The Online Library of Liberty

A project of Liberty Fund, Inc.

• Acknowledgements
• Part One: Introduction
• Walter E. Grinder, In Pursuit of the Subjective Paradigm: Walter E. Grinder
• Austrian Economics In the Present Crisis of Economic Thought
• Part Two: Setting the Stage
• The Significance of the Austrian School of Economics In the History of Ideas
• The Role of Expectations In Economics As a Social Science
• Professor Shackle On the Economic Significance of Time
• The Science of Human Action
• Model Constructions and the Market Economy
• Part Three: the Market Process
• Some Notes On Economic Thought, 1933–1953
• Methodological Individualism and the Market Economy
• Economics As a Social Science1
• Ludwing Von Mises and the Market Process
• Part Four: Problems In Macroeconomic and Capital Theory
• Complementarity and Substitution In the Theory of Capital
• Mrs. Robinson On the Accumulation of Capital
• Sir John Hicks On Capital and Growth: (review Article)
• Sir John Hicks As a Neo-austrian: (review Article)
• A Reconsideration of the Austrian Theory of Industrial Fluctuations
• Part Five: On Economic Policy
• Causes and Consequences of the Inflation of Our Time
• The Market Economy and the Distribution of Wealth
• Cultivated Growth and the Market Economy
• Appendix: Economic Writings of Ludwig M. Lachmann

The Role of Expectations in Economics as a Social Science

1.

In modern theory the introduction of expectations has opened new vistas to the economist and, at the same time, set him a new problem. It has made him realize that economic action concerned with the future, so far from being strictly determined by a set of objective “data,” is often decided upon in a penumbra of doubt and uncertainty, vague hopes and inarticulate fears, in which ultimate decision may well depend on mental alertness, ability to read the signs of a changing world, and readiness to face the unknown. But it has also compelled him to reflect on the causal explanation of expectations, to ask himself why they are what they are. This problem bristles with difficulties.

Given this fact and the natural proclivity of every science to become more limited in scope as it grows more conscious of its premises, it was perhaps inevitable that economists confronted with this problem should have attempted to dispose of it by relegating expectations to the category of “data” alongside with wants, resources, and the technical facts of production. This line was in fact taken by Lord Keynes,1 Dr. Morgenstern,2 Professor Myrdal,3 and Dr. Rosenstein-Rodan.4 But it is readily seen that expectations must feel ill at ease in this company. What entitles us to treat wants and resources as data and disinterest ourselves in their causal derivation is the simple fact that qua economists we have nothing to say about them. Why the geographical distribution of mineral resources is what it is, why the cinema-going public of the 1930s preferred moving pictures directed by René Clair to moving pictures directed by Ernst Lubitsch, are in themselves interesting questions, but the economist has no answer to them. Expectations, on the other hand, are on a somewhat different plane as they are, while wants and resources are not, largely the result of the experience of economic processes. It is therefore hardly surprising that the treatment of expectations as data, the explanation of which is not the task of the economist, should have given rise to strong protests. Outstanding among the critics are Dr. Lundberg and Professor Schumpeter.

Reprinted from Economica 10 (February 1943).

“It is sensible to link actions with expectations,” states Dr. Lundberg, “Only if the latter can be explained on the basis of past and present economic events. Total lack of correlation here would mean the complete liquidation of economics as a science. Not even an assumption of certain anticipations as given and an analysis of consequent plans and actions on the basis just mentioned would have the slightest interest.... In every process of economic reasoning we therefore have to make certain assumptions, often not specified, concerning the relations between expectations on the one hand and current or past prices, profits, etc., on the other.”5

“Expectations cannot be used as part of our ultimate data in the same way as taste for tobacco can,” writes Professor Schumpeter. “Unless we know why people expect what they expect, any argument is completely valueless which appeals to them as causae efficientes. Such appeals enter into the class of pseudo-explanations which already amused Molière.”6 “If we discontinue the practice of treating expectations as if they were ultimate data, and treat them as what they are—variables which it is our task to explain—properly linking them up with the business situations that give rise to them, we shall succeed in restricting expectations to those which we actually observe and not only reduce their influence to its proper proportions but also understand how the course of events moulds them and at certain times so turns them as to make them work toward equilibrium.”7

Unfortunately, however much we may agree with the point of view of these authors, it is not easy to carry out their proposals which are by no means unambiguous. In order to link up expectations “with the business situations that give rise to them” we must first of all define a “business situation.” If we define it in objective terms (as a combinatin of prices paid, quantities produced and sold, etc.) we soon find that the relationship between business situations and expectations is not uniquely determined as the same “business situation” may give rise to various kinds of expectation. A price rise, for instance, may lead to expectations either of a future fall, if the people in the market have some kind of “normal level” at the back of their minds, or of a future rise, if inflationary forces are suspected to be at work. If, on the other hand, we define “business situation” in subjective terms, viz. as the interpretation which the people give to the objective facts, there will be as many “business situations” as there are different interpretations of the same facts, and they will all exists alongside each other.

The absence of a uniform relationship between a set of observable events which might be described as a situation on the one hand, and expectations on the other hand, is thus seen to be the crux of the whole matter. Expectations, it is true, are largely a response to events experienced in the past, but the modus operandi of the response is not the same in all cases even of the same experience. This experience, before being transformed into expectations, has, so to speak, to pass through a “filter” in the human mind, and the undefinable character of this process makes the outcome of it unpredictable. We provisionally conclude that expectations are the result of a variety of factors only some of which are observable events, and only some of which are of an economic nature. It follows that they have to be regarded as economically indeterminate and cannot be treated as “variables which it is our task to explain.”

Under these circumstances, what can the economist do but construct various hypothetical types of expectations conceived as responses to various hypothetical situations, and then leave the process of selection to empirical verification in the light of economic history? Several such “ideal types” either of expectations, like Lord Keynes' “long-term” and “short-term” expectations, or of the holders of expectations, like Professor Schumpeter's “static producer” and “dynamic entrepreneur” or Professor Hicks's “sensitive” and “insensitive” traders, have already been evolved and served to elucidate important dynamic problems. This is a most promising field of research and much progress can be achieved along this line. It seems to us, however, that it is possible to carry the general theory of expectations a stage farther, and to the demonstration of this possibility the present paper is devoted.

The next step in the study of expectations, to be sure, has to consist in evolving hypothetical “ideal types” and testing them in the light of economic history. But it cannot be emphasized too strongly that if these efforts were to be confined to the study of relations between objective facts and expectations they would be quite useless. The Social World consists not of facts but of our interpretations of the facts. Nothing will be achieved in the way of an inductive study of expectations until people's expectational responses to the facts of a situation are made intelligible to us, until we are able to understand why the acting and expecting individuals interpreted a set of facts in the way they actually did. From this point of view we need not deplore unduly the indeterminateness of expectations, for it is intelligibility and not determinateness that social science should strive to achieve.

We have now reached a point at which it must be evident that we are facing a fundamental issue in the methodology of economics, and of social science in general. The intricacy of our problem is derived from the inadequacy of the traditional methods of analysis in a case of indeterminateness. Before we can pursue our study of expectations any further we shall have to reconsider some of the first principles of economic analysis.

2.

All human action is directed towards purposes. Hence, As Professor Knight has repeatedly reminded us in recent years, all human activity is problem-solving. Man, before setting out on his course of action, has to make a plan embodying the means at his disposal and the obstacles he is likely to encounter, otherwise his action is not (rational) conduct but (non-rational) mere behaviour. Before starting on his way he tries to chart the path leading to the achievement of his purpose in the topography of his mind. If we say that we wish to “explain” an action, what we mean is not merely that we wish to know its purpose, but also that we wish to see the plan behind the action. Plan, a product of the mind, is both the common denominator of all human action and its mental pattern, and it is by reducing “action” to “plan” that we “understand” the actions of individuals. Plan is the tertium comparationis between our mind and the mind of the person who acts.

In economic action the problem to be solved is to devise a plan for the allocation of scarce resources to alternative wants in such a way as to maximize satisfaction. Equilibrium theory, which studies the problem and its implications, teaches us that, for each individual at least, the problem has a determinate solution. And since the elements of the plan are quantifiable, if not measurable, the problem and its solution can be illustrated more mathematico. However, that a problem has a determinate solution does not entail that those attempting its solution will actually succeed, otherwise there would be no failures in examinations or in business. A plan may fail, of course, for almost any number of reasons. For instance, it may have been faulty from the beginning because of lack of consistency between its various elements; or, while it was perfectly consistent, unexpected obstacles may have been encountered in the course of its execution of which it had failed to take account; or the planner may have misjudged the extent and efficiency of the resources at his disposal. It will be noted that in the second and third instance, but not in the first, failure is due to wrong expectation. Expectations therefore take a prominent place in the theory of economic action; but thus far such a theory does not exist.

It has to be admitted that hitherto the scope of economic theory has been unduly restricted to the formal characteristics of the economic problem and its implications. Equilibrium economics (what Professor Hayek has termed “The Pure Logic of Choice”) studies the full implications of a set of data, the “conditions of equilibrium”; it does not study the ways in which these logical implications are translated into human action, which is thus conceived as a quasi-automatic response to an external “stimulus.” But in the theory of economic action no such mechanistic preconception is admissible, a point which the introduction of expectations brings out with all necessary clarity. Unfortunately, the Pure Logic of Choice has filled the minds of economists to such an extent that the study of the actual means and ways by which men try to realize their aims has come to be sadly neglected.8 Economists, not unnaturally, prefer to do their field-work in a pleasant green valley where the population register is exhaustive and everybody known to live on either the right or the left side of an equation. Only on rare occasions—and scarcely ever of their own free will—do they embark on excursions into the rough uplands of the World of Change to chart the country and to record the folkways of its savage inhabitants; whence they return with grim tales of horror and frustruation. Traces of such folklore can be found in the touching Swedish saga of the unhappy partnership of Ex Ante (the plan) and Ex Post (the outcome of action).

Needless to say, if our attention is thus confined to the formal characteristics of the economic problem, if our approach remains “functional” rather than “causal-genetic,” we shall not only be unable to find explanations for failure to solve the problem, but also be in no way equipped to deal with characteristic instances of failure, like crises and misinvestment; hence, the peculiar helplessness of equilibrium theory in front of trade cycle problems. Whenever confronted with such problems, we shall almost inevitably be biased in favour of an explanation which runs in terms of initial inconsistency of, at least some, plans, for consistency is precisely one of those formal characteristics which we are best trained to investigate. A typical example of this is the explanation of industrial fluctuations which is currently in fashion. Such fluctuations are regarded solely as variations in the degree of utilization of the resources of Society, and underutilisation is explained by inconsistency between the plans of investment planners and of saver-consumers. We cannot therefore be surprised to learn that such theories have no real explanation for malinvestment and capital losses in investment goods industries, and that one of their favourite assumptions is that all such goods (tin, copper!) are made “to order!”

In the light of these considerations we are now able to view the indeterminateness of expectations in its proper perspective. In a world of imperfect foresight in which no plan can meet all contingencies all human activity is bound to be indeterminate; in this respect expectations are simply non a par with everything else. What may (and in the case of economic activity happens to) be determinate is the problem which this activity seeks to solve, but it does not follow that in this it will succeed; there is, after all, a difference between a problem tackled and a problem solved. Determinateness, we realize, is a possible property of problems; it is not a possible property of human action.

The reader will not, we hope, infer from all this that the Pure Logic of Choice with its equations and its indifference curves is altogether useless. On the contrary, it serves a most useful purpose by making economic activity intelligible to our problem-solving mind. For it is only by reducing the apparently chaotic World of Action to a mental pattern of relative simplicity that our problem-solving mind can comprehend it. All we have to remember is that to describe an action in terms of a problem is, of course, not to say that it will succeed in solving it.

After this long digression we may now return to our study of expectations. It is evident that if so often we fail to solve our problems, in a world of imperfect foresight the chief reason has to be sought in our being misguided by wrong expectations. More particularly will this be so in the economic field, in which the theoretical interest in expectations arose, not by accident, from the study of crises and depressions, the classical instances of failure to solve the problem of the optimum allocation of resources. That expectations are germane to failure is plain enough, but what precisely is the character of their relationship?

We have seen that we need not deplore the indeterminateness of expectations because this quality they share with all other forms of human activity. But, we said, it is the task of social science to make them intelligible. To make an action intelligible means to show not only its purpose, but also the general design of the plan behind it. What, then, are expectations? We saw that all human conduct (as distinct from mere behaviour) presupposes a plan. We now have to realize that, as a prerequisite to making a plan, we have to draw a mental picture of the situation in which we are going to act, and that the formation of expectations is incidental to the drawing of this picture. Such a picture of the situation will be drawn differently by different individuals confronted with the same observable events in accordance with psychic differences such as temperament, but the degree of variation between them does not entirely depend on psychic factors. In a stationary world in which the same observable events continually recur this degree of variation would be small although, owing to the psychic factors, it probably never would reach zero. But in a World in Motion it must be large, chiefly among other reasons because here every view of a situation necessarily implies a judgment on the character of the forces producing and governing motion. Two farmers confronted with the same observable event, a rise in apple prices, will yet take different views of the situation and react differently if one interprets it as a symptom of inflation and the other as indicating a shift in demand under the influence of vegetarianism.

The upshot of all this is, of course, the familiar proposition that observable events as such have no significance except with reference to a framework of interpretation which is logically prior to them. From this there follow two conclusions, a narrower one concerning expectations, and a broader one pertaining to the formulation of the economic problem in a dynamic World.

As to the first, our argument appears to shed some light on the nature of the “filter” which, as we learned, forms the link between observable events and expectations. We now know that, while it remains true that our expectations for the future are a response to our experience of the past, the mode of our response is largely governed by our interpretation of this experience. In a World of Change this interpretation is bound to reflect strongly what we believe to be the major forces operating in this World, causing and governing change. We now realize that ultimately it is the subjective nature of these beliefs which imparts indeterminateness to expectations as it is their mental nature which renders them capable of explanation.

Our second conclusion points to the desirability of a dynamic revision of the formulation of the economic problem. The problem is usually stated in terms of (objective) “resources” and (subjective) “wants.” In a stationary World these terms may have an unambiguous meaning, but in a dynamic World what is a resource depends on expectation, and so does what constitutes a want worth satisfying. In a properly dynamic formulation of the economic problem all elements have to be subjective, but there are two layers of subjectivism, rooted in different spheres of the mind, which must not be confused, viz. the subjectivism of want and the subjectivism of interpretation.

3.

We have now reached a point at which we may pause and look around for an opportunity to test the efficacy of our newly forged analytical tools. Ultimately, of course, the only satisfactory test of any theoretical construction is the light it sheds on some segment of reality, it making an otherwise incomprehensible set of facts intelligible to us. Such a test will be applied in the concluding section, but prior to it we shall embark on another one of a somewhat different nature. In the light of the knowledge thus far gained we shall examine Professor Hicks's concept of “elasticity of expectations.” Considering the prominent place which this notion has come to occupy in the analytical apparatus of up-to-date economic theory, it should provide us with a suitable starting-point from which to measure whatever further progress it may be possible to make by the help of other devices. The purpose of our test is to see whether the lamp we have constructed is capable of throwing light on corners of the problem of expectations which the lighting apparatus hitherto in use had left dark.

In dealing with expectations Professor Hicks wisely refrains from seeking determinateness. He distinguishes between the influence of current prices on expectations and, on the other hand, all other influences the effects of which are labeled “autonomous changes,” Neglecting the latter he concentrates on the former type of influence. But seeing that “that influence may have various degrees of intensity, and work in various different ways”9 we realise that we need a criterion of classification, and it is for this rôle that the “elasticity of expectations” is cast.10 Its great merit is that by making it unnecessary to postulate a once-and-for-all uniform relationship between changes in current prices and expectations it enables us to deal with variable forms of this relationship. Its defect, we believe, is that, being a measure, it cannot tell us why this relation should take these variable forms any more than the most elaborate thermometer can tell us the causes of the fever from which the patient is suffering. However, for the greater part of his study of dynamic equilibrium Professor Hicks is content to make less than full use of the potentialities of his weapon and to assume the elasticity to be unity; he is in fact assuming a uniform relationship, and as long as he does this the defect mentioned does not cause much harm. But as soon as, in his discussion of wage rigidity, he abandons this restrictive assumption and allows for variations in this relationship, he apparently becomes conscious of the defect and feels compelled to give some kind of causal explanation of the forms which these variations may take. Unfortunately, however, the study of these variations is immediately restricted to those existing simultaneously between different groups of persons, after which it is not surprising that the causal explanation runs in terms of a spurious brand of “group psychology.” It is sought in the greater or smaller “sensitivity” with which different people react to identical present changes.11

It is not easy to attach any precise meaning to these terms. Does Professor Hicks seriously maintain that the same individual confronted with the same kind of change will invariably react in an identical—and incidentally, predictable—manner? Only such invariability of reaction would entitle us to use intensity of reaction as a criterion of classification. If, on the other hand, we allow for changes over time in the “sensitivity” of individuals, and thus for changes in the composition of the two groups, is it not precisely our task to explain these changes? Since there can be little doubt that in fact men's expectational reactions to change are subject to wide fluctuations, we have to find a principle informing us in accordance with what these reactions vary. There may be numerous reasons, but it would seem that they can all be reduced to the simple fact that men's reactions to identical observable events will vary if for any reason these come to have a different meaning to them. The conclusion suggests itself that whether a given price change—or, for that matter, any other observable event—will at different times give rise to identical expectations will largely depend on the way in which people interpret it. Interpreting an event means to fit it into a picture of the “situation,” a concept of a structure which serves as framework of reference. It follows that the “elasticity of expectations,” if it is not to lead us into having to accept absurdities like an invariant “sensitivity,” itself requires interpretation in the light of our argument.

4.

By now the reader will probably have grown impatient to see our theory of economic action go into action. We said above that ultimately the only satisfactory test of a theoretical construction is its capability of throwing light on what otherwise must remain dark corners of reality. We now propose to test the method we advocate by showing its usefulness in elucidating a problem which has loomed large in recent controversies on the rate of interest; we shall thus be concerned with interest-expectations, not with price-expectations. But before testing it let us briefly summarise the position we defend.

All human action is directed towards purposes and therefore requires a plan. Plans are not made in vacuo, and the planner has therefore to draw a mental picture of the situation in which he will have to act, of the constellation of circumstances which he cannot, or at least thinks he cannot, change and which to him are “data.” We assert that the formation of expectations is incidental to, and derives its meaning from, this activity of the mind, and we therefore conclude that expectations have to be interpreted with reference to the situation as a whole as the expecting individual sees it.

The problem we shall discuss refers to the influence of expectations on the rate of interest. It is not our intention to take part in any of the numerous and fierce controversies which have of late raged on the theory of interest. On the contrary, we take as our starting-point a proposition which we believe to be entirely beyond controversy; that interest-expectations are one of the factors influencing the rate of interest. It is perhaps not unprofitable to insert here a brief sketch of the evolution of this idea in modern economic thought. It was introduced by Lord Keynes who used it as the main pillar to give shape and concreteness to his liquidity preference curve the negative slope of which could not otherwise be convincingly demonstrated.12 It was further elucidated by Mr. Durbin, who pointed out that “large stocks of securities, just as much as large stocks of commodities, constitute a continuous and serious threat to monetary equilibrium, and the existence of stocks of securities is inevitable in a way that that stocks of commodities are not,”13 for the larger stocks are relative to current output the wider the scope for speculative price fluctuations and the smaller the influence of long-run supply on market price. Mr. Harrod drew the important practical conclusion that in a capital market which has a very definite expectation about the future rate of interest “it seems improbable that banking policy, however inspired and well informed, could secure a sufficient fluctuation in long-term interest rates to ensure a steady advance,”14 as at rates lower than the expected the supply of securities would tend to become almost infinitely elastic. Professor Hicks does “not believe that we can count upon anything more than a small elasticity of interest-expectations.”15 “When the rate of interest (any rate of interest) rises or falls very far, there is a real presumption that it will come back to a ‘normal’ level. This consideration would seem to prevent interest-expectations from being very elastic.”16 But to the extent to which expectations are inelastic other influences on the current rate will grow correspondingly weaker. In Dr. Thomas Wilson, its latest exponent, the idea that the long-term rate of interest is largely fixed by “speculation” in the capital market has almost assumed the character of a major economic principle and been made the cornerstone of a trade cycle theory.17

We do not question the occurrence of inelastic interest expectations, but it is a corollary of our argument that we have to insist on an explanation of such occurrences. It is already a little surprising that while what in common parlance are described as “speculative markets” are mostly characterized by wide and frequent price fluctuations, “speculation” is here held responsible for price inflexibility. But so far this merely goes to show that “speculation” may be a misnomer for the phenomenon under discussion. More significant is that, almost under our hands, the proposition that expectations are one of the factors influencing the rate of interest has changed into the proposition that if expectations are inelastic none of the other factors will have a change to influence the result, because with a highly elastic supply of securities the other factors may influence the volume of sales but cannot affect price. This already suggests that unless the rate of interest is to be “left hanging by its own bootstraps” the other factors must somehow already be taken into account by the expectations. Furthermore, if the case of inelastic interest-expectations has such far-reaching consequences it clearly is our task to investigate what causes such expectations.

A little reflection will show that if in a market a strong increase in demand does not lead to any appreciable rise in price, not only must supply be extremely elastic, but where large stocks are the cause of this elasticity, holders of stocks must have a reason for selling out. They clearly will do it only if they have reasons to believe that the present strong demand is not only of an exceptional but of a transitory nature, and that for this very reason price will in the long run not be affected by it. If we apply this reasoning to the capital market we find that interest-expectations are most likely to be inelastic in a situation in which the capital market, that is to say, the majority of holders of securities, does not believe in the permanence of the forces exerting pressure on the market and hopes later on to be able to “re-stock” cheaply. It follows that if we find a case in which increased savings do not cause any appreciable fall in the rate of interest this indicates that the capital market has its suspicions—which may turn out to be entirely unjustified—about the permanent character of this sudden increase in the demand for securities. We are now able to understand the meaning of the “normal level” in the minds of people whose expectations are inelastic: this is a level determined by what are believed to be permanently operative forces. A market will exhibit inelastic expectations only if it believes that price is ultimately governed by long-run forces, and if it has a fairly definite conception of what these forces are. A capital market with inelastic interest-expectations is then a market which refuses to be impressed by present-day demand for securities which it believes to be short-lived. If therefore in a depression we find the long-term rate of interest remaining relatively inflexible this indicates that, rightly or wrongly, the capital market believes in the continued existence of investment opportunities yielding marginal profit at the former level, investment opportunities which the depression may have obscured but which it has not obliterated. For the same reason, in such a case, as Mr. Harrod predicted, an attempt to put the bond market under pressure by means of open-market operations is likely to prove a failure.

Finally, we always have to remember that whenever we observe large transactions taking place at little price change this indicated a case of conflicting expectations. It is scarcely necessary to remind the reader that we are here concerned solely with explaining a certain class of expectations, not with judging them in the light of ex post knowledge which the expecting individuals did not possess. It is indeed fairly obvious that in a dynamic economy with rapid technical progress and wide and frequent income fluctuations all expectations based on the prevalence of long-run trends must be of a somewhat problematical character, but to our present problem this is strictly irrelevant.

If inelastic expectations are really as frequent and important as some writers would have us believe, an interesting problem arises with regard to the interpretation of Wicksellian theory, more particularly in its Austrian version. According to this doctrine booms and slumps are engineered by banks lowering the “money rate of interest” below its “natural level,” or raising it above it. Whatever the precise meaning of these terms, we now know that if banks are to succeed in altering the long-term rate of interest, expectations have to be very elastic. Seen from this angle, the Wicksellian theory appears to be based on a very special assumption, viz. of a capital market without a very strong mind of its own, always ready to follow a lead on the spur of the moment, and easily led into mistaking an ephemeral phenomenon for a symptom of a change in the economic structure. Without fairly elastic expectations there can therefore be no crisis of the Austro-Wicksellian type. But again, before we can accept this theory we are entitled to hear an explanation why elastic expectations should be prevalent. Such a gullible capital market we should expect to find in an economy the structure of which is still highly fluid and in which long-run forces have not yet had time to take shape. We tentatively suggest that such a state of expectations may be typical of an economy in the early stages of industrialization, or of an economy undergoing “rejuvenation” owing to rapid technical progress.

In reality, of course, expectations of greatly varying degrees of elasticity are met with. It may be possible to reconcile apparently irreconcilable theories by reducing their differences to different assumptions about the prevailing type of expectation. But the story does not end here. In a World of Change no one type of expectation can be relied upon to provide stability. Neither a gullible capital market nor an obstinate one, nor, we may add, any intermediate variety is in itself a bulwark against crises of every kind. They each provide us with protection against some afflictions while leaving us unprotected against others. To investigate in what conditions what type of expectations is likely to have a stabilising or destabilising influence is no doubt one of the next tasks of dynamic theory. We submit that it cannot be successfully tackled unless expectations are made the subject of causal explanation.

NOTES

[[1]]At least for the “state of long-term expectation,” General Theory of Employment, Interest, and Money (New York: Harcourt, Brace & World, 1936), pp. 147–49.

[[2]]“Vollkommene Voraussicht und wirtschaftliches Gleichgewicht,” Zeitschrift für Nationalökonomie 6 (September 1935):

[[3]]Monetary Equilibrium (London: W. Hodge & Company, 1939).

[[4]]“The Coordination of the General Theories of Money and Price,” Economica 3 (August, 1936): 257–80.

[[5]]Erik Lundberg, Studies in the Theory of Economic Expansion (Stockholm and London: P. S. King & Son, 1937), p. 175.

[[6]]J. A. Schumpeter, Business Cycles, 2 vols. (New York: McGraw Hill, 1939), 1:140.

[[7]]Ibid., p. 55.

[[8]]Fortunatley not without exception. While, for instance, equilibrium theory takes the shape of production functions for granted. Professor Schumpeter's theory of Innovation, which is really a theory of entrepreneurial action, explains how in the course of economic development one production function comes to supersede another.

[[9]]J. R. Hicks, Value and Capital (Oxford: Clarendon Press, 1959), p. 205.

[[10]]“I define the elasticity of a particular person's expectations of the price of commodity X as the ratio of the proportional rise in expected future prices of X to the proportional rise in its current price.” Ibid., p. 205.

[[11]]“Some people's expectations do usually seem to be in fact fairly steady; they do not easily lose confidence in the maintenance of a steady level in the prices with which they are concerned; so that, when these prices vary, their natural interpretation of the situation is that the current price has become abnormally low, or abnormally high. But there are other people whose expectations are much more sensitive, who easily persuade themselves that any change in prices which they experience is a permanent change, or even that prices will go on changing in the same direction.” Ibid., p. 271.

[[12]]General Theory, pp. 168–72.

[[13]]E. F. M. Durbin, The Problem of Credit Policy (London: Chapman & Hall, 1935), p. 103.

[[14]]R. F. Harrod, The Trade Cycle (Oxford: Clarendon Press, 1936), pp. 124–25.

[[15]]J. R. Hicks, op. cit., p. 282.

[[16]]Ibid., p. 262.

[[17]]Th. Wilson, Fluctuations in Income and Employment (London: I. Pitman, 1948), Ch. II, pp. 16–26.