On July 25, 2010, Martin Wolf writes on blogs.ft.com:
“To understand modern Republican thinking on fiscal policy, we need to go back to perhaps the most politically brilliant (albeit economically unconvincing) idea in the history of fiscal policy: “supply-side economics”. Supply-side economics liberated conservatives from any need to insist on fiscal rectitude and balanced budgets. Supply-side economics said that one could cut taxes and balance budgets, because incentive effects would generate new activity and so higher revenue.“The political genius of this idea is evident. Supply-side economics transformed Republicans from a minority party into a majority party. It allowed them to promise lower taxes, lower deficits and, in effect, unchanged spending. Why should people not like this combination? Who does not like a free lunch?
“How did supply-side economics bring these benefits? First, it allowed conservatives to ignore deficits. They could argue that, whatever the impact of the tax cuts in the short run, they would bring the budget back into balance, in the longer run. Second, the theory gave an economic justification – the argument from incentives – for lowering taxes on politically important supporters. Finally, if deficits did not, in fact, disappear, conservatives could fall back on the “starve the beast” theory: deficits would create a fiscal crisis that would force the government to cut spending and even destroy the hated welfare state.
“In this way, the Republicans were transformed from a balanced-budget party to a tax-cutting party. This innovative stance proved highly politically effective, consistently putting the Democrats at a political disadvantage. It also made the Republicans de facto Keynesians in a de facto Keynesian nation. Whatever the rhetoric, I have long considered the US the advanced world’s most Keynesian nation – the one in which government (including the Federal Reserve) is most expected to generate healthy demand at all times, largely because jobs are, in the US, the only safety net for those of working age.”
A colleague at the Center For Economic and Social Justice (www.cesj.org) responds:
As I see it, the “demand siders” and the “supply siders” are both making the same mistake: cutting out half of Say’s Law of Markets. Demand siders redefine Say’s Law and reject it, while supply siders redefine Say’s Law and accept it. As Milton Friedman himself acknowledged — within a past savings framework — “We are all Keynesians now.” What Friedman didn’t say was that this is probably due to everyone accepting Keynes’s redefinition of Say’s Law as the near tautology of “Production equals income, therefore supply generates its own demand, and demand its own supply.”
True — but until we understand the full reasoning behind that summary, we will tend to go with the Democrats and assume that generating demand (deficit spending, artificial job creation and redistribution) and ignoring production will fix things, or with the Republicans and assume that increasing production (cutting costs and increasing capital investment) and ignoring demand will make the economy run properly.
The task, as Harold Moulton pointed out in The Formation Of Capital (1935) is to increase both production and consumption concurrently. You cannot increase one and ignore the other; they are codependent. Since (as Say explained), we cannot exchange what we produce for what others produce without ourselves first producing or making a negotiable promise to produce, our production (supply) generates the wherewithal — income (demand) — that encourages others to produce something that they can exchange for what we produce. We cannot consume more than we produce, thus, we cannot consume unless we or others produce, nor produce unless either we or someone else consume it.
By ignoring either supply or demand — including the assumption that either will follow automatically as “ignoring” — the system is thrown out of kilter. Each person’s capacity to produce with labor and capital determines that person’s capacity to consume (which is why Moulton’s two previous books in the series that included The Formation Of Capital were America’s Capacity To Produce (1934) and America’s Capacity To Consume (1934)), and in accounting terms builds internal controls into the system.
When we disconnect the capacity to produce from the capacity to consume through lack of access to the means of acquiring and possessing capital as technology advances and displaces human labor, thereby inhibiting or preventing propertyless people from producing, the internal controls of the system described by Say’s Law fall apart. At that point government steps in to try and control the economy externally, imposing desired results through manipulation of the currency, deficit spending, and redistribution through the tax system instead of equality of opportunity, rather than maintain its role of regulator and policing abuses of the internal controls.
Simply cutting costs does nothing to reverse this trend. Relying on new investment to create enough jobs when the tendency of advancing technology is to reduce or eliminate human labor also does nothing at this point. In the 1930s Moulton noted that the rate of technological advance means that fewer jobs are created than are eliminated by advancing technology — for example, between 1919 and 1929, at a time when millions of new jobs were being created and production was going through the roof, the number of jobs in direct manufacturing decreased dramatically. The new jobs were in admin, sales and support — “service” jobs that are now disappearing as computers take over.
Moulton assumed that increasing consumer demand as lifestyles were enhanced and the standard of living rose would take up the slack for a while. He estimated, though, that the turning point would come in the early 1980s, when technological advance would mean that the total new jobs created by technology began to be less than those eliminated. All we could do in the meantime (as he hinted in Income And Economic Progress (1935), the fourth book in the series that contained The Formation Of Capital) was get to work and figure out some way for people to get income other than by the New Deal expedients.
The turning point actually came much sooner. The “Great Society” was, in part, a response to the problem of advancing technology in conflict with human labor. There was, unfortunately, no fundamental difference between the Great Society and the New Deal. The basic assumptions remained that the only way for most people to gain income is by wages supplemented by State welfare, and that the only way to finance new capital formation is by cutting consumption and accumulating savings before investing.
Almost unnoticed — at least as far as economists and politicians were concerned — was the work of Louis Kelso. His 1958 book with Mortimer Adler, The Capitalist Manifesto, in combination with the second book, The New Capitalists (1961) can (with a great deal of justification) be regarded as being the book that Moulton’s Income And Economic Progress really should have been.
To Moulton’s explanation of the optimal way to finance new capital formation through “pure credit” (i.e., credit that does not rely on existing accumulations of savings), thereby generating mass production, Kelso added the necessity of people who own no capital can supplement or replace income from selling their labor, with income from capital — thereby generating the mass purchasing or consumption power to maintain mass production power.
The solution is simple once it’s pointed out. If people who currently own no capital are empowered through access to capital credit to purchase the very capital that is displacing them from their jobs, supply and demand will once again be in balance. The ineffectual deficit spending of the Democrats and the inadequate cost cutting of the Republicans can be relegated to the Museum of Bad Economic and Political Ideas. This is why the subtitle of Kelso and Adlers 1961 book is so important: “A Proposal To Free Economic Growth From The Slavery Of [Past] Savings.”
Capital Homesteading (http://www.cesj.org/homestead/index.htm) is a way of applying these concepts to benefit every child, woman and man in the United States and, eventually, the world.
