Tag Archives: john maynard keynes

Nick ROKE, Thrift, And Hoarding

The new issue of ROKE is out and celebrates 80 years of The General Theory. Nick Rowe has a new paper in the issue titled, Keynesian Parables Of Thrift And Hoarding. Requires access. Nick has a post on his blog where he welcomes comments.

Abstract:

I argue that Keynes missed seeing the importance of the distinction between saving in the form of money (‘hoarding’) and saving in all other forms (‘thrift’). It is excessive hoarding, not excessive thrift, that causes recessions and the failure of Say’s law. The same failure to distinguish hoarding from thrift continues from The General Theory into the IS–LM model and into New Keynesian macroeconomics. On this particular question, economists should follow Silvio Gesell rather than John Maynard Keynes. The rate of interest in New Keynesian models should be interpreted as a negative Gesellian tax (that is, a subsidy) on holding money issued by the central bank.

In my opinion, a part of it, the distinction between what’s called “hoarding” and “thrift” above is not something which Keynesians haven’t considered. In fact, in the sectoral balances approach, it is net lending and not saving whose behaviour is more highlighted.

A sector’s or an economic unit’s saving is defined as its disposable income less consumption expenditure.

S = YD − C

On the other hand, a sector’s net lending is defined as its disposable income less expenditure.

NL = YD − C − I

These things are not as straightforward as they look. Here’s an example. I can be both a saver and borrower. 

Let’s say, I start with no assets/liabilities, earn $1mn in a year, pay taxes of $200,000, have consumption expenditure of $100,000 and buy a house worth $5m by borrowing $4.3m from a bank.

My saving is $700,000 and my net lending is minus $4.3 million [ = ($1mn − $200,000) − $300,000 − $5m].

Of course, the fact that I am a net borrower doesn’t make me poor. My house is worth $5m and I have a liability of $4.3m which implies my net worth is $700,000.

However, my liquidity is low. If tomorrow the economy collapses and I lose my job, I will be in a bad situation. In short, negative net lending (or a negative financial balance) of an economic unit or a sector contributes to financial fragility.

There’s another important point: even though I am a saver, my saving rate is 7/8, I have contributed hugely to aggregate demand. This can happen at a sectoral level as well. So perhaps this is the reason why Nick Rowe makes this distinction.

So if we were to blindly believe in Keynes, we would have concluded wrongly by just looking at the saving rate. But it is a matter of emphasis: economists make ceteris paribus arguments and I do not think Keynes didn’t understand this. He was perhaps holding everything else constant and changing the propensity to consume to highlight an important fact. But in real life ceteris is never paribus. What Keynes was arguing was that saving is not necessarily a good thing at the macro level.

Back to sectoral balances. Since, a sector’s (such as the household sector’s) negative net lending (or negative financial balance) adds to its financial fragility, this process will reverse. Private expenditure relative to private disposable income will fall. But this has an effect of being a drain on aggregate demand. And this can cause a recession.

Nick Rowe would have argued that it is the demand for money which caused a recession. Till here, it’s the same as argued above, because private expenditure falling relative to income is due to economic units trying to increase their liquidity. (There’s a “paradox” here: all units trying to reduce their fragility causes more fragility!).

There is however a difference: a sector’s or economic units’ demand for “money” can also be independent to income/expenditure and is more related to asset allocation between various kinds of financial assets. But here it cannot be said to cause a fall in aggregate demand and output. So a higher demand for money per se cannot be said to cause a recession.

As I was finishing writing this, JKH put up a comment at Nick’s blog saying Keynes understood it. I reproduce the comment below.

JKH:

There’s no question that Keynes appreciated the distinction between thrift and hoarding:

GT Chapter 9

“The rise in the rate of interest might induce us to save more, if our incomes were unchanged. But if the higher rate of interest retards investment, our incomes will not, and cannot, be unchanged. They must necessarily fall, until the declining capacity to save has sufficiently offset the stimulus to save given by the higher rate of interest. 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. Obstinacy can bring only a penalty and no reward. For the result is inevitable.”

GT Chapter 13

“The concept of hoarding may be regarded as a first approximation to the concept of liquidity-preference. Indeed if we were to substitute ‘propensity to hoard’ for ‘hoarding’, it would come to substantially the same thing. But if we mean by ‘hoarding’ an actual increase in cash-holding, it is an incomplete idea — and seriously misleading if it causes us to think of ‘hoarding’ and ‘not-hoarding’ as simple alternatives. For the decision to hoard is not taken absolutely or without regard to the advantages offered for parting with liquidity; — it results from a balancing of advantages, and we have, therefore, to know what lies in the other scale. Moreover it is impossible for the actual amount of hoarding to change as a result of decisions on the part of the public, so long as we mean by ‘hoarding’ the actual holding of cash. For the amount of hoarding must be equal to the quantity of money (or — on some definitions — to the quantity of money minus what is required to satisfy the transactions-motive); and the quantity of money is not determined by the public. All that the propensity of the public towards hoarding can achieve is to determine the rate of interest at which the aggregate desire to hoard becomes equal to the available cash. The habit of overlooking the relation of the rate of interest to hoarding may be a part of the explanation why interest has been usually regarded as the reward of not-spending, whereas in fact it is the reward of not-hoarding.”

Being the supreme macro-accountant (the first one really), he would be totally in tune with the general stock/flow consistency theme of the post-Keynesians.

Hoarding is a stock/asset allocation of liquidity, interconnected with the determination of the interest rate, as he notes above. He correctly rejected the idea of the interest rate as being determined by an “equilibrium” of saving and investment. He maintained correctly that those two measures are continuously equivalent.

Recession dynamics are a flow phenomenon as he describes it, using reconciliation of income accounting at two different points in time.

The behavior of liquidity, hoarding, and the interest rate is stock behavior (including hoarding) within that saving flow dynamic (including thrift).

Kalecki And Keynes On Wages

The blogger writing for Social Democracy For The 21st Century: A Post Keynesian Perspective has an interesting post about Keynes’ view on wages.

I have a few points to add, which may not be contradictory to that post. It’s possible Keynes’ understanding changed from his discussions with Kalecki. In fact, Jan Toporowski, biographer of Michael Kalecki sees Kalecki’s position as far superior compared to that of Keynes. In an article titled Kalecki And Keynes On Wages, he says:

Both Kalecki and Keynes realised that their macroeconomic analysis depended critically on the inability of the labour market to be brought into equilibrium by changes in wages, as postulated by neoclassical theory. In 1939 therefore they wrote their explanation for this inability of free markets in capitalism to attain the equilibrium imagined by Robbins, in which all resources, including labour, are fully utilised. Keynes however got stuck on the effects of wages on the short-period equilibrium in an abstract Marshallian model. Kalecki was able to demonstrate more clearly the complex real income effects of wage changes.

Kalecki’s approach to the subject was much clearer, and free of Marshallian dilemmas applied to historical data.

Jan Toporowski

Jan Toporowski, Levy Institute, May 2011

In the article, Toporowski points out the debate between Keynes and John T. Dunlop, Lorie Tarshis and Michal Kalecki. He also quotes Keynes from the GT:

in the short period, falling money wages and rising real wages are each, for independent reasons, likely to accompany decreasing employment; labour being readier to accept wage-cuts when employment is falling off, yet real wages inevitably rising in the same circumstances on account of the increasing marginal return to a given capital equipment when output is diminished.

Keynes was not fully correct on this but it is interesting to note that he was almost there. Perhaps his own quote explains: he himself couldn’t escape from old ideas which ramify into every corner of our minds.

In his book Post-Keynesian Economics: New Foundations, pp 277-278, Marc Lavoie says:

Indeed, in several versions of post-Keynesian short-run model of employment, higher real wages are conducive to higher levels of employment.

In their biography, Michal Kalecki (Great Thinkers In Economics), Julio López G and Michaël Assous point out that it was Michal Kalecki who first figured this out before Dunlop-Tarshis-Kalecki (1939) in his 1938 paper The determinants of distribution of the national income, also published in Collected works of Michal Kalecki, Vol. I, edited by J. Osiatynsky, Oxford University Press, 1990.

 

Collected Works Of Michal Kalecki - Volume 1

 

So here’s Kalecki. It’s great and humble of him to call it the “Keynesian theory”, although he found something contrary to Keynes’ own point. But that’s the thing about Keynes – he said a lot of things which is contrary to his own revolutionary thoughts. Heterodox economists see it in a nicer way. Joan Robinson would have said, “Keynes should not have said that”. Keynes’ opponents would pounce on his several vulnerabilities. And then there’s the bastardization of Keynes’ work. Most of economics before the crisis simply states: “Keynes is wrong”.  Over to Kalecki:

Final remarks

1. There are certain ‘workers’ friends’ who try to persuade the working class to abandon the fight for wages in its own interest, of course. The usual argument used for this purpose is that the increase of wages causes unemployment, and is thus detrimental to the working class as a whole.

The Keynesian theory undermines the foundation of this argument. Our investigation above has shown that a wage increase may change employment in either direction, but that this change is unlikely to be important. A wage increase, however, affects to a certain extent the distribution of income: it tends to reduce the degree of monopoly and thus to raise real wages. On the other hand, ‘real’ capitalist incomes tend to fall off because of the relative shift of income from rentiers to corporations, which lowers capitalist propensity to consume.

If viewed from this standpoint, strikes must have the full sympathy of ‘workers’ friends’. For a rise in wages tends to reduce the degree of monopoly, and thus to bring our imperfect system nearer to the ideal or free competition. On the other hand, it tends to increase the thriftiness of capitalists by causing a relative shift of income from rentiers to corporations. And ‘workers’ friends’ are usually admirers both of free competition and or thrift as a virtue of the capitalist class.

2. Another question may arise in connection with the Keynesian theory of wages. Is not the struggle of workers for higher wages idle if they lose whatever gain they may make in the form of a higher cost of living? We have shown that wage reduction causes a change in the distribution of the national income to the disadvantage of workers, and that in the event of an increase in wages the reverse occurs. This is not to deny, however, that changes in real wages are much smaller than those in money wages; but never the less they may be quite material, especially as we are dealing with averages which reflect only slightly great fluctuations in real wages in particular industries.

We noticed above the great stability of the relative share of manual labour in the national income. This is not in contradiction with the influence of money wages upon the distribution of the national income. On the contrary, the resistance to wage cuts prevents the degree of monopoly from rising in the slump to the extent it would if ‘free competition’ prevailed on the labour market. Although, in fact, the relative share of manual labour is more or less stable, this would not obtain if wages were very elastic.

It is quite true that the fight for wages is not likely to bring about fundamental changes in the distribution of the national income. Income and capital taxation are much more potent weapons to achieve this aim, for these taxes (as opposed to commodity taxes) do not affect prime costs, and thus do not tend to raise prices. But in order to redistribute income in this way, the government must have both the will and the power to carry it out, and this is unlikely in a capitalist system.

Keynes’ ‘Human’ Apple

The point needs emphasising because the art of thinking in terms of models is a difficult–largely because it is an unaccustomed–practice. The pseudo-analogy with the physical sciences leads directly counter to the habit of mind which is most important for an economist proper to acquire.

I also want to emphasise strongly the point about economics being a moral science. I mentioned before that it deals with introspection and with values. I might have added that it deals with motives, expectations, psychological uncertainties. One has to be constantly on guard against treating the material as constant and homogeneous in the same way that the material of the other sciences, in spite of its complexity, is constant and homogeneous. It is as though the fall of the apple to the ground depended on the apple’s motives, on whether it is worth while falling to the ground, and whether the ground wanted the apple to fall, and on mistaken calculations on the part of the apple as to how far it was from the centre of the earth.

But do not be reluctant to soil your hands, as you call it. I think it is most important. The specialist in the manufacture of models will not be successful unless he is constantly correcting his judgment by intimate and messy acquaintance with the facts to which his model has to be applied.

J. M. Keynes to Harrod, 10 July 1938

New Enhanced Financial Accounts In The Federal Reserve’s Flow Of Funds (Z.1) Report

The Federal Reserve produces quarterly data for the financial accounts of the United States (earlier called “flow of funds”). There are a few notable additions termed enhanced financial accounts, which are in the process of being added. Some additions are details about money market mutual funds, off-balance sheet items of depository institutions, such as unused commitments, letters of credit and derivatives. This is the chart from the Federal Reserve’s FEDS note Off-Balance Sheet Items of Depository Institutions in the Enhanced Financial Accounts

 

meisenzahl-fig1-20150828-624x652This data is probably not new but has been added in the report. Indeed it was one of the important points of Basil Moore’s book Horizontalists and Verticalists.

Basil Moore - Horizontalists And Verticalists - Loan Commitments

Moore has a sophisticated way of saying things (pages 24-25):

In making a loan commitment a bank should be viewed as a participant in forward rather than spot lending markets. Viewed as a seller of contingent claims, banks themselves obviously can excercise only limited control over the volume of their lending.

On page 186 of Moore’s book, he also notes that Keynes talks about this in his book A Treatise On Money:

Keynes insists that cash facilities of the public includes unused overdraft facilities, “of which we have no statistical record whatever” (JMK, 5, p. 37). He then concludes, “Thus the cash facilities, which are truly cash for the purposes of the theory of the value of money, by no means correspond to the bank deposits which are published” (JMK, 5, p. 38).

Tracking Keynes’ writing Moore concludes that although Keynes talked of unused overdraft facilities, he fails to recognize its importance in theory. Moore says (p. 203):

Keynes then returned to the issue of unused overdraft facilities, without, however, recognizing that this was the key to the endogeneity of the money stock:

[Keynes]: In Great Britain the banks pay great attention to the amount of their outstanding loans and deposits, but not to the amount of their customers’ overdraft faclities … it means that there is no effective pressure on the resources of the banking system until the finance is employed … there is no superimposed pressure resulting for planned activity over and above the pressure resulting from actual activity. (JMK, 14, pp. 222-23).

Honestly, I am not sure what Keynes is trying to say in all this. Moore is quite clear in his book. It’s still nice to know that Keynes discussed all this. Perhaps he wanted to say something more but couldn’t translate his thoughts in words. But if you can interpret Keynes, do tell me!

Disappointing Start, Mr. Bernanke

Ben Bernanke has a new blog at Brookings.

In his second post, Why are interest rates so low?, Bernanke “explains the rationale behind the Federal Reserve’s continued policies”. We should be thankful to Bernanke for his leadership qualities to have kept interest rates low to help the world economy recover from a crisis. The latest post however ends up just stating the standard neoclassical economics story: a hugely inaccurate way of looking at the world. Keynes himself debunked many such notions.

First he starts off with the notion of the Wicksellian interest rate.

To understand why this is so [“Why are interest rates so low?”], it helps to introduce the concept of the equilibrium real interest rate (sometimes called the Wicksellian interest rate, after the late-nineteenth- and early twentieth-century Swedish economist Knut Wicksell). The equilibrium interest rate is the real interest rate consistent with full employment of labor and capital resources, perhaps after some period of adjustment. Many factors affect the equilibrium rate, which can and does change over time. In a rapidly growing, dynamic economy, we would expect the equilibrium interest rate to be high, all else equal, reflecting the high prospective return on capital investments.

Full employment in the United States? When did this happen? Keynes himself rejected this (see here) (quote h/t Lars Syll).

Keynes said:

In my Treatise on Money I defined what purported to be a unique rate of interest, which I called the natural rate of interest—namely, the rate of interest which, in the terminology of my Treatise, preserved equality between the rate of saving (as there defined) and the rate of investment. I believed this to be a development and clarification of Wicksell’s ‘natural rate of interest’, which was, according to him, the rate which would preserve the stability of some, not quite clearly specified, price-level.

I had, however, overlooked the fact that in any given society there is, on this definition, a different natural rate of interest for each hypothetical level of employment. And, similarly, for every rate of interest there is a level of employment for which that rate is the ‘natural’ rate, in the sense that the system will be in equilibrium with that rate of interest and that level of employment. Thus it was a mistake to speak of the natural rate of interest or to suggest that the above definition would yield a unique value for the rate of interest irrespective of the level of employment. I had not then understood that, in certain conditions, the system could be in equilibrium with less than full employment.

I am now no longer of the opinion that the [Wicksellian] concept of a ‘natural’ rate of interest, which previously seemed to me a most promising idea, has anything very useful or significant to contribute to our analysis. It is merely the rate of interest which will preserve the status quo; and, in general, we have no predominant interest in the status quo as such.

Ben Bernanke then says:

Large deficits will tend to increase the equilibrium real rate (again, all else equal), because government borrowing diverts savings away from private investment.

This again confuses the direction of causality from saving to investment among other things. Bernanke himself is a witness to the fact that large US government deficits didn’t have such effects. Economists such as Paul Krugman have an explanation for this, claiming this is untrue when the economy is in a “liquidity trap” but think this is the case. A large deficit has the private sector net lending as the mirror image and there’s no reason for interest rates to necessarily rise because of large deficits. Ben Bernanke is simply repeating economists’ favourite “crowding out” argument.

Ben Shalom Bernanke. Huge disappointment.

Anthony Thirlwall’s New Book On Keynesian And Kaldorian Economics

During the global economic and financial crisis Keynes became popular again but Nicholas Kaldor’s ideas and the mention of the man himself didn’t take off as much. It’s unfortunate, as Kaldor played a huge role in the development of Keynesian economics itself. Kaldor’s own ideas are a subject of its own. Anthony Thirlwall is releasing a new collection of essays on Keynes and Kaldor in a book titled Essays on Keynesian and Kaldorian Economics to be published by Palgrave Macmillan.

Book website here

Anthony Thirlwall - Essays On Keynesian And Kaldorian Economics

Description:

This volume of essays contains sixteen papers that the author has written over the last forty years on various aspects of the life and work of John Maynard Keynes and Nicholas Kaldor. The essays cover both theoretical and applied topics, and highlight the continued relevance of Keynesian and Kaldorian ideas for understanding the functioning of capitalist economies. Kaldor was one of the first economists to be converted to the Keynesian revolution in the mid-1930s, and he never lost the faith, so there was a strong affinity between them. But while Keynes revolutionised employment theory, Kaldor’s major concern in the latter part of his life was with the theory and applied economics of economic growth. The papers on Keynes mainly relate to defending Keynesian economics against his classical and monetarist critics and showing how Keynesian ideas relate to developing economies and the functioning of the world economy in general. The papers on Kaldor give a sketch of his life and role as policy advisor, and outline his vision of the growth and development process within regions; within countries, and also the world economy as a whole.

Table of Contents

Introduction

  1. Keynesian Economics after Fifty Years; N. Kaldor
  2. A ‘Second Edition’ of Keynes’ General Theory (writing as John Maynard Keynes)
  3. Keynesian Employment Theory is Not Defunct
  4. The Renaissance of Keynesian Economics
  5. The Relevance of Keynes Today with Particular Reference to Unemployment in Rich and Poor Countries
  6. Keynes, Economic Development and the Developing Countries
  7. Keynes and Economic Development
  8. A Keynesian View of the Current Financial and Economic Crisis in the World Economy (an interview with John King)
  9. Nicholas Kaldor: A Biography
  10. Kaldor as a Policy Adviser
  11. Kaldor’s Vision of the Growth and Development Process
  12. A Model of Regional Growth Rate Differences on Kaldorian Lines (with R. Dixon)
  13. A General Model of Growth and Development on Kaldorian Lines
  14. A Plain Man’s Guide to Kaldor’s Growth Laws
  15. Testing Kaldor’s Growth Laws across the Countries of Africa (with Heather Wells)
  16. Talking about Kaldor (an interview with John King)

Anthony-P-ThirlwallAnthony Thirlwall

Separated at Birth? The Twin Budget and Trade Balances

The International Monetary Fund, IMF has one full chapter devoted to the subject of “twin deficits” in their latest issue of World Economic Outlook. The subject of “twin deficits” is full of complications and can invoke the deepest emotions from economists. Naively, the argument goes as follows: The “three financial balances” identity can be written as

NAFA = DEF + BP

where NAFA, DEF and BP stand for the Net Acquisition of Financial Assets of the private sector, Government Deficit, and the current Balance of International Payments. From the above, if the government deficit increases, for a constant NAFA (rather a constant NAFA/GDP), an increase in DEF causes BP to reduce, i.e., reduces the current account balance or causes the current account deficit to increase.

Now, this is hardly the best way to put it – because it is mistaking an accounting identity for a behavioural relationship. For example, in conjecturing, one is implicitly assuming that the budget deficit is exogenous or fixed by the government. It is then argued that to reduce the current account deficit (or BP with a minus sign), the government should cut its budget deficit.

There is some truth to “twin deficits”, in my opinion. A lot actually! However, conclusions from any analysis need to be studied in a proper framework and stock-flow coherent macroeconomics is the only way to do this. Money is automatically endogenous in “SFC” models – it cannot be otherwise.

The government sets its fiscal policy or fiscal stance. This can be approximated to be G/θ, where G is for government expenditures and θ is the tax rate (as opposed to total taxes). The budget deficit is out of the control of the government and is dependent among other things, the private sector propensity to consume, the exports and imports. Assuming exports remain constant, relaxing the fiscal stance (i.e., an increase of G/θ) leads to an increase in domestic demand, ceteris paribus. An increase in demand leads to an increase in imports. (If people have higher incomes, they will purchase more imported products). This leads to the widening of the current account deficit and hence through the sectoral balances identity a widening of the budget deficit.

Various things can be said about what is written in the last paragraph. Take the case when ceteris is not paribus. An increase in the propensity to save (i.e., a decrease in propensity to consume) can lead to a higher NAFA and DEF  and increasing BP (as a result of lower domestic demand and hence lower imports).

Come back to ceteris paribus: assume that demand abroad has increased for some reason. This could be due to an increase in the fiscal stance of the foreign government or a private sector led credit expansion abroad. This will lead to an increase in exports for the country we are discussing. So in such a scenario, an increase in the fiscal stance – up to some limit – will not lead to a widening of CAD, i.e., decrease in BP.

Wynne Godley put it best in a Levy article in 1995 (always perfect with his wording):

Refuting the “Saving is Too Low” Argument 

It is sometimes held that, in the words of the Economist (May 27. 1995, p. 18), “America’s current account deficit is enormous because its citizens save so little and its government spends too much.” The basis for this proposition is the accounting identity that says that the private sector’s surplus of saving over investment is always equal to the government’s deficit plus (or minus) the current account surplus (or deficit). As this relationship invariably holds by the laws of logic, it can be said with certainty that if private saving were to increase given the budget deficit or if the budget deficit were to be reduced given private saving, the current account balance would be found to have improved by an exactly equal amount. But an accounting identity, though useful as a basis for consistent thinking about the problem can tell us nothing about why anything happens. In my view, while it is true by the laws of logic that the current balance of payments always equals the public deficit less the private financial surplus, the only causal relationship linking the balances (given trade propensities) operates through changes in the level of output at home and abroad. Thus a spontaneous increase in household saving or a spontaneous reduction in the budget deficit (say, as a result of cuts in public expenditure) would bring about an improvement in the external deficit only because either would induce a fall in total demand and output, with lower imports as a consequence.

How is protectionism related to all this? When nations face severe balance of payments issues, they are forced to deflate demand in order to bring the balance of payments at sustainable levels. If that doesn’t work either, nations may try to directly reduce imports. This works via reducing the propensity to import and hence imports. However, it is difficult to take such a step because it can lead to retaliation. As John Maynard Keynes once put it:

During most of the period in which the modern world has been evolved … the failure to solve this problem has been a major cause of impoverishment and social discontent and even of wars and revolutions.

i.e., the failure to resolve the balance of payments problem. The only way to peacefully resolve this issue is by working toward a solution which is good for all. Even the Bank of England (and Mervyn King) has realized this. Else we will just have a long period of low demand and high unemployment, leading to social unrest. More on that some other time.

[Update, 3 Jan 2012: Fixed some errors]