemployed” in the sense of “without work” is from 1677.

What do these words mean? Before one can discuss matters concerning employment, unemployment and full employment, one surely has to be clear what they are.

Well, what is employment, for a start? Clearly not any old employment. In the widest sense, we are all employed in one way or another, except when asleep. However, employment in its rather modern sense is to do with work. So leisure activities are excluded. Employment is usually taken to mean any activity which is directly or indirectly to do with “making a living”, but not too indirectly, since a student is not thought of as being employed. Anyone who is paid by another is automatically classified as employed, at least during the time when the employer expects him to be under his instructions. Indeed, anyone who has an activity which at some point will involve others paying him would certainly come within the normal idea of employment, thus including the paid employee, the self-employed, and the employer. There remain huge anomalies. The biggest, of course, is that of women who work within their families, doing housework including looking after children, husband, and others. By any reasonable functional definition, they are employed, but no one pays them. So they are generally omitted from the employed. If the housewife demanded a wage from her husband of £x, and he required her to pay him exactly this £x for rent and provisions, then at once she would be regarded as employed, although the real effect of this transaction would be nil. Other anomalies are all sorts of do-it-yourself work, from allotments to car repairs, and all voluntary work.

Nothing has been said above about how long or how hard one must work to be counted as employed. If one was employed for one second in a week, this presumably would not be enough, so there is some notional level of gainful activity below which the idea of employment would not apply.

So, we have an idea of employment which is as long as a piece of string. It excludes many people who are working hard and productively for long hours, while including those who may be working hard but for very short hours, those who may not be working at all but are at a place of work for very long nominal hours, and those who are working hard and being paid, but at a job which is accomplishing nothing.

However unsatisfactory the definition may be, there will be a certain ascertainable number of those who fit whatever the definition may be. The rest of the population, one might think, would be those who are formally not employed, formally unemployed. But, of course, in the normal usage, the usage of Keynes and others, this is far from being the case. The young, the old, the housewives, the students, the permanently disabled, the temporarily sick, the voluntary workers, and those rich enough to be idle, are all neither employed nor unemployed. Once these are excluded, the remainder, i.e., those arbitrarily defined as able to work, must pass a further test of wanting to do so.

The unemployed, then, are those who are not only not employed, but also pass arbitrarily tests of being old enough, young enough, far enough into the work/money-market, far enough away from the home/voluntary scene, free enough from disablement and sickness, poor enough to need a job, and, finally, wanting a job.

If this seems a lot of huffing and puffing, it is because we are extremely familiar with daily accounts which cite the unemployment rate as a precise number. However, this number is the result of the processing of people by State officials through the complex forest of criteria which identify those qualifying for unemployment benefit.

When Keynes talked as if it was unnecessary to define unemployment, it was because he and all his readers thought they knew exactly what an unemployed person was. But statistically this was a different person from the one defined in today’s statistics, and, in reality, it is highly unlikely that Keynes and his readers had a common view of what the 1936 unemployed person was. Of course, a practical person will feel inclined to brush this “quibbling” aside, and that feeling is absolutely correct in terms of normal social, political and journalistic discussion. Various international bodies are concerned in the standardisation of the definition of unemployment, i.e., in the setting down of standard ways of calculating it. In so far as they succeed, then of course the number may be used for comparing in some inexact way one country with another, or one period of time with another. But Keynes in his “General Theory” is not setting out just to discuss. He is claiming to deduce a new truth, a new “theory”. And, in my opinion, it is not possible to discuss the truth of general propositions unless the matters involved in the propositions are capable of objective, as opposed to arbitrary, definition. It is hopeless to say “This proposition concerning unemployment is true no matter how unemployment is defined”.

21.1.97 p221

If unemployment is vague, then the notion of employment is a will o’ the wisp. Unemployment, whatever it may be in terms of the actual persons in the real world who are classified as such, embodies at least notionally one element of precision, namely zero. However defined, the unemployed are a sub-class of all those whose gainful activity is zero. Zero work is not a quantity of work at all, any more than zero milk is a quantity of milk. It is the complete absence of work. There is no such thing as a negative quantity of work. When we move to the apparent obverse of unemployment, namely employment, there is no place to get a firm foothold. Presumably, the need to perform the non-work natural functions of the body, the most time consuming of which is sleep, sets an upper limit to the number of hours per day or per week that even a very fit person can work. I suppose it is conceivable that some selected persons doing suitably chosen work could attain a working week of 100 hours, and I’m sure there must be instances when self-motivated people pursuing a burning interest have reached this level. Slaves judged by their masters to be expendable must also have worked, on occasion, all their waking hours.

However that may be, persons working anything from one minute a week to 100 hours a week might all be said to be employed. And, quite apart from mere hours, there is infinite variety in the diligence and skill, or in the physical, mental and moral capacity of different people, so that it might be said with complete plausibility that two persons working a 1 hour and a 10 hour day respectively may accomplish the same task. And then, it is conceivable that two persons, working identical times with identical skill and intelligence, might produce respectively a highly useful product, or a completely useless one. The latter case is by no means just a flight of imagination to illustrate a point. It happens with quite high frequency, due to the normal workings of any enterprise, when it is recognised, after work has been done, that it must be terminated, or when something has been manufactured which fails to sell. Whole factories may occasionally be built, only to be scrapped. The defence and space industries may arguably be said to be engaged to quite a large extent in producing goods and services which in the event are not called upon to be used.

In summary, employment could be said to be fairly precise in terms of the number of persons involved, while being uselessly vague in the amount and quality of its economic content, whereas unemployment is hopelessly arbitrary as to the numbers involved, and rather precise as to its economic content, namely zero.

In the light of all that, what can it possibly mean to talk about “full employment” in an allegedly scientific or theoretical context? Obviously, in a social, political or journalistic context, it simply means that there are no “unemployed”, i.e., every able adult person who wants a job has one. But when each of these jobs may involve anything from a few hours to many hours per week, and may or may not be producing a corresponding amount of useful product, what can it mean when, for example, Keynes says “Let us assume that steps are taken to ensure that the rate of interest is consistent with the rate of investment which corresponds to full employment”. If the answer were, for example “full employment means that everybody who wants a job has one of 40 hours per week”, then how would Keynes’s “let us assume” be affected if there were 10% unemployment, but the employed worked 44 hours? Socially, politically and journalistically there is a big difference, but in terms of economics and rates of interest and investment, just what is the difference? If there is no difference, then what is Keynes’s thesis about?

The root difficulty is that Keynes really confuses unemployment with misery. Perhaps in 1936 this was a universal and justified confusion. The men of Jarrow who marched to London did so, according to themselves and everybody else, because they were unemployed. But clearly this is simply not the case. Who could believe that people would undertake such a demonstration if they had an excellent income, but no work? No, the march took place because they were in misery, they had no or little income.

But misery really has nothing to do with economics. No useful outcome can be expected if an economist uses the word unemployment, which sounds as if it has to do with economics, in that it represents unused productive effort, when he really has misery in his mind. Supposing that Keynes’s nostrums had the advertised effect economically, of reviving activity by exactly the percentage of the unemployment rate, say x%, but this was achieved by increasing working time of the existing employed by x%, and not by taking on the unemployed x%. Then Keynes’s theory would be proved right in economic terms, but not in the terms in which he himself advertised it, namely as a nostrum to produce full employment. This shows that failure to define or even allude to the meaning of the terms of the discussion vitiates his whole project.

The distinction between unemployment and misery is perhaps clearer today than in 1936, in that short-time working and double-earner families are more common today, and the welfare safety net is much more effective. It is clear to us, at least in theory, that a person can lose his or her job without being catapulted into destitution, firstly because his or her spouse may still be working, and secondly because of welfare benefits plus informal jobs plus help with education costs. It is equally clear to us that an economic turn-up or boom which pulls in the highish flyers who tend to be married to one another, or increases their hours of work, while leaving no-earner families further and further behind, bears little resemblance to the “full employment” solution as advocated by Keynes. So the problem of employment/unemployment, like its definition, is as long as a piece of string. The problem of misery or poverty is not essentially one of employment but of the distribution of income. If we wish to solve the problem of poverty via the provision of jobs, then the problem becomes one, not primarily of the creation of more work hours à la Keynes, but of the distribution of work hours to the whole population.

A further illustration of the futility of discussing national output in terms of employment, i.e., the number of people in jobs, is shown by the great disparity in job distribution within the European Union. How can we say, as we do ad nauseam, that to create jobs we must “stimulate the economy”, i.e., become more prosperous, when it is blatantly obvious that countries which have already accomplished this step, i.e., who are somewhat ahead of us in prosperity, have not improved their unemployment figures? And when those still a little way behind us do not have noticeably worse figures? Also we may note at the merest glance that major countries with similar levels of prosperity have hugely different employment rates, hours of work, participation of women, and that those with low employment rates are not noticeably those with high unemployment rates.

Thus, for example, within the European Union, average weekly working hours, per head of the entire population over 15 years of age, range from 16 to 20, with one of the most prosperous, Belgium at the lower end, and another of the most prosperous, Austria, at the high end. Note that this is a disparity of work hours of 25%. The activity rates for men range from 61% to 73%, for women from 34% to 58%, the countries at each end of the range being among the most prosperous countries in each case.

It may generally be thought that to reduce unemployment, a good step would be “create jobs”, i.e., to increase employment, but there is no evidence that countries with high employment also tend to have low unemployment. European Union employment rates range from 37% to 59% of those over 15 years old, and unemployment ranges from 2% to 11% on the same basis, but there is no inverse correlation. Spain has the lowest employment and the highest unemployment, which is the expected relation, but the next lowest employment rate is in Italy whose unemployment rate is comparable with other major countries. These facts are not so perplexing as they seem at first sight, when it is recalled that the “unemployed” are not by a long way “those who are not employed”. If it is kept in mind that the unemployed are those who are not only not working, but satisfy a host of criteria, chief of those being they want and are actively seeking a job, then it becomes clear that it is not impossible that a successful “job creation” programme might create unemployment as well as employment, in the sense that a queue forms made up of people attracted by the increased possibility of finding a good job.

It seems that the level of employment and the level of unemployment, are not only unrelated to each other, but to anything very clearly related to economic performance.

If that is so, then everything that Keynes was about was vain

Back to Keynes p221

Keynes, having defined the end of history, where neither moth nor fly doth corrupt, now rows back to say that some stirrings of life are not excluded. But, glory be, it goes on for only a single paragraph, without much to say, so I’ll skip, with relief.

Chap 17 The Essential Properties of Interest and Money

Note the portentous title. It looks as if I have 23 pages to go before I get to “the restatement of the General Theory ”

The first score of lines of this chapter present an instructive example of Keynes’s (conscious or unconscious) rhetorical method. He could have started off with:- “For every kind of capital-asset there is an analogue of the rate of interest on money”. Why would anyone dispute that? Instead, he delays this until his17th line, preceding it with “therefore” as if his introductory passage had led him to a new truth. The introductory passage in fact says almost nothing, but cloaks this fact with great skill. The intended effect is that of the master leading the rather backward pupil through virgin intellectual territory.

He starts off:- “The rate of interest on money plays a peculiar part in setting a limit to the level of employment, since it sets a standard to which the marginal efficiency of a capital-asset must attain if it is to be newly produced.”

Suppressing my usual tendency to scoff, I must admit this is true. The Magnox nuclear power stations would never have been built if the interest rates we assumed in our calculations had been more than 2% or so. However, it is a far cry from that to what I imagine is going to be Keynes’s pitch, namely that governments can affect the real rate of interest. In 1956, interest rates were 2% or less all over the world - strictly nothing to do with Harold Macmillan, or whoever was at the Treasury.

22.1.97 p222

Then on to a bit of rhetorical trickery by Keynes:- “The money rate of interest - we may remind the reader - is NOTHING MORE THAN the percentage excess of the sum of money contracted for forward delivery, e.g. a year hence, over what we may call the ‘spot’ or cash price of the sum thus contracted for forward delivery.”

The phrase “nothing more than” is always used in normal speech to usher in a strikingly simple or elementary description of the complex object cited just before - for example, “a bird’s wing is nothing more than bone, muscle and feathers”, or, “He is nothing more than common thief”. Just as “there is no doubt that ....” means that there is at least some doubt that, so “nothing more than” means in reality vastly more complex than. These speech patterns are more or less unconscious. If “nothing more than” is followed by something very difficult to understand, the reader will not usually notice, let alone analyse. He will unconsciously assume that something has been said, which is simple to the author, but which is understandable to him only with difficulty. In other words, it raises the de haut en bas status of the author vis-a-vis the reader. (Note that my use of this phrase recalled to me after I’d written it that Pigou used it in his note, as follows:- “The general tone de haut en bas and the patronage extended to his old master Marshall are particularly to be regretted”.) Now let’s look at this “nothing more than”.

First we note that there are a lot of non-essential words, enclosed in [] below:-

“[The money rate of] interest [- we may remind the reader -] is [NOTHING MORE THAN] the percentage excess of the sum of money contracted for [forward] delivery, [e.g.] a year hence, over [what we may call the ‘spot’ or cash price of] the sum [thus contracted for forward delivery].”

Surely “what we may call the ‘spot’ or cash price of the sum” is just the sum itself, since we are talking about the cash price of money, and, because we have two “sums”, presumably the words “‘spot’ or cash” are meant to convey “now”, as opposed to “e.g. a year hence”.

So, shorn of these words, and with the extra word “now”, we have:-

“Interest is the percentage excess of the sum of money contracted for delivery a year hence, over the sum now”.

Which is surely an extremely unsimple, unelementary, way of saying:-

“Interest is the extra sum to be paid to a lender when the sum borrowed is returned at a future date, expressed as a percentage per year.”

Since this is what everybody with a building society account knows anyway, it is difficult to see what substantive point Keynes could have been making when “reminding the reader that it was nothing more than this”. Certainly, it lends absolutely no support to the statement he goes on immediately to make, in spite of the “therefore” inserted to suggest the contrary:- “It would seem, therefore, that for every kind of capital-asset there must be an analogue of the rate of interest on money”. As said above, Keynes could have started the chapter with this rather self-evident statement. Instead, he has a preamble, including the above rhetorical trick, and an announcement that he is going to “enquire whether it is only money which has a rate of interest”. Since now, a few lines later, he has finished his enquiry, by stating that it is not only money which has a rate of interest, preceding this statement with an unjustified “therefore”, one can only conclude, either that Keynes wrote on without knowing what he was doing, or he consciously played on the reader, presenting the image (most successfully) of the highly informed thinker hacking his way for the first time to new truths.

24.1.97 p222 Wheat interest rate

Keynes continues so erratically that I virtually have to take each sentence apart. So, he goes on:- “For there is a definite quantity of (e.g.) wheat to be delivered a year hence which has the same exchange value today as 100 quarters of wheat for spot delivery”. He says this as if it were a quantitative truism. So a real truism (if time delay in money transactions involves a compensation, then so must similar transactions in other medium of exchange) is introduced with phoney argument. instead of flat statement, but a really vague and debatable proposition is brazenly stated without elucidation. The brazenness appears in the words “definite quantity ... which has the same exchange value”. Of course, such an exchange, involving as it does a whole year between promise and fulfilment, must be set down in a written contract, and a contract must give a definite number, or at least a definite formula for arriving at a number. But Keynes’s sentence construction implies that at one time, there is a “definite exchange value”, when in reality there might be any number of different exchange bargains containing any number of different arbitrary agreements on this exchange value, between any number of pairs of dealers. He appears to be expressing a truth external to the individual subjective agreements of dealers.

Bad style of argument, but no matter - his conclusion is OK. If today’s cost of today’s wheat is £100, and today’s cost of one-year-hence wheat is £107, and today’s cost of one-year-hence £107 is £102 (r=5%), then “wheat interest rate” is -2%.

Pigou on wheat interest rate

Here I pause to record Pigou’s thoughts (p125) on “this most confused and most confusing chapter”. He says:-

“To obviate opportunities for arbitrage profit, .... it makes no difference whatever which standard of value is used. Mr. Keynes has forgotten that if expected returns are to be discounted at the wheat rate instead of the money rate, the returns themselves must be expressed, not as sums of money, but as sums of wheat. So soon as this is remembered, his problem, and with it his solution, vanishes in smoke.”

The first 6 words give a ring of truth. Arbitrage must be going on all the time, but this very activity must always be tending towards making Pigou’s statement true.

Pigou writes as if he has dismissed the whole of Chapter 17. But I still have 21 pages to go, and I cannot take Pigou on trust, much as I am inclined to!

25.1.97

I’m now wondering about Pigou’s dismissal.

“If expected returns are to be discounted at the wheat rate instead of the money rate, the returns themselves must be expressed, not as sums of money, but as sums of wheat.” Seems OK. But on 2nd and 3rd re-reading, what does it mean?

Is he, too, not a shade glib, shoot-and-run, de haut en bas? Isn’t his argument too simple? What he argues is:- if £1 = one quarter of wheat today, this means that the present value of the money investment series to infinity, and the wheat investment series to infinity is by definition the same, namely £1 or one quarter of wheat, because, if not, there would be “opportunities for arbitrage”. Wonderful. But if £1 = one ICI share today, and if everybody believes this, why should anybody ever buy an ICI share, since there cannot be any sense in going to the bother and cost of doing an exchange of two things which have identical value? The reason the exchange does take place every day is that the two sides have opposite opinions about the exchange values - the wheat seller thinks the wheat is worth less than a pound, and the wheat buyer thinks it is worth more. Note that this situation only applies to markets made up entirely of speculators. In a consumers’ market this is not so. If £1 = one shirt, the exchange can take place even if both sides have identical opinions about the value, because one side needs a shirt, and the other has unwanted shirts. In the £1 = one ICI share transaction, neither side wants the ICI share as such, or the £1 as such. They are merely paper counters in a speculative game, a game which not only gives “opportunities for arbitrage”, but whose raison d’être is just those opportunities. Pigou seems to be foreshadowing the “perfect information” nonsense. As if speculators in money, wheat, diamonds, strawberries knew everything about all these commodities and could deal interchangeably in all, “obviating opportunities in arbitrage”. However this is presumably not the case. The pork bellies world is peopled, no doubt, by pork bellies specialists, who know nothing whatsoever about soya beans or zinc. A real genius, who could work sure-footedly in all markets would no doubt clean up billions from his normal, dozy competitors.

To speak of speculative markets and of obviating opportunities for arbitrage in the same paragraph makes no sense, and indeed is simply ridiculous.

So I begin to think that Pigou is not, as at first appeared, a man whose simple honest gaze penetrates Keynes’s smokescreen, but simply another rhetorician, whose rhetoric is less complex, less dazzling, and less entertaining than Keynes’s, but equally baseless.

Back to Keynes p223

Keynes states that there is no reason why their rates of interest should be the same for different commodities. Pigou agrees, but says the problem (what problem?) disappears if .... (voice trails off into incomprehensibility).

Keynes started the ball off by saying (p222) that it was “most perplexing” that it was the money rate of interest which settled whether an investment project was carried out or not. But WHY perplexing? Entrepreneurs are not in business to make nuts or bolts or socks or shirts, but to make MONEY. They have money, they borrow money, they buy their raw materials with money, they pay their workers with money, they sell their products for money, they take home their profits in money, they buy their houses, their food, and their children’s’ education with money. So why the mystery? He asks “what would happen in a non-monetary economy?” If he means an economy where money means some other one thing, then nothing. If he means an economy where all transactions are done by barter, with no one entity standing out as the medium of exchange, then it is difficult to conceive how the perplexing problem would ever come to be formulated. It would be more natural to suppose that in such a society, a chief or king would simply order a project to be carried out, the suppliers to supply, and the workers to work. In other words, there is no perplexity, no problem, and no solution is needed. This is exactly what Pigou said, but my reason is quite different.

28.1.97 still p222!

All good stuff above [later, 30.3.2001 – yes! I in 2001 have to agree, which leads to the thought - why can a stupid guy, one who never aspired to give a lecture or write a book, see so clearly and irrefutably that these irrefutably clever guys (yes, even Pigou was one of the cleverest of his day) were hopelessly wrong], but needs editing to reintegrate bits of thought which are not necessarily in the right order.

Keynes (bottom of p223) now skates off into a speculation that “there are reasons why the money-rate of interest is often [Pigou notes the weakness of this ‘often’] the greatest” of all the commodity rates, and that it necessarily is the greatest which figures in the entrepreneur’s judgement. This last point, as noticed above, is a ridiculous extension of the “perfect information” nonsense. It implies that an entrepreneur, considering a project which will return 5%, and for which he can get money at 3%, will nevertheless turn it down because the wheat or tin rate of interest is 7%. Keynes as usual states this as if it was either a brilliant aperçu delivered ex cathedra, or something obvious. In either case he does not attempt to justify it. Presumably the thought is that the entrepreneur would think, “With my project, I can borrow money and get a real return of 1%, but if I put the borrowed money instead into wheat or tin, my real return will be 3%”. Now one can say with Pigou, “but this ignores the further step of converting the tin returns into money, to compare like with like”, but quite apart from that, the real world is surely not in the least like Keynes’s implied picture. First, notwithstanding the fact, as stated above, that the entrepreneur is not in business to make nuts and bolts, but to make money, the fact remains that nearly all entrepreneurs have already judged that the way of making money which suits their individual needs is via the manufacture of e.g., nuts and bolts. He is not essentially a speculator. He has not the knowledge, skill or inclination to play the entire field of business. He is not interested in wheat or tin. Secondly, the entrepreneur is not bursting suddenly into an entire investment picture which is, as it were, given, and which he is now going to play. The investment picture is at any moment the resultant of all the deals and arbitrages up to that point. If tin is returning 7% and money is returning 4%, then this is the situation after all the clever and cunning and knowledgeable people have borrowed all the money they think wise to re-invest in tin. In other words, and I think perhaps this is what Pigou also was saying, the different returns are in the collective eyes of investors and arbitrageurs, and to the best of their imperfect judgement, the same, all factors such as waiting time, risk and uncertainty taken into account. So your statistically average speculator would, e.g., just as well have money on deposit at 2%, or a 3-month paper at 3%, or a gilt at 4%, or a share in the entrepreneur’s project at 5%, or a ton of tin at 7%. Maybe some of the parts making up this statistic are mad, but so be it.

What this means is that Keynes is being too clever by half. He enjoys being in his study reading market data. The entrepreneur has neither the time or the inclination for that - he is a maker of nuts and bolts. He will ask the rate of interest for his loan, he may try one or two more banks, and that is it.

Now it is my turn to be most perplexed. For Keynes, after a gallop round the bushes, concludes that if alternative media of exchange are inflating (positive or negative) at a constant rate against each other, this does not change the order of different projects evaluated in these different media (bottom of p224). This seems to me to go with the drift of what I and Pigou are in our different ways saying, i.e., there is then no problem. But undeterred, Keynes gallops on. Instead of saying “OK, money is no better and no worse than tin, so why not money?” he still insists on enquiring “Why money?”

Section II (p225) It shows that we really are among gifted clowns when we read Keynes:- “the returns on each commodity must be reckoned as being measured in terms of itself”, and when Pigou, commenting specifically on this chapter, says in criticism:- “Mr. Keynes has forgotten that if expected returns are to be discounted at the wheat rate, and not the money rate, the returns themselves must be expressed as sums of wheat”. Confusion?!!

Since Keynes is no fool (!) he manages to say another thing tending to bring him to the Pigou/Stanners line, namely that the yield of a project measured in wheat say would be q-c+l where q is the yield as such, c is a sort of wastage rate, and l is a liquidity premium. The point here is that if l (liquidity) is negative for wheat relative to money, and c (wastage) for money is zero, then these together could make up the 3% gap in my example, making

7%(wheat)=4%(money)

He has an interesting comparison of houses, wheat and money:

                                houses   wheat   money
      yield q                     q       0       0
      wastage c                   0       c       0
      liquidity l                 0       0       l

This is juggling but fascinating juggling. Houses have a yield (in terms of houses???) but no wastage and no liquidity. Money (presumably cash) has no yield, and no wastage but a “return” in the enjoyment of its liquidity. Wheat, rather mysteriously, has no yield (not even if you throw it on the ground?) and no liquidity, only a wastage, i.e., only a negative “return”. Quite why a house should yield “utility” (this, incidentally is a word Keynes does not seem to use much), enjoyment or whatever, and money “returns” the joy of liquidity, but wheat is something whose only “return” is to waste away, Keynes does not pause to say. Couldn’t the owner get some enjoyment from eating it before it wastes away? Or are the rules of Keynes’s game that the enjoyment or return given by an “asset” (Keynes is at this moment calling money, or sheer cash, an “asset”) must be made without realising any potential of the asset? So wheat is not food until it is processed. What if our asset was chocolate bars, or bacon sandwiches?

Anyway, he labours on and again (top of p228) reaches the conclusion that the returns on houses, wheat and money must be equal, even if they are becoming dearer or cheaper in terms of each other. In my view, he does not need his gallop to establish this - it is as near a truism as you can get (see above). Personally I would not use the phrase “must be equal”, since this gives an impression of exactness. I’d use the sorts of words already used above. So, once again, Pigou and Stanners would unite with Keynes in saying “where is the problem?” but with 15 pages to go, Keynes is evidently not giving up.

He proceeds to an ingenious argument. As above,

q(houses)=-c(wheat)=l(money)

Now l, says he, is fixed. Why? Never mind. But real plant is subject to diminishing returns, i.e., the last tumker to be installed before everybody stops ordering tumkers has zero yield. So the monetary yield on houses and wheat, or in other words the inflation in their prices must be rising to compensate! (Notice that Keynes has cited plant but goes on as if what he has just said about plant also applies to wheat.) Since an asset in this sense can be anything at all, everything is rising in price except money. No, this is not a mis-reading (bottom of p228). No wonder we have inflation! Keynes sees a simple stop to this process however. “A point comes at which it is not profitable to produce any of the commodities, unless ....[he goes on with an exception which he later calls ‘special’]”. You might think that arrival at this bizarre conclusion, jerry-built on totally unfounded and crazy foundations, he would backtrack and elucidate what relation if any this has to the real world. But no, that effectively finishes section II.

“The same difficulties will [no sign of holding off there] ensue if there continues to exist [implying that it does indeed exist now] any [his italics] asset of which the own-rate is reluctant to decline as output increases [he has more or less stated in this section that money is in that category, without any justifying text; in a previous chapter he briefly alluded to ‘institutional’ factors as a brake preventing the fall of interest rates]”.

I read all this as yet another patchy* coat of meretricious paint on his constant but unproved theme - too much saving, sticky (too high) interest rates, sticky (not too high but incapable of being lowered to clear the market) wages, preventing emergence from recession.

*[Added later, 30.3.2001. I wonder if these little sections, headed only by “I, II,….”, were in fact bits of journalism which he failed to place anywhere?]

Section III. Again the seemingly repentant sinner. He starts off by saying he has only been assuming that money rates are sticky (note he does not himself use “sticky”, in relation to interest rates). We seem to be coming up to a structured argument:-

(i) Money cannot in the economy (as opposed to the Treasury) be manufactured

(ii) Money is unsubstitutable. If oranges rise, you can eat apples. Not so with money.

(iii) If money is in limited supply, its effective supply can nevertheless vary. E.g., if wages fall and profits rise, less will be needed for transactions. Also the resulting deflation means that money will represent a bigger fraction of wealth. Hum hum.

So, effective money could be a variable, BUT

(a) Lower wages my lead to expectations of still lower wages, so even if r decreases, entrepreneurs’ expectations may decrease as well.

(b) Mention of “sticky” wages here (p232 bottom). These tend to keep nominal wages up anyway. And if they didn’t, (a) would be reinforced (Keynes wins either way)

(c) And in any case, r depends on liquidity preference, says Keynes, and this could go up as Q goes up, thus keeping r constant, e.g., a fast moving situation which makes people want precautionary money (all very guessworkish - WS)

Not too convincing - but still 10 pages (grooooaan) to go.

29.1.97 p233

Afterthought on point IIIiii(c) above. Keynes says the desire for liquidity could go up as the effective money available increases. But as sketched somewhere above, there is a lot of room to imagine (and all this is a matter of imagining - nobody is talking here about evidence or data) that this desire could be very “sticky”.

Just before the appearance of a blank line (thus we have divisions III, iii, (c), and blank), which presumably ends IIIiii(c) and returns the text to III, Keynes approvingly re-floats an idea he attributes to un-named “reformers”, of requiring bank notes to be stamped at intervals at the holder’s expense, in order to create an artificial “carrying cost”, equivalent to the wastage or storage costs of any other asset or commodity. Having said it is “on the right track”, has “practical value”, and “deserves consideration”, he then without further elucidation or debate, drops it dead. Then the blank line.

What is the merit of this? It obviously introduces a non-zero c into the above formulation, so the “return” on money is not l, but l-c. So whereas your saver or speculator previously “sacrificed” liquidity up to the point where his l equalled r, he now has to sacrifice it up to the point where l-c=r, or l=r+c. It is equivalent to banks making monthly charges on current accounts. And clearly the present situation where banks essentially pay interest on current accounts, is, from Keynes’s point of view a very bad thing. Why? The answer seems to go:- If there is recession, there is a need for a “Keynesian” reduction of interest rate. But the tendency is in the opposite direction. Recession depresses transactions, so there is more money for speculation. Liquidity is nice, says Keynes (is it really says I?), and because there is no carrying cost, the aggregate demand for liquidity just goes up as the available money increases. So r does not come down. If we provide a disincentive to liquidity by imposing a storage charge, then r will come down. In fact, as I understand it, r would come down by c. The mind really boggles here. This is precisely the sort of Keynes line of thought which is best terminated while the opposition is still scratching its head - hit and run. If time is allowed for queries the whole thing wobbles. How is the Keynesian mechanism for interest rate determination (i.e., that it is settled by a purely internal battle within the heads of speculators - desire for liquidity v. desire to have interest) supposed to work if Keynes pops up when it suits him to say that (in this instance) it does not work? Is this “theory” just a polemical game, a good ploy, an instrument on which Keynes can play whatever tune is needed? My answer:- yes.

After the blank line (p234), I have a feeling Keynes is going into purple passage mode, which means I have to do a lot of quoting. Also Pigou p124 has a sentence “which cries out for quotation” from this area (p236).

I think this is going to turn out to be a phenomenon I’m familiar with in Keynes - the argument in extenso which is too complex and extensive to be understood easily, followed by one or more attempts to re-express the train of thought in a more concentrated style, each of which also founders in sentences too dense to comprehend. Just listen.

“The significance of the money-rate of interest arises, therefore, out of the combination of the characteristics that, through the working of the liquidity-motive, this rate of interest may be somewhat unresponsive to a change in the proportion which the quantity of money bears to other forms of wealth measured in money, and that money has (or may have) zero (or negligible) elasticities both of production and of substitution.”

This lists with great and almost incomprehensible brevity points iii, i and ii (in that order), already made. He goes on:-

“The first condition means that demand may be predominantly directed to money, the second that when this occurs labour cannot be employed in producing more money, and the third that there is no mitigation at any point through some other factor being capable, if it is sufficiently cheap, of doing money’s duty equally well”

Again, a few words stand in for the much larger number devoted just before to these points iii, i, ii. What was before thin, lacking evidence, and unconvincing, does not become more convincing by being repeated in denser prose. And now the Keynesian dénouement:-

“The only relief - apart from changes in the marginal efficiency of capital - can come (so long as the propensity towards liquidity is unchanged) from an increase in the quantity of money, or - which is formally the same thing - a rise in the value of money which enables a given quantity to provide increased money-services”

So, concision has suddenly deserted him, for this simply means:- “Solution? - Print money”.

Keynes seems to know that, after a couple of rhetorical rounds, one long, one short, he has still not produced a convincing punch, so off he goes again.

“Thus [with this “thus”, as with the “therefore” above, he hopes to persuade that he is moving the argument forward, not just desperately repeating it] a rise in the money-rate of interest retards the output of all the objects of which the production is elastic without being capable of stimulating the output of money (the production of which is, by hypothesis, perfectly inelastic [by hypothesis! - is this good enough when he is supposed to be shaking the world with a new theory of the real world?]). The money-rate of interest, by setting the pace for all the other commodity-rates of interest, holds back investment in the production of these other commodities without being capable of stimulating investment in the production of money, which by hypothesis [here we go round again] cannot be produced.”

30.1.97 p235

It is a tribute to Keynes’s polemical powers that the above passage has survived for 60 years while in all probability hardly ever causing its readers to guffaw aloud, certainly without causing Keynes or anyone else to suggest re-writing it. Not only does the passage reiterate without amplification a thought already covered, it does so twice. Surely this in itself shows that Keynes is faced with a purely polemical problem. If the problem was to convey a merely difficult but lucid idea, then his solution would be straightforward - to start at the beginning, and slowly and lucidly take the reader through. Instead, we have what is little more then a ragbag of indications, followed by attempts, not to clarify (which would require further deliberation and lucidity) but simply to repeat in a number of different ways. It is as if, realising the goods are faulty, he experiments with a number of different gaudy wrappings. If anyone doubted the analysis being here put forward, he would have to explain why Keynes, having himself promoted the “hypothesis” that money cannot be produced as the first of three characteristics setting money apart from other commodities, has never up to or after that point devoted any space to explaining this far from self-evident idea. Firstly and at the very least, it seems to assume that the reader habitually regards money as just one of many commodities, and he requires Keynes to point out that in one or two respects it is not, whereas in my perception, hardly anyone thinks in this way, and would need rather to have it pointed out that money, although not normally regarded as a commodity at all, can be treated as such in some very limited ways and in some contexts. Secondly, as pointed out above, it seems bizarre to elevate some statement to an important position, only to say later (twice) that it is only a “hypothesis”. And thirdly it is odd to say that money cannot be produced, when manifestly it can, either by “printing” money or in the several other ways involving banks and credit which can be found listed in any text book, and when Keynes is advocating a little later that it should be! Of course, a defender of Keynes could find (and I can too) qualifications slipped in here and there, but this merely brings in more elements which cry out for the argument and debate which Keynes fails to supply.

He goes on. “Moreover, owing to the elasticity of demand for liquid cash in terms of debts [?], a small change in the conditions governing this demand may not much alter the money-rate of interest, whilst (apart from official action) it is also impracticable, owing to the inelasticity of the production of money, for natural forces to bring the money-rate of interest down by affecting the supply side. In the case of an ordinary commodity, the inelasticity of the demand for liquid stocks of it would enable small changes on the demand side to bring its rate of interest up or down with a rush, while the elasticity of its supply would also tend to prevent a high premium on spot over forward delivery.”

The huffing and puffing continues with the above. There are 4 observations there. The first two and the last merely define the accepted meaning of the word elasticity. The third finds yet another way of saying that money cannot be produced. Value added:- zero.

And on:- “Thus with other commodities left to themselves, ‘natural forces’, i.e. the ordinary forces of the market, would tend to bring their rate [note:- singular] of interest down until the emergence of full employment had brought about for commodities generally the inelasticity of supply which we have postulated as a normal characteristic of money. Thus [2nd time] in the absence of money and in the absence - we must, of course, also suppose - of any other commodity with the assumed characteristics of money, the rates [plural this time] of interest would only [sic] reach equilibrium when there is full employment”

These two sentences again say the same thing twice. And each of them state nothing more or less than the normal market-clearing description of a free market. Not only is there nothing new there, but Keynes omits even to remark (although elsewhere it is one of his 3 or 4 major themes) that this thumbnail description implicitly assumes that labour is a commodity. That is, while he is here saying, in effect,

“If only money was a commodity, there would be full employment”,

his own more general thesis is,

“If only money and labour were commodities, there would be full employment”.

Keynes now goes on to one of his much-quoted purple passages, but after the above examination, it seems to me to that this must be the silliest, most slapdash and obscure theory of employment ever penned by an allegedly serious writer.

“Unemployment develops, that is to say, because people want the moon; - men cannot be employed when the object of desire (i.e. money) is something which cannot be produced and the demand for which cannot be readily choked off. There is no remedy but to persuade the public that green cheese is practically the same thing and to have a green cheese factory (i.e. a central bank) under public control.”

This really plumbs the depths. Remember this is a book entitled “The General Theory of Employment, Interest and Money”, yet here we are, approaching the end of the book, with nothing to show but this on all three counts. “Object of” whose “desire”? If it is the worker, have we reached this point, after pages and pages of ill-defined ramblings about money, to find that we are back at the street usage of the word? Have we not been discussing money, or sometimes cash, in terms of liquidity, of something only boringly held for transactions, the real jazz being concerned with speculation? In street usage, on the other hand, money - “he has money, he comes from money, moneybags” - is wealth in all ultimately disposable forms, and that is certainly the object of desire. Cash, as such, in the sense voluminously discussed in the General Theory , may be “a preference” but not the basic “object of desire” that makes all the wheels go round. In the street sense, money certainly can be produced, simply by toddling along to the bank. Does anybody imagine that if every employer in the land decided simultaneously to increase all of their wage packets by 1% next Friday, it could not be done because “money is something which cannot be produced”? And then, what does Keynes mean by saying that the public need to be persuaded that “green cheese”, which presumably means bank-notes (or even freshly-printed bank-notes, but what difference does that make?) is “practically the same thing”? Practically the same thing as what? The same as another non-green cheese bank-note? Why should anybody need to be persuaded that two objects, identical as far as anybody can see, are the same?

It may be said that the above is a laboured dissection of what is intended as nothing more than a joke. On the other hand, it could equally be said that Keynes, having tried extensive but unconvincing* debate, then apparent elucidations which on examination turn out to be simply multiple rewordings of the elements of this debate, is now reduced to sending the reader off with the last artful shot from his rhetorical armoury - a striking but feeble joke.

[Added 30.3.2001. Here we deal with paradox upon paradox. Keynes must come near to the world record in convincingness, judging by a head count of those he convinced. One can only respond that there is a clear and not really paradoxical difference between the rhetorical convincingness of a presentation and its demonstrable scientific integrity.]

He follows this by saying that gold is worse than banknotes, because it cannot be produced, unlike banknotes, which can - er, cannot be produced either.

Here there is a further blank line. The next paragraph, the last of section III, starts “Our conclusion ...”. Now, this paragraph is the one singled out by Pigou as “crying out for quotation”. It is Keynes’s chosen coda, so although it does not merit particular notice I give it in full.

“Our conclusion can be stated in the most general form (taking the propensity to consume as given) as follows. No further increase in the rate of investment is possible when the greatest among the own-rates of own-interest of all available assets is equal to the greatest among the marginal efficiencies of all assets, measured in terms of the asset whose own-rate of own-interest is greatest.

“In a position of full employment this condition is necessarily satisfied. But it may also be satisfied before full employment is reached, if there exists some asset, having zero (or relatively small) elasticities of production and substitution, whose rate of interest declines more closely as output increases, than the marginal efficiencies of capital-assets measured in terms of it.”

First Pigou’s criticism. He says that all own-rates of own-interest of all assets are effectively the same. I do not agree with him (see above) but let’s carry on. Let’s re-word Keynes after Pigou:-

“Our conclusion is as follows. No further increase in the rate of investment is possible when the rate of interest of money is equal to the greatest among the marginal efficiencies of all assets.

“In a position of full employment this condition is necessarily satisfied. But it may also be satisfied before full employment is reached, since money has zero (or relatively small) elasticities of production and substitution, and its rate of interest declines more closely [surely “slowly”] as output increases, than the marginal efficiencies of capital-assets.”

Thus, à la Pigou, the first paragraph is simply a truism. The second is a re-statement of Keynes’s decree that r is sticky, because it responds not to the declining call for investment, but to the possible, but verbally boosted into necessary, desire of speculators for more liquidity. Note incidentally that Pigou says “If business men’s expectations improve, [then] with any banking policy which has ACTUALLY been pursued, it [r] must inevitably rise, and as HISTORY abundantly demonstrates, has in fact risen”. That is, in a manner completely unknown in Keynes, he invokes evidence.

Now me. I reject the first paragraph, not for Pigou’s reason, but because I think it is simply absurd to attribute to entrepreneurs any widespread concern for the “own-rates of own-interest” of any, let alone all, “available” assets. (What does “available” mean anyway?).

To make the first point about the second paragraph, let’s recast in brief.

The 1st para says:- “A happens when condition B occurs.”

The 2nd para, first sentence, says:- “If C then B.”

Keynes leaves it there. But clearly, the above implies:- “If C then A.”

If I now re-translate into Keynes’s words, this says:- “In a position of full employment, no further increase in the rate of investment is possible”. Assuming that the words “rate of” are simply inserted here by mistake on Keynes’s part, this statement is simply a truism. Clearly no entrepreneur will undertake new investment if there is no labour available. If this is so, then clearly Keynes’s elaborately constructed condition B is not needed at all. Following this train of thought further, suppose we are in a situation where investment is proceeding, output is rising but employment is still not full. If there is a check, the entrepreneur at the margin sees, not that money is too dear, but that it is too dear in relation to the wages required by these unemployed men. So the rich want too much and the unemployed want too much. Impasse. Sticky interest and sticky wages. Yahroop.

31.1.97 p234

I modestly think that the above formulation, namely:-

If there is unemployment, it is because wages are too high, or the interest rate for new investment is too high, or a combination of both. The free operation of the market is apparently not generally capable of bringing these prices (one or other or both) into equilibrium. External intervention is necessary.

is better than Keynes’s.

What these two prices have in common is that the “commodities” so priced, labour and money, are not normal commodities, so attempts to deal with them on the same basis as consumer goods is bound to fail. The price mechanism for consumer goods involves money, which in turn is standing in for the consumer’s labour. In the consumer goods market, the consumer exchanges money for goods.

It is natural to regard this market, which is a real market in the traditional sense, as the obverse of the labour market, where workers complete the circle by exchanging their labour for more money. But this is a metaphor. The metaphor might approach reality if the exchange of labour for money took place in traditional market fashion - a meeting of seller and buyer, a relatively short process of negotiation, agreement to buy or not to buy, and immediate parting, to allow the seller to turn to the next buyer, and the buyer to proceed to other market stalls. The labour/money transactions of a one-man barber approximates to this description.

But the typical labour/money transaction bears no resemblance to this. For a start, the status of seller and buyer is reversed. In a real market, the sellers are few and relatively cohesive, and generally possess most of the information and the skills. The buyers are many and uncoordinated, and generally have to trust to competition if they are not to be taken advantage of. In this real market, although in the last analysis the “customer knows best”, the seller is on the higher ground.

In the labour market, this situation is overwhelmingly the reverse. The sellers are many and relatively uncoordinated. The buyers are few, cohesive, powerful and knowledgeable. They are “the masters”, in the detailed operations of the market, and as a class, outside of the market.

Secondly, the “goods” being exchanged are not of the normal market scale. Negotiating for shoes or bread, or even a house, is a field where there is room for manoeuvre. Negotiation when a deal means “live on”, and no deal means “beg or starve”, is hardly merely a difference of degree, but one of kind. A related difference is that labour “goods” are, if not unique then at least unusual, in that the “goods” have zero shelf life. If today’s increment of the “good” is not sold, it is lost forever.

Thirdly, this “transaction” is as far as possible from “deal-and-go”. For the seller, it may not only be a matter of acquiring the means to live for another day or week, but a large part of his entire social and cultural being, over a more or less prolonged period. A related and just as important point is that we are not talking here of two negotiators, but generally of a more or less large cooperative enterprise, a thing which is in a sense is not entirely within the control of any one individual, or group of individuals. Another way of saying this is that in an ordinary market deal the “object” of the deal is outside of, or apart from, the dealers, whilst in the typical labour/money deal the “object” of the deal is a greater or lesser part of the entire physical, social, and cultural being of the dealer. The worker is in a sense selling a large part of his body and mind, while the body and mind of the employer will often be largely involved as well.

For all the above reasons, it is a hopeless enterprise to write about, say, the market-clearing price of labour, unless there are qualifications and caveats at every step.

The above has been written with fair fluency. Labour may be an artificial and mysterious entity, but at least we are very familiar with its daily manifestations. Money is a different kettle of fish. Of course, we all know from childhood the familiar jingle of coins and the experience of more or less petty transactions involving notes and coin. But, if I think of my own “money”, it exists only as a piece of paper which arrives every month, and a file of these and similar pieces of paper on a shelf above my desk. Even the house I live in exists in this world of money, not as bricks and mortar, but as one of those pieces of paper. The notes and coins, the money I grew up with, represent a completely trifling fraction, even of my yearly income, let alone of my wealth - a quick sum suggests 0.2% and 0.03% respectively. Even for someone who has no bank account and who spends his weekly pay packet by between Friday evening and Saturday evening, the first fraction is necessarily of the same order as that quoted.

Keynes’s book is supposed to be about 3 things named in the title, one of which is money. Yet he makes no attempt to cover even the sort of ground I have covered above. This, in spite of his Preface where he states that he is going to deal with “difficult questions of theory”, while pointing out that “orthodox economics is at fault ..... in a lack of clearness and generality in the premises”. The nearest he comes to defining money, or rather, the farthest he departs from what seems to be his policy of not defining money, is not in a prominent position near the beginning of the book, but in a footnote on p167, which I partially quote:-

“We can draw the line between ‘money’ and ‘debts’ at whatever point is most convenient FOR HANDLING A PARTICULAR PROBLEM. ... three months, one month, three days, or three hours. As a rule, I shall assume that money is co-extensive with bank deposits.”

With that inconspicuous caveat, he “theorises” widely throughout the book on “money”, tout court, without the slightest attempt to remind the reader whether at any given point he is respecting this rule or not.

For example, as said above, he talks in his purple passage about money being “the object of desire” in an employment context. But is the money, transferred straight from the employee’s pay packet to the local Cooperative Store, “money” in the sense of Keynes’s title? This (mythical) worker might almost as well be paid in goods from a company store. The money Keynes mostly discusses is the “liquidity” of a speculator in a Bear market! And indeed, this must be the money, M0, swilling about, since the official UK value of M0 is around 3% of GDP (£400 for every man, woman and child), far in excess of the requirements of ordinary people like my mythical worker and myself (I imagine that we two span about 95% of the population!). In this vein, the value of M4 (cash + bank + building society deposits) is about 50% of GDP for individuals (£6500 for every man woman and child!), and about 100% in total. (Savings of other sorts appear to be; gilts £200bn, national savings £50bn, rest maybe another £50bn - say in total 50% of GDP )

To continue, on the theme of the “commodity market” for money.

With “labour”, at least we have a standard type of transaction. With money this is dizzyingly far from the case. Again Keynes does not really discuss, but the following types can be discerned.

1 BUY “consumable” consumer goods, like food, or a service, from income

2 BUY longer life consumer goods from income - anything from a dishcloth to a small table perhaps

3 BUY a debt (to use Keynes’s language) from the bank at zero interest and zero maturity (current account) from income

4 BUY a debt from the bank at non-zero interest and zero maturity (deposit account) from income

5 BUY longer life consumer goods from above liquid savings - anything from a dish cloth to a car or house

6 BUY a debt at interest and maturity from 3 months upwards from liquid savings

7 BUY an equity holding from liquid savings

1 SELL “consumable” consumer goods, like food, or a service, for income

2 SELL longer life consumer goods for income - anything from a dishcloth to a small table perhaps

3 SELL a debt (to use Keynes’s language) to the bank at zero interest and zero maturity (current account) for cash

4 SELL a debt to the bank at non-zero interest and zero maturity (deposit account) for cash

5 SELL longer life consumer goods from above liquid savings - anything from a dish cloth to a car or house for cash

6 SELL a debt at interest and maturity from 3 months upwards for cash

7 SELL an equity holding for cash

This may seem a pernickety list, but it serves to illustrate the difficulty of making an honest and workmanlike job of discussing consumption, saving and investment.

In the first place, what is this “liquidity” which Keynes makes such a thing of? The only asset I have which I would consider to be somewhat illiquid is my house, and even that I could in a way liquefy by buying a debt with it (again, to use Keynes’s language). Gilts and equities are today, and even in Keynes’s time (as he would know much better than most, as a wizard speculator), as liquid as you could possibly want, providing the mechanisms for achieving liquidity are in familiar use. The nominal maturity date is virtually irrelevant in this context. What Keynes fails to distinguish clearly is that cash in the form of banknotes is both liquid (in the sense that it is wealth in a form readily and quickly usable for buying something) and nominally stable (its value stays the same in £s). This charge against Keynes is substantiated if, via the index, I look ahead to p240 (which is a bit late, anyway, to define liquidity) and find that at the top of the page he says “the rapidity with which wealth ... can become ‘liquid’, in the sense of producing output, the proceeds of which can be re-embodied if desired in quite a different form”, thus specifying only the rapidity. His lack of system shows in that, in other places, he talks of liquidity as a hedge for Bears, and clearly, although he does not specifically say so, nominal stability is paramount here, although rapidity is useful too.

Anyway, having discovered that Keynes is talking around exactly this point 5 pages from where I am, I now return to Keynes, and will re-consider after reading him.

Section IV p236

Keynes starts off:- “We have shown that for a commodity to be the standard of value [i.e., money] is not a sufficient condition for that commodity’s rate of interest to be the significant rate of interest”. I take this bizarre sentence (even its syntax is bizarre) to mean “the money rate of interest is not necessarily the significant one”, although even stripped down like this, I’m not clear what it means, and I cannot recall this having being “shown”! He has said that the highest rating rules, and that that is likely to be the rating of money, but that is not exactly the same thing, nor has he ever shown these two things. With a “however”, however, he promptly assumes that money interest is the significant one, and asks himself if this is to do with the fact that it is money as we know it (I have answered firmly yes to this, above, on behalf of entrepreneurs). His answer is structured.

1. It is undeniably handy, says he with a straight face, to work in the same nominal terms as everybody else! And it is handy to know that it is not going to be produced ad lib! And it is nice that it does not waste away and is convenient to store cheaply! All this, of course is expressed in Keynes high-solemn style, over a whole page.

2. This is more subtle, he says. And indeed it is. He starts of by saying (no - this gives the impression that he is announcing something; he isn’t; he is saying it as if it was as obvious as “water is wet”) that it is “the normal expectation that the value of output will be more stable in terms of money than in terms of any [sic!] other commodity”. Well, is that your normal expectation, missus?! In simpler language, it means (I think) that inflation rate in the nominal money price of the “output” [what output?] must be smaller than the inflation rate of ANY other commodity. Even if this were a mathematically provable point, I doubt if it would be “the normal expectation”! It is just too difficult to be a normal expectation. But it seems abundantly clear that it is not true, indeed hardly even comprehensible, given that “any” commodity could literally be anything - dead flies, scrap bedsteads? - and “output” could also be anything - jam, sculpture? He may of course mean “national aggregate output” and this would at least bring the statement into the realm of comprehensibility, and he might mean “any commodity reasonably described as such”, but if so he should say so, and in any case, it still simply cannot be true as categorically stated.

Anyway, this normal expectation “depends of course [yarooh!] on wages being sticky”. Yes! Of course! So Keynes, the famous discoverer of sticky wages, now says that our normal expectations depend on us all of course noticing this phenomenon. And if sticky wages keep the price of output stable, why should they not equally keep the price of “any other commodity” stable? What would happen, he muses, if we all expected wages to be stickier in terms of, say, wheat than in terms of money? At this point, an obsessively attentive reader has visions of generations of readers over the last 60 years rolling about in uncontrollable mirth at this quite loony train of thought. But this vision is momentary. We know in our bones, that these generations have read all this at novel-reading speed, admiring the guru’s penetration and élan, passing breathlessly on to the next purple passage.

1.2.97 p237

Taking the cudgels up again, I re-read the Keynes’s “musings” on whether wages would be stickier in terms of some non-money commodity, than it is in money. The dreadful and incomprehensible thing is that, the way he puts it, it sounds quite a reasonable question. Why ...y..y (grooaan)? What is the great man’s answer? Why, that “it is not logically impossible ..... but it does not seem [strangled scream] probable that any such commodity exists”. It has taken a couple of gallops round Newmarket to reach this wonderful elucidation, settled beyond dispute by the fiat “it does not seem probable” - absolutely no argument is given beyond that. He then gives the most gloriously meaningless “conclusion”, a passage of Stanley Unwinesque gibberosity:-

“I conclude, therefore, that the commodity, in terms of which wages are expected to be most sticky, cannot be one whose elasticity of production is not least, and for which the carrying costs over liquidity-premium is not least. In other words, the expectation of a relative stickiness of wages in terms of money is a corollary of the excess of liquidity premium over carrying costs being greater for money than for any other asset.”

I translate:- Wages are stickiest when expressed in terms of money, this being the commodity least apt to be produced, whose handiness is highest, and which has least wastage in store. In other words, money wages are sticky because money is handier and is less prone to wastage than anything else.

To which I observe, first that his farrago has not been justified, shown, or even argued in the preceding material - and it goes without saying that there has been no mention of evidence, or even the possibility of evidence ever being obtained. It has merely been talked around. It is like music, where the theme is stated, re-stated, worked around and played with, and then drawn to a loud coda. There is, as it were, musical or rhetorical development, but there is no logical development.

4.2.97 p238

But why does Keynes “conclude” this, as if it were the outcome of a major discussion of whatever quality? The main theme, as I recall is “why is money the measure of everything?” Even section IV, starting less than two pages before (p236), sets out its scope without mentioning stickiness. The word “sticky” does not occur until the bottom of p237, little more than half a page upstream of this “conclusion”, and it will be remembered that the intervening text rambled on to a weak, “it is not logically impossible ..... but it does not seem probable that any such commodity exists”. So much for the “conclusion”, relating expressly to the stickiness of wages, which immediately follows.

This is an example of the purest 100% quintessence of rhetoric - even worse, empty rhetoric.

5.2.97 p238

He goes on to reiterate “the fact that money has low elasticites [why plural?] of production” although this “fact” has not been demonstrated in any way, merely stated. This fact, and zero storage costs “tends to raise the expectation that money wages will be relatively stable”, although in my view, as already said, “money” for wages, and “money” as predominantly discussed by Keynes are sufficiently different for this difference to be at least remarked on. This expectation, he says, reinforces in turn people’s desire to have the liquidity of money, i.e., cash, presumably, although he does not say so, because it then holds its value.

If I try to bring this gibberish into plain English, it might be as follows:-

Money quantity is fixed, so wages tend to be fixed, so prices tend to be fixed, so money tends to hold its value, so money quantity is fixed ..... etc.

Or even briefer:-

Money is fixed, so inflation rate is zero - FULL STOP.

Then:- The above “prevents the exceptional correlation between the money-rate of interest and the marginal efficiencies of other assets which might, IF IT COULD EXIST, rob the money-rate of interest of its sting.” I think this might mean that a raising of interest rates normally kills less “efficient” projects, but if it tended to promote inflation, a given rise in interest rates might not have this effect. (So what?)

Now he has a bash at Pigou, who apparently thought “with others” that real wages were more stable than money-wages. This, says the egregious Keynes, “is not merely a mistake in fact and experience ... (but) also a mistake in logic”!

What he is saying is that “in fact and experience” workers are attached to their wage in its nominal terms. If this were not so, and wages were somehow fixed in real terms, then if workers decided to spend more and save less, prices (and hence wages) would spiral up to infinity, or if they decided to spend less and save more, prices would spiral down to zero.

Note that it does not seem to cross Keynes’s mind that this hypothesis is perfectly testable. Admittedly runs of data were not so lengthy in his day, so there are practical difficulties, but the point is that he seems content to regard the whole matter as one to be solved inside his own head - in spite of his isolated mention of the word “experience”.

Be all that as it may, clearly, logic or not, Pigou has had by far the best of this argument. In 60 intervening years of dizzy inflation, real wages have been relatively stable (from a child’s eye view, how could they not be?), while nominal wages have rocketed. In a way, Keynes has been proved right, or rather, his reason for wrongly ruling out the correct view has proved to be right! Prices have spiralled upwards (though never downwards as in his scenario), but on a vastly slower time-scale than the words from his study imply - “(fluctuations in demand) ...would cause money-prices to rush violently between zero and infinity”!

Section V p239

He now muses on liquidity being a matter of degree. He does not bother, of course, to define liquidity. Presumably its essential quality is that it is “easily convertible or exchangeable”. But is “relatively stable in value” also required? Although the liquidity premium is the interest level willingly foregone in order to have cash, it is easier to envisage it as a yearly cost, or negative interest, borne in order to have the satisfaction and convenience of a means of exchange readily to hand.

Now, given that, what sense does it make for Keynes to muse on the “liquidity-premium of an asset”, i.e., of an asset other than money? What sense would it have to ask oneself “what annual cost am I willing to bear to have the convenience of having a ready store of wheat”? Wheat purely and simply lacks the quality of being readily exchangeable. That is not the fault of wheat, it is merely that in our society, only money is readily exchangeable. Even if you had a small billet of pure gold or silver, or a small diamond, you could not go into a shop and buy your week’s groceries with it, because the shop assistant simply lacks the habit, the knowledge and the physical means to verify that this material is gold, silver or diamond, or to compute its exchange value. Surely these matters define what liquidity means. Anything which satisfies these conditions is by definition money, or, what is the same thing, liquid. Of course money might consist of pieces of gold, silver or diamond, suitably and visibly certified, but that does not detract from the statement that liquidity defines all objects which can be called money. When Keynes talks of “liquidity-preference” and “liquidity-premium”, he is in fact talking of money-preference and money-premium, always bearing in mind that “money” needs to be defined, and the definition “is a matter of degree”! As for “carrying costs”, well this too is a canard. Again, to have zero or small carrying costs is part of the definition of money. If the main characteristic of money is convenience, then obviously something which evaporated, or putrefied, on the way to the shop would not fit the definition, nor would something inconveniently heavy, smelly, slippery, etc., etc.

So to say:- “It is in only in having (liquidity high and carrying costs low) that the peculiarity of ‘money’ consists”, as Keynes does at the beginning of section V, is a hopelessly wrong-headed way of putting the matter. It is like saying:- “It is only in being human that the peculiarity of human beings consists”. Money is only (in this context) a medium of exchange, which means it can be anything that is convenient in bulk and durability, and is physically capable of carrying an easily recognisable and universally acceptable certificate of genuineness.

[Later, 2.4.2001. Even shorter – money has to be convenient and credible for its purpose as a temporary intermediary to facilitate exchange.]

This defines money in its basic physical terms, whether it is banknotes, coins, paper assets on bank letterhead, corrie shells or beads. Liquidity and small carrying costs are secondary characteristics of money - they follow from these physical attributes. Therefore, if one goes on to enquire what assets, other than money, share “as a matter of degree”, the characteristics of liquidity and low carrying costs, it can only result in confusion, because any asset which has both characteristics is by definition money. If it is not money, then you are simply re-defining the terms liquidity and low carrying costs.

For example, Keynes on p240, talks about the “rapidity with which wealth embodied in (capital equipments) can become ‘liquid’ [the inverted commas show that he really is aware of my problem], in the sense of producing output, the proceeds of which can be re-embodied if desired in quite a different form”. So he is musing on the “liquidity” of a piece of capital equipment in terms of the speed in which its output can be turned into “proceeds”. The artful use of “proceeds”, instead of “money” shows Keynes’s embarrassment. The liquidity of this plant is being defined by the speed with which it can be turned into money! Clearly everything can eventually be sold, i.e., turned into money, i.e., become “liquid”. To define the liquidity of something as the speed with which it can be exchanged for something else which has liquidity, is a far more serious “mistake in logic” than anything Keynes accused Pigou of. Money is liquid. Anything else, which needs to be exchanged for money in order to achieve liquidity, is clearly not liquid. One has to admit here that there is a vagueness of normal language, in the sense that a bond is said to be more liquid than a house, i.e., can be sold, changed into money, more quickly. But clearly, this is a case of using one word for two quite distinct senses. Nobody would dream of selling a house against a number of bonds or vice versa. Each buyer has to turn his non-money asset into money before the exchange takes place. In other words, all materials which objectively fulfil the primarily physical and secondarily psychological definition of money given above are uniquely liquid. Money and liquidity are in fact the same thing. Money is necessarily liquid, and anything liquid is necessarily money. There are therefore no degrees of liquidity in this sense. Any other thing or skill or knowledge which can be sold for money can be said, colloquially, to have different degrees of liquidity depending on the time and effort needed for the sale to take place, i.e., for liquidity to be achieved, but to adopt this usage means engaging in a semantic confusion, since the degree of time and trouble needed to achieve liquidity is just the degree of time and trouble needed to achieve liquidity, and cannot be liquidity itself, not at least if “liquidity” means the same thing both times.

That’s enough of that! I have criticised Keynes for going on and on, citing this as proof that what he is saying cannot be taken seriously!

Keynes now (middle of p240) enters into the most surreal part of this surreal chapter. Up till now, the “liquidity premium” has been the sacrifice of interest in order to have the convenience of money. How does this transpose, says I, when you start talking about “other assets” and “capital equipments”? For clearly, as defined, the liquidity premium is not something, it is the lack of something. So the liquidity premium differs according to what is chosen as the alternative foregone.

Keynes plunges on. “There is, clearly, no absolute standard of ‘liquidity’ but merely a scale of liquidity - a varying premium of which account has to be taken, in addition to the yield of use and the carrying costs, in estimating the comparative attractions of holding different forms of wealth. The concept of what contributes to ‘liquidity’ is a partly vague one, changing from time to time and depending on social practices and institutions. The order of preference in the minds of owners of wealth in which at any given time they express their feelings about liquidity is, however, definite and is all we require for our analysis of the behaviour of the economic system.”

All right. He has said we require something, and also that we have it, that it is definite, and that this is all we require. So what is it? He does not say, He stops dead, right there (p241, 1st line), and shoots off into an entirely different and equally zany subject. Note that in Keynes’s crazy world, this “order of preference” is only an expression of the feelings of wealth owners about liquidity! Just what fraction of their time do wealth owners spend having feelings about liquidity? Note too that this sliding scale of l is cited in connection with the r = q - c + l formulation introduced on p226, and where l is stated to be zero (“negligible”) for houses. Well, r the yield, q the output and c the wastage cost are clear enough, but after many pages of huffing and puffing, l is still, however “definite”, still not just “partly vague”, but totally opaque.

However, the nadir of empty polemic is at hand .....

6.2.97 p241

Just listen to this:-

“It MAY be that in CERTAIN historic environments the possession of land has been characterised by a high liquidity-premium in the minds of owners of wealth; and since land RESEMBLES money in that its elasticities of production and substitution MAY be very low, it is CONCEIVABLE that there have been OCCASIONS in history in which the desire to hold land has played the same role in keeping up the rate of interest at too high a level which money has played in recent times.”

Now compare the following which occurs less than one page later, with an intervening text (see later) which does nothing to put flesh on the above musings:-

“That the world after several millennia of steady individual saving, is so poor as it is in accumulated capital-assets, is to be explained, in my opinion, .... by the high liquidity-premiums formerly attaching to the ownership of land and now attaching to money.”

Before going on to the meaning of this, and to the quality of the argument, it can be noted on a bare syntactical level that the purely hypothetical idea diffidently introduced with five “may” words, is transformed, after anaesthetising the reader’s memory with a single paragraph of Keynesian convolution, into a matter of historical fact, namely “the high liquidity-premiums formerly attaching to the ownership of land”. Even the “in my opinion” governs the proposition that the lack of accumulation is due to this stated fact; it does not qualify the fact itself.

This is thus a particularly blatant and unarguable example of a more general Keynesian rhetorical method of transforming views or hunches into ostensible facts (see below a playful attack by Robertson on Harrod along the same lines).

Now back from syntax to substance.

The first sentence, apart from having two words whose dictionary meanings denote uncertainty (it is paradoxical but true that the word “certain” in this context indicates uncertainty), the proposition put forward, with absolutely no elucidation, is vague and puzzling in the extreme. Again we have Keynes, the master debater, a man accustomed to the awed deference of his hearers, simply rolling forth a seemingly daft idea, as if challenging his readers to show their ignorance by saying “er - please sir, er - what do you mean by that?” What can it mean to say “land is characterised by a high liquidity-premium in the minds of owners of wealth”? If it is remembered that liquidity-premium is the interest foregone in order to retain some small portion of wealth in the convenient and relatively stable form of money, we have to ask what sense it makes to say “liquidity-premium is the interest foregone in order to retain some small portion of wealth in the convenient and relatively stable form of land”. In the first place, we recall that land was extremely illiquid, in the sense of exchangeable for other assets, until quite recently. People who were assigned land by the king or by personal conquest regarded it as their piece of country, just as the king regarded his entire domain as, in effect, defining him. Liquidity, whatever else can be said of it, must at the very least, apply to only some things, other things being comparatively illiquid. In Keynes’ normal case, money is liquid, bonds are comparatively illiquid, and everything else is more illiquid still. If you say that in former times, land was on a scale of liquidity “in the minds of owners of wealth”, just what was comparatively illiquid in their minds? Against the alternative possession of what goods was the liquidity-premium paid to retain the comparative liquidity of land?

Of course, in former (pre-industrial revolution) times, land was ultimately the only form of wealth. From it flowed the agricultural produce, the surplus of which fed the workers who produced other comforts of life for the “owners of wealth”, including service. During the “several millennia” referred to by Keynes, land-owners, the aristocracy, were the owners of wealth. In what sense could they have “attached high liquidity-premiums to the ownership of land”, when land was their entire wealth?

Keynes earlier (top of p240) did, as already critically mentioned, stretch the idea of liquidity to embrace “the rapidity with which the wealth embodied in (capital equipments) can become ‘liquid’ in the sense of producing output, the proceeds of which can be re-embodied if desired in quite a different form”. Since, in pre-industrial revolution times, everything quite visibly proceeded from the output of the land, land would certainly fit this sort of definition, but as shown above liquidity defined circularly as a rapidity of conversion to liquidity implies that liquidity is being used in two different senses.

[Later, 2.4.2001. While not needing to cite an authority for something as obvious as “everything quite visibly proceeded from the output of the land”, it just happens that I saw the other day a quotation of Gibbon (around 1780) in the Oxford Dictionary of Quotations – “all taxes must, at last, fall upon agriculture”.]

It may be that Keynes is in some very obscure way reflecting to some extent what I have said above, namely something like:- “Land was once the ultimate and sole source and measure of wealth; then there was an intermediate period when land shared with gold and silver its quality of embodying wealth; but, at the present day, land, gold and silver have all been superseded by paper money of various kinds as a measure of wealth ‘in the minds of wealth owners’.” If so, it is as far as can be imagined from what he is actually saying, because my formulation has nothing whatever to do with liquidity, and my “paper money” is a universe of which Keynes’s “money” is a tiny sub-set. However, my formulation does resonate with Keynes’s in noting a “resemblance” between today’s money and yesterday’s land.

So let’s latch on to that, and see if it throws light on Keynes’s:- “The desire to hold land played the same role in keeping up the rate of interest at too high a level which [the desire to hold] money has played in recent times.”

First I note once again that Keynes is far from having shown that interest rates are sticky at over-high levels. He has merely played around verbally with “institutional reasons” for this. But let that pass for the moment. Keynes’s basic theme is that people’s institutional or non-market-driven desire for liquidity, or to have money or cash, keeps interest rates up correspondingly, and so decreases investment and employment. This is a dodgy thesis, but never mind. What would this mean translated into land terms? It would mean that land owners would “overvalue” their land, that they would be reluctant to sell it at a price corresponding to its agricultural output, that their asking price would correspond to a higher yield than is actually the case, that anyone buying it at the asking price would make a loss if he borrowed the money at interest corresponding to the inflated “yield”, but would not notice it as such because this is his “liquidity-premium” for holding his wealth in land. YAROOP!

So it makes perfect sense, except that, if we accept this, we now have a third meaning of liquidity. Nothing now to do with exchangeability, or with stability, but an adjective applied to anything which is for traditional or psychological reasons consistently valued above its actual yield!

I’m still not clear why this overvaluing should depress the accumulation of capital assets. In agricultural terms, this would correspond to spending too much time in producing consumables, i.e., food and clothing, and not enough in building barns, fences and houses, or in making ploughs and carts.

First the mere writing down of this list calls into question Keynes’s assertion that several millennia have produced so little in the way of accumulated capital-assets. What capital assets are there which endure more than a few years, decades, perhaps centuries? The pyramids are still there, because they were more or less structureless piles of stone. Even the Parthenon had to be re-built in modern times. Nothing really remains of the “several millennia” apart from a relatively few ruins. Of still-useable relics, the oldest perhaps are our cathedrals, followed, in some parts of the world (not Japan for example) by dwellings and farm buildings up to say 600 years old. Surely Keynes is simply wrong in implicitly confusing capital-assets with durable assets. Palaces, houses, barns, fences, ploughs, carts, ships, sails, canoes, tools, weapons are not the less capital assets for not being durable. The fact that they have not “accumulated” to our own day is no evidence at all as to whether and in what quantities they once existed, and therefore no evidence at all for Keynes’s thesis.

But let also that pass!

7.2.97 p242

Would the supposed overvaluation of land even notionally have the effect of under-capitalisation, of forcing land owners to use their serf labour in daily production rather than in the building or fashioning of palaces, houses, barns, fences, ploughs, carts, ships, sails, canoes, tools, and weapons? Well, I suppose a Keynesian scenario can be constructed to come to any conclusion. If the average landowner is rather stupid, he could try unavailingly (unavailingly because Keynes’s thesis is that whatever the land-yield, it will inexorably be valued higher “in the minds of wealth owners”) to maximise land-yield by unremitting consumer production, not realising that capital-production would in the longer run give a higher yield.

However, that would not be far from Marshall’s statement which Keynes rubbishes:-

“The accumulation of wealth is held in check ... by the [stupid, unfarsighted?] preference ... for present over deferred gratifications .... their unwillingness to ‘wait’.”

where, if my extra but not out of place words are inserted, it amounts to my stuff above. Keynes’s dismissal of this comes immediately after the stuff directly quoted above.

But in fact Marshall’s statement amounts to little more than a truism, as is seen if it is re-expressed as:-

The observed rate of accumulation of wealth is an indicator of the willingness of people in general to wait. (I.e., if any particular commentator, e.g., either Marshall or Keynes, finds the present rate of accumulation surprisingly small, then he is ipso facto finding that people’s willingness to wait is surprisingly small).

Keynes might quarrel with Marshall that Marshall’s non-waiters are spending on consumption, whereas his liquidity-loving agents are not spending at all. And that is a substantive difference. But if this is his bone of contention, then he must explain what is the analogue of this “hoarding” of money for his “land owners in former times”. What is hoarding of land? Leaving it fallow? Leaving his serfs partly unemployed or under-employed?

Well, enough of all that. As a polemicist, Keynes would love the spectacle of the bulk his audience going away impressed and convinced, leaving behind a handful of dry old critics saying weekly “Er - one moment - er - what exactly did you mean by that?” He is off and away on his next performance.

I still have to consider the text intervening between my two quotations above.

This text merely remarks on the absence of a land-analogue for the own-interest rate of money. He speculates that the mortgage rate for land purchase might play this role, and remarks without evidence that this “often” exceeded the land-yield, and this “may well have had” the effect of reducing capital investment. So, by omitting this so far, I’m not omitting much. So on to the next bit.

Section VI p242

He starts off, as in the above, in Keynes-mock-modest mode. “If there is any such rate of interest, which is unique and significant, it must be [note the progressive strengthening of language] the rate which we might term the neutral rate of interest, namely, the ... rate ... which is consistent with full employment”. He has said just before this that for every rate of interest there is corresponding level of employment, and that he had “overlooked” this when he wrote his Treatise on Money.

He then says that classicists had assumed:-

Either r “always” mediates between savers and entrepreneurs

or “always” maintains employment at “some specified constant” level.

How anyone can say A is always B, or always C, I do not know, but Keynes does not gag. Without a pause, he breathtakingly proceeds:-

“If the traditional theory is thus interpreted [nothing in his language gave the impression he was interpreting rather than re-stating], there is little or nothing [!] in its practical conclusions to which we need [!] take exception.” [!!!! plus YAROOOOH!]

So, after going on for whole chapters about the errors of classicists on “Employment and Interest”, which are after all two of the three themes in the title, he re-states their theory in five self-contradictory lines, without a glance at “liquidity”, and then blithely says that it is perfectly OK by him! Nor does he go on with a “but ...”.

With that he effectively (I hope) ends his revolutionary book! For the next chapter is entitled:-

Chap 18 The General Theory Re-stated

If that title does not denote the effective end of the book, I do not know, although there are still 154 pages physically to go after this chapter (56 on Money-wages and Prices, 100 or so on “Short Notes”). Moreover, this Chap is only 10 pages long, just enough, I hope, for a much needed pithy and compelling final driving-home of Keynes’s thesis.

OK. For once, I have read through before making notes. This chapter seems, on first impression, to be extremely low-key, subdued, modest, uncomplicated, un-rhetorical! Not a purple passage, or a convoluted murky brown passage, anywhere. No brickbats seen, on first sight, hurled at the classicists. And, extremely odd, no very strident message or prescription. So, after all that, what exactly does it say?

The given, or slow-changing:-

Quantity of labour

Skill of labour

Amount and quality of plant

Know-how

Level of competition

Tastes and habits of consumers

Strength of desire to work

Quality of management

Social structure

Forces determining income distribution

(said to be determined by the above) Business optimism

Independent variables, or fast-changing:-

Either

Propensity to consume

Schedule of marginal efficiency of plant

Interest rate

Or, “ultimately”

3 psychological factors

- propensity of consume [eh?]

- desire for liquidity

- business optimism [eh?]

wages level

quantity of money

(seems an odd either/or to me)

The above given factors, and independent variables “mainly” determine the:-

Dependent variable:-

Volume of employment (total and in different sectors) and hence national income.

Section II p247

This section, of about one and a half pages, is the “summary”! Here goes.

Given the value of r, one of the independent variables, investment will rise until plant prices have risen enough for prospective yield to diminish to r. (Note:- this is not the usual story, which is that the “schedule” of projects arranged in order of decreasing prospective yield is creamed off at the yield=r point.). In any case:- investment until marginal yield equals r. OK. Keynes re-states this using only a selection of alternative independent variables, namely, business optimism, desire for liquidity, quantity of money, plus an additional one, namely “conditions of supply in the capital goods industry”. Essentially, the first and last determine the project schedule, the middle two the interest rate, hence all 4 determine the investment rate. OK.

However, as investment goes up towards this equilibrium, income must increase, and consumption must increase, but not so fast, governed by the marginal propensity to consume. The “investment multiplier” (k) is the ratio between how much investment (I) goes up, and how much income (Y) goes up:-

1/k = dI / dY k > 1

I think Keynes’s cryptic words which follow mean that if the men employed by dI is NI, then the number of men employed all over is NI / k, the famous multiplier effect.

However ... if employment goes up, the desire for liquidity will go up. Why? Because not only will there be more transactions, but they will take place at enhanced prices, due to the boom. So r will tend to rise. All very complicated says Keynes, and the more so in that all thes