First Response to Comments

     

I am genuinely grateful for the kind and generous comments that I have received from three of the most eminent scholars in the world on John Stuart Mill. We obviously cannot agree on everything, but we are certainly seeing the world in a very similar way. I would therefore like to extend their thoughts in a number of directions, recognizing that not everyone will agree with me here. But agree with me or not, these are what I think are the main issues.

The first for me is to note that Say’s Law is the central economic issue of our time. Prior to the publication of The General Theory, every economist agreed with Mill that demand deficiency was never the cause of recession. They also all perfectly well understood that recessions were all too frequent and led to high rates of involuntary unemployment. What Say’s Law said to them was never to think that the cause of recession could be found in too little spending or in oversaving. Such beliefs were the province of cranks. No one who had understood the nature of economies or how they worked would ever have believed such a thing. Modern macroeconomics is a classical economic fallacy.

This issue cannot be emphasized enough. There will, no doubt, be many who read these words and either disagree because they follow Keynes in believing an economy can enter recession because there is too little demand. Or there will be those who, even if they do agree that demand deficiency does not cause recessions, fail to see the significance for policy in the denial of variations in demand as the cause of variations in the level of activity. There are even those who, incredibly, cannot even understand that there are other reasons that an economy might go into recession that have absolutely nothing to do with variations in the level of aggregate demand.

The global financial crisis was not caused by a fall-off in demand, nor for that matter has any other recession at any time in history been caused that way. It was indeed a global crisis, but only in the United States was the cause domestic. It was only in the United States that the distortions that had been fed into the housing market by a series of government decisions overflowed into massive mortgage failures and a seizing up of credit. This was clearly unrelated to a Keynesian version of events where individuals chose not to spend but to save instead, so that the economy slowed with consequent multiplier effects.

But even more so than in the United States is it impossible to blame the downturn on higher saving and a fall in demand. There could have been no domestic policy anywhere so perfect that their economy would not have been disrupted by the sudden freezing of credit on a global scale. If you lived in Asia or Europe, it is impossible to think of the cause of the recession and the rise in unemployment in any Keynesian way. Yes, certainly, one can say that once the problems had occurred, there was falling demand, but that is what all recessions look like. But to mistake the symptoms for the cause, and then treat the symptoms and not the cause, is a massive failure in policy.

The world’s economies are not suffering from the effects of a fall in demand. They are suffering from the effects of the spending policies Keynesian theory tells governments to pursue if economies enter recession. It is debt and deficits that are the problem, not a financial system that is refusing to provide business credit. In fact, it is more than just the debt and deficits, but the entire structure of production of our economies, which have been badly distorted by government spending. Our entire supply chain - something never examined in a Keynesian model - is badly out of alignment with the demand for not just final goods and services, but throughout the entire economy, as one supplier after another, whose businesses had been “stimulated” by public spending, finds its sales are insufficient to maintain their current level of production.

This is what every economist before Keynes understood. Since demand deficiency is not the cause of recession, but only its symptom, then an economy cannot be resurrected from the demand side. They would all have understood that the stimulus could not possibly have worked to bring recovery and a return to full employment. Certainly there has been no recovery in any but a perfunctory sense, and there has not been a return to full employment anywhere. What is still hard for many to appreciate is that the nonrecovery was fully foreseeable using classical theory.

The second thing I wish to emphasize is that Mill’s best and most complete discussion of Say’s Law is found in his Principles. Mill’s essay “Of the Influence of Production on Consumption” is only a partial statement. The full statement of his views are scattered over many parts of his Principles, found in specific chapters in Book I, Book II, and Book IV.[35] In particular, I am grateful to Professors Ebeling and Capaldi for drawing attention to Mill’s Four Propositions on Capital, and in particular, the fourth, which is the categorical denial of all modern macro. Mill wrote: “demand for commodities is not demand for labour.” What Mill and virtually all economists prior to Keynes understood, because of the way they approached the operation of an economy, was this: an increase in aggregate demand will not lead to an increase in total employment.

Nicholas Capaldi has provided Mill’s four propositions from Book I, Chapter 5. The last proposition, at the time Mill wrote, needed virtually no emphasis to an economically literate audience of his time. Writing in 1848, Mill and his countrymen had just been through the first attempt to institute a Keynesian solution based on a prototype Keynesian theory that had been devised by Robert Malthus. Malthus had argued, publishing his own Principles in 1820,[36] in exactly the same way that Keynes would do, that recessions are caused by demand deficiency. This set off what is known as “the general glut debate,” a glut being the term they would use for what we call excess supply. Everyone agreed you could have a particular glut, excess supply of some particular good or service. But they also agreed that there could not be a general glut, an excess supply of everything. It was not until the publication of The General Theory that this settled conclusion would be overturned. When Mill writes that demand for commodities is not demand for labour, he is stating what everyone by then had concluded to be absolutely valid.

But let me take you to the second of Mill’s propositions, which is now almost never mentioned within macroeconomics. It is that saving is what drives investment and growth. The more savings an economy generates, the faster it will grow. Modern macro has concluded that the largest problem during recessions is that we are saving too much. No economist is taught that the problem might be that our savings are being directed into non-value-adding areas of production. They are taught that there is too much saving going on and the imperative is for governments to blow away those excess savings on anything at all. It doesn’t matter what, really. Productive is better, they say. But the need is to burn off those savings, which is why we end up with government-driven waste as the answer to a downturn.

No pre-Keynesian economist would have been so ignorant of the way in which an economy worked to have believed any such thing. It ought to be obvious nonsense that such an approach can lead only to the very kinds of problems we have today: slow growth, stagnant real incomes, and  high unemployment. What a classical economist would have understood more than anything else was that burning away our saving in the way we have will leave us much less well off than we might otherwise have been.

These are technical issues that are no longer addressed by economists. Instead, those who think Say’s Law is valid and crucial are treated as if they do not care about the unemployed or the poverty that recessions and slow growth cause. In actual fact, it is the Keynesians who are blind to the realities of the market and the way in which economies work. It is they whose policies are now a blight in every economy in the world. It is our mainstream Keynesian macro, which tells governments that more of this G spending will hasten recovery and lower unemployment, that is ruining lives.

Mill is almost impossible to read today because his economic presuppositions are so different from our own. But his economics is the economics that may still be found in the classical theory of the cycle, which disappeared in 1936. But it is to this economics that we must return - summarized conveniently in Haberler’s Prosperity and Depression,[37] published the year after The General Theory. We can go on as we are, ruining our economies with Keynesian fallacies, or we can return to the classical theory of the cycle. You cannot prevent recessions from happening from time to time, but at least in this way we will know what to do whenever they arrive.

[35.] [The specific chapters in Book I, Book II, and Book IV will be cited later.]

[36.] See, Thomas Robert Malthus, An Essay on the Principle of Population, or a View of its Past and Present Effects on Human Happiness; with an Inquiry into our Prospects respecting the Future Removal or Mitigation of the Evils which it Occasions (London: John Murray 1826). 6th ed. 2 vols. </titles/1944>.

[37.] Gottfried Haberler, Prosperity and Depression: A Theoretical Analysis of Cyclical Movements. Third Edition enlarged by Part III (Lake Success, New York: United Nations, 1946). 1st ed. 1937. reprint of 1943 ed. Available online at the Mises Institute <https://mises.org/system/tdf/Prosperity%20and%20Depression_5.pdf?file=1&type=document>.