Murray Rothbard, Muddled Thinker, and Accountants are All Keynesians Now
[UPDATE below…]
I realize this is inside baseball and maybe 95% of you don’t care, but I have real work to do so this occupies my attention…
Major Freedom has been doing his best to escape from the power of my simple point that savings is income minus consumption. He claims that this is a muddled statement because the units don’t even match; he claims income is a flow concept while consumption is a stock concept.
Because I dug up Mises explicitly saying that savings is production minus consumption, MF was forced into saying that production is also a stock concept. (Otherwise Mises would be as muddled as Murphy.) So I asked him what happens when someone produces something and earns an income on it? I’m waiting to hear how we wriggle out of that. (I.e. you would have to earn an income over a time period, even though production is allegedly a stock concept.)
Also relevant, here is Murray Rothbard on pages 419-420 of Man, Economy, and State:
It is clear that the gross savings that maintain the production structure are the “productive” savings, i.e., those that go into productive investment, and that these exclude the “consumption” savings that go into consumer lending. From the point of view of the production system, we may regard borrowing by a consumer as dissaving, for this is the amount by which a person’s consumption expenditures exceed his income, as contrasted to savings, the amount by which a person’s income exceeds his consumption.
If I didn’t know any better, I would say that Rothbard is endorsing my claim that over a defined time interval, savings = income – consumption. But Rothbard can’t be as muddled as me, so I must be wrong.
Also, in accounting the income statement is certainly a flow concept. You don’t say, “What’s your income statement for July 6, 2011, at 4:55pm?” Rather, you say, “What’s your income statement for the 3rd quarter of 2011?”
And yet, if my eyes don’t deceive me, the income statement calculates net income by looking at gross revenues and subtracting various expenses that were incurred during the period in question. It almost sounds like spending is a flow concept. More muddled, Keynesian thinking.
(To drop the cuteness: Major Freedom is focusing on the fact that when you consume, you spend money in bursts to buy consumption goods. Right, but by the same token, when you earn income, you receive money in bursts. Yet even Major Freedom admits that income is a flow concept, defined over a period of time. In contrast, your cash balance or your inventory of physical capital goods is a stock concept–it is defined for a particular moment in time.)
UPDATE: I am not doing any more posts on this, I promise. (Unless Paul Krugman links me or something.) One last point to illustrate how hopeless Major Freedom’s position is: Remember, he had to say that production is a stock concept, in order to reconcile his claim that consumption is a stock concept with Mises’ quotation saying savings is production minus consumption.
So look at how tangled that move makes us: I would say, “In a free market, workers get paid according to their marginal product.” MF agrees, I take it. And yet, workers pay (income or wage rate) is clearly a flow concept. So how can they be paid according to marginal product, unless marginal product is also a flow concept?
Another example. I bump into Henry Ford and ask him, “How much production does your factory yield?” He says, “100 cars.” Does anyone see why his answer is ambiguous?
In contrast, if I say, “How many drill presses does your factory have?” and he says, “100,” there is no ambiguity at all.
Does everyone see why? (Everyone except Major Freedom, I mean.)
Follow-Up on Ron Paul’s Proposal to Cancel the Fed’s Treasury Holdings
Lew Rockwell wrote a response to my Mises Daily article on Ron Paul’s proposal. I’ll address some of his criticisms one at a time, though not in the order Rockwell listed them:
4. The discussion in the next-to-the last section claiming that Baker’s proposal to raise reserve requirements is tantamount to “stealing money from the banks” is wrong. The Fed has been systematically lowering reserve requirements from almost its inception, permitting the banks to pyramid ever-greater amounts of demand deposits upon their reserves, thus expanding the money supply and fattening their interest incomes. There can be nothing wrong in reversing almost a century of bank thievery.
Yep, mea culpa on my use of the loaded term “stealing.” As Blackadder (I think) pointed out in the comments here when the piece first appeared, it’s a bit weird to say the Fed would be “stealing” when at worst, it would be destroying the banks’ assets without benefiting itself in the process. (So maybe “vandalism” would be more accurate.) And as Rockwell points out, to say “stealing” implies a moral judgment that the banks rightfully deserve the current situation, when I of course don’t believe that.
But here’s what my main point was: Dean Baker (and others) who want to deal with the problem of excess reserves often write as if bumping up the reserve requirement is a painless technical adjustment, akin to turning up the thermostat if you get a little chilly. Yet economically, raising the reserve requirements is almost equivalent to simply erasing the reserves (while keeping the same reserve requirement). It would have sounded crazy if Dean Baker had said, “It’s true, Ron Paul’s proposal will make it impossible to suck those $1.6 trillion in excess reserves out of the system. So to prevent inflation, we can just tell the Fed to turn all those electronic bank deposits into 0s. Problem solved.”
To repeat, Ron Paul, Lew Rockwell, and I don’t think the banks should have been bailed out, and that the insolvent ones should have been allowed to go bust. Therefore, if raising the reserve requirements would effectively crush these big banks, fair enough. My point however was that I don’t think a lot of people recommending “raise the reserve requirements” realize that they would crash the big banks. It would be tantamount to undoing the original bailout.
Rockwell also writes:
3. Also unmentioned: if the Fed is deprived of $1.6 trillion in assets it would have to write down its liabilities by $1.6 trillion to preserve the fiction that it operates like a private institution. And this means that the inflationary excess reserve problem would be solved–the Fed would be forced by accounting rules to simply wipe out the reserve deposits that banks hold with it.
This is really interesting, and I confess I didn’t carry the analysis this far. He’s right, if the Fed suddenly lost $1.6 trillion in assets, it would be technically insolvent. I’m not sure what it would do in that situation. Remember that I had speculated that the Fed’s mysterious accounting rule change was designed precisely to shield it from this sort of problem, i.e. to allow it to move a write-down in its capital to its liabilities instead. (I.e. rather than reducing the liabilities owed to the banks, the Fed under the new rules would list a massive “negative liability” to the Treasury, which it would work off over time as it earned net income.)
2. Unmentioned is the fact that Ron’s proposal would deprive the Fed of the $40-$50 billion per year in interest payments out of which it takes its plush, self-designated budget, returning the rest to the Treasury. It would now have to go to Congress hat in hand for funding like any other government agency.
Well, I didn’t mention this because (as Rockwell notes) most of the interest payments go back to the Treasury. It’s true that the Fed can raise its “costs of operation” without Congressional approval, but on the other hand I think this arrangement benefits the government too. In other words, I think the reason the government likes having the Fed is that it effectively run the printing press to cover some of the fiscal deficit. (I explain that process here.)
To repeat, Rockwell (and Ron Paul) understand exactly what’s going on with the interest payments, but I think a lot of people who initially latched on to the proposal thought it would be immediately saving the Treasury $50 billion per year, and that’s not right. So I didn’t bring it up because it was subtle and I wanted to focus on the other things.
1. “Purists will rightfully object to his classification, because in reality the Fed is a quasi-private entity with private shareholders.” No it is not. (It is not clear whether Bob agrees with this parenthetical statement.) Mankiw is right and the unnamed purists are wrong. The Fed is a government agency, and a rogue one at that, with no Congressional oversight.
Here too, Rockwell and I agree on the basic facts, we are just disagreeing on how to classify the Fed because of those facts. It is not a private agency in the same way that, say, Wal-Mart is. On the other hand, it is not a government agency in the same way that the IRS is. The Fed is nominally owned by private shareholders, and many of its personnel are selected by the commercial banks. Its revenue does not come from taxes, and it has very little Congressional or Executive oversight. However, its leadership is picked by the government, and of course its operations are upheld through the government. So I am calling it a quasi-private organization, you could call it a quasi-governmental one too. Yet I think there is a difference between the Fed’s holding of Treasury debt, versus (say) the Social Security Trust Fund holding government debt.
I am partly stressing this nowadays, because for a long time I took Rockwell’s position and called the Fed a government agency. Yet I was eventually worn down by all the conspiracy theorists who think Big Bankers run the world, and operate above the level of national governments. I am very sympathetic to this view now (in its grand outlines, not in the specifics that all of these guys put forth), and so that’s why I hesitate to treat the Fed as a mere government agency.
Taking on the Confidence Fairy
In today’s article at Mises, I am so bold as to challenge Krugman’s analysis even from the point of view of Keynesian international trade. (That’s like Krugman telling me how bald guys should dress.)
That part of the story is a bit complex, so I won’t reproduce it here. But on another note, I think I found yet another Krugman Kontradiction:
On the specific issue of the confidence fairy, Krugman is in a bit of a pickle. For one thing, it’s hard to see how the austerity talk of “confidence” is any less rigorous than John Maynard Keynes’s famous discussion of “animal spirits” when it comes to explaining business investment.
Even more troubling for Krugman is that he himself admits that private investors have been acting on the (alleged) myths of the anti-Keynesian economists. During his talk on Keynes, Krugman alludes to an investment bank making an apology for its erroneous predictions on interest rates (where the bad prediction was due to ignoring Krugman’s analysis). Several times, Krugman has criticized Pimco’s Bill Gross for saying that interest rates will rise because of the end of QE2, and Krugman often ridicules Peter Schiff and others for warning clients of hyperinflation. More generally — and I don’t remember if Krugman himself has done this — progressives have mocked the ads for gold pushed on conservative talk radio.
Krugman et al. can’t have it both ways. It can’t be the case that the world is (a) full of imbeciles who lose boatloads of their clients’ money because they listened to a Chicago School or Austrian economist give advice, while (b) investors aren’t influenced by their fears over Obama and Bernanke’s policies. Krugman and the other Keynesians need to pick one story and run with it.
Mises Was a Keynesian Too, Apparently
I am eager to see how the anti-Keynesians explain this one away–but they are a clever bunch, and I know they will come up with an argument. Let’s set the scene:
In this post, I pointed out that because they didn’t want to give Keynes an inch, some modern Austrians were forced to deny that savings was equal to income minus consumption, so long as the savings consisted of increased cash balances. Here’s the example I used:
15-year-old Johnny mows my lawn every week, and I pay him $20 each time. Every week, he spends $15 of it going to the movies with his friends, but he puts $5 in a piggy jar on his bureau.
After a year, he has accumulated $5×52 = $260 which he uses to buy a nice watch. Johnny says, “I’m sure glad I consumed less than my income all year, saving $5 per week. Then I used my accumulated savings to buy a watch. I deferred consumption all year in order to buy a nice good later on.”
Wenzel says, “What the heck are you talking about? Are you a Keynesian Johnny? You haven’t saved at all.”
Are you guys all comfortable with that? You don’t think Johnny was saving $5 per week?
Originally, no one had the audacity to nakedly say, “Right Bob, Johnny isn’t saving.” Wenzel made a sarcastic crack while ignoring the point, and Major Freedom danced around the issue by saying Johnny was indeed deferring consumption (without explicitly saying this constituted saving).
But Major Freedom is no coward (he leads men into battle every day). In the comments he bit the bullet and declared:
In your example, Johnny is not an investor. He is only a consumer. So his consumption to investment ratio is infinity. He is spending 100% of his income on consumption, and 0% on investment. His time preference is therefore infinitely high, and so he earns zero interest. This is true even if Johnny hoard $5 in cash each week.
The reason why it is problematic for you to say that by hoarding $5 each week is “saving” is because there is no objective time frame to define a holding of cash as “saving.” You implicitly defined “saving” in your example as “hoarding a portion of one’s income, in cash, and do so for one year.”
Major Freedom may be interested to read this analysis from a major economist, who apparently is a Keynesian on this issue as well:
In recent years economists have paid special attention to the role cash holding plays in the process of saving and capital accumulation. Many fallacious conclusions have been advanced about this role.
If an individual employs a sum of money not for consumption but for the purchase of factors of production, saving is directly turned into capital accumulation. If the individual saver employs his addi- tionai savings for increasing his cash holding because this is in his eyes the most advantageous mode of using them, he brings about a tendency toward a fall in commodity prices and a rise in the mone- tary unit’s purchasing power. If we assume that the supply of money in the market system does not change, this conduct on the part of the saver will not directly influence the accumulation of capital and its employment for an expansion of production.18 The effect of our saver’s saving, i.e., the surplus of goods produced over goods con- sumed, does not disappear on account of his hoarding. The prices of capital goods do not rise to the height they would have attained in the absence of such hoarding. But the fact that more capital goods are available is not affected by the striving of a number of people to increase their cash holdings. If nobody employs the goods-the nonconsumption of which brought about thc additional saving-for an expansion of his consumptive spending, they remain as an incre- ment in the amount of capital goods available, whatever their prices may be. The two processes-increased cash holding and increased capital accumulation-take place side by side. [Human Action, pp. 518-519]
To refresh everyone’s memory, the reason this is apparently so important is that Keynes was arguing interest wasn’t the return to saving, since someone who saves in the form of increased cash balances doesn’t earn interest. Yet if you want to insist (as Austrians do) that interest isn’t really about money, but instead is about “real” goods, then do what Mises does above: Say that increased cash holdings pushes down prices compared to what they otherwise would be, and so the real rate of return on cash balances is higher than it otherwise would be.
If prices are falling, then even with a zero nominal rate of interest on cash, you could earn a positive real rate of return on that “investment.”
My problem with this is that we are denying what is staring us in the face: The market rate of interest is about money, and it’s amazing that Austrians of all schools are analyzing interest by abstracting away from money. Yet if you want to do that, then the above is how you should evade Keynes’ argument. Don’t deny that living below your means is necessarily saving.
PS: Let me give you a warning. For sure I can find Hayek more explicitly defining saving the way I am doing (in contrast to Mises talking about production in the above quotation, not income), but I also think I can find Mises doing it when he’s talking about accounting and the concept of capital in Human Action. So if you’re going to object that the above quotation doesn’t get the job done, OK, but tread carefully since I am pretty sure I can find more damning ones to the Wenzel-Freedom position.
Morality By Popularity Contest
I don’t mind the smugness of this Daily Beast piece (HT2 LRC); that’s to be expected. After all, it does sound like a crackpot idea to default on the federal debt, if you haven’t thought about the issue too much. So I don’t mind the average pundit’s incredulity that people could be openly advocating default.
Yet this conclusion seemed rather odd to me:
Obviously, [James] Buchanan at least is a highly distinguished person, and the others to varying degrees have produced some measure of credible work. But these ideas are from some other planet. If you want to believe that the public debt is immoral and that taxation is theft, go right ahead and believe those things. But acting on them in a world that does not agree with you is a different matter. I can believe that driving on the left side of the road is a superior method of locomotion, but if I try it on the way in to work in the United States, I’ll be a public menace, endangering myself and my fellow citizens.
Huh? Some people argue that they think a particular practice is immoral, and the response is to say, “Maybe so, but most of us disagree.” ? For one thing, the only reason it would matter, is if the “crackpots” convince enough other people to go along with them. It’s not as if Buchanan has the power to default on 1/300 millionth of the federal government’s debt.
Also, by picking something that is clearly a social convention–driving on one side of the road versus the other–the writer loads the deck against the people who think taxes are immoral. Suppose instead he had written:
In the South in the year 1800, if you wanted to believe that slavery was immoral and that you should free the slaves you’d inherited from your dad, you could go right ahead and believe those things. But acting on them in a world that did not agree with you would be a different matter. You’d be a menace to other plantation owners, and you might endanger your family’s well-being once your own operation folded.
Now that doesn’t sound so great, does it?
Murphy-Kuehn Tag-Team on Wenzel
I am apparently a double agent, because after my alliance with Brad DeLong, I now join forces with Daniel Kuehn to pin down Bob Wenzel in a merciless crossfire.
After I quoted what seemed to me to be an obvious argument in favor of Keynes’ view of interest, Bob Wenzel responded as a bull to a red Mises shirt. An excerpt:
Say what? Maybe Murphy sees something different in the obtuse writing style and sloppy terminology that Keynes uses in the other chapters of The General Theory, but I don’t. To me it is more of the same distortions and odd definitions. Let’s take a look at [Keynes’] use of the word “savings” in the above paragraph [that Murphy quoted with approval].
You can essentially do three things with money. 1. You can hold onto it as cash. 2. You can spend it on a consumption good or 3.you can loan it out and expect a return on your money.
Keynes uses “savings” to mean BOTH 1 and 3, simulataneously. It is this cross-definition that causes typical Keynesian confusion.
Yet as I pointed out in the comments, Wenzel is the one who’s forced to use weird definitions in order to salvage his worldview (and deny Keynes’). I illustrate with a simple example:
…I’m amused at how many people are high-fiving Wenzel here, when he is the one who is clearly using a weird, non-layman’s definition of “saving.”
15-year-old Johnny mows my lawn every week, and I pay him $20 each time. Every week, he spends $15 of it going to the movies with his friends, but he puts $5 in a piggy jar on his bureau.
After a year, he has accumulated $5×52 = $260 which he uses to buy a nice watch. Johnny says, “I’m sure glad I consumed less than my income all year, saving $5 per week. Then I used my accumulated savings to buy a watch. I deferred consumption all year in order to buy a nice good later on.”
Wenzel says, “What the heck are you talking about? Are you a Keynesian Johnny? You haven’t saved at all.”
Are you guys all comfortable with that? You don’t think Johnny was saving $5 per week?
To this, Wenzel wrote: “@Bob Murphy So Keynes was talking about kids piggy banks and Groupon discounts? Now it all make sense to me.”, which I think roughly translates as, “I unconditionally surrender on this point.”
Major Freedom had a more interesting attempt to answer me: “Bob Murphy: Yes, Johnny is actually delaying his consumption each week in the amount of $5. So his actions will affect market interest rates.”
Notice the clever bait and switch. Major Freedom doesn’t come right out and say, “Yes, Johnny is actually saving,” because that would be too obvious an endorsement of Keynes and a rejection of Wenzel. Instead he says, “Yes, Johnny is actually delaying his consumption…” So I repeat: Are Austrians now supposed to say that consuming less than your income is not necessarily saving? Is that how badly we hate Keynes, that we are going to mess with that definition?
Then, Major Freedom says, “So his actions will affect market interest rates.” But that’s not the issue. The question is, does a person saving in the form of increased cash balances earn interest? Well, not in the sense of a monetary rate of return. That’s what Keynes was saying, and Major Freedom is redefining the question to try to deny Keynes’ (obvious) point.
(If you want to get really saucy, you could say that if people are saving by accumulating larger nominal cash balances, then they could still earn a “real” rate of return if prices fall over time because of this. Then even the nominal interest rate of zero on cash, would translate into a positive real rate of interest.)
Anyway, Daniel Kuehn also had a really good point. I’m not going to quote it here, but let me paraphrase: Austrians argue that market interest rates are fundamentally about time preference, not about liquidity. Yet how then does the Austrian explain the yield curve? If I want to defer $1,000 in potential consumption today, to a point ten years from now, then time preference explains why I have to earn a positive interest rate. Fine.
But why should it matter how I save that money? For example, if I roll it over in 12 different one-year bonds, then I expect to earn less total interest than if I dump it into a 10-year bond at the outset. (I’m assuming an upward-sloping yield curve.) So why should that be the case? You can’t say, “Because other things equal, people prefer to consume today rather than 10 years from now.” That doesn’t explain why the series of 10 one-year bonds should give me (in expectation today) a lower rate of return over the next decade, than the single 10-year bond.
The standard (and obvious) explanation for the yield curve invokes the desire for liquidity. I’m guessing Wenzel will come back and say something like, “Short rates might move in the future, so that’s why the yield curve can be upward or downward sloping.” But my point is, even if we expected the short rate to stay constant for the next ten years, a desire for liquidity would cause the yield curve to be upward sloping. If you roll your money over 10 times, you are less exposed to a sudden (and unexpected) move in interest rates than if your money is “stuck” in a ten-year bond. If for some reason your plans change, and you need to spend your money before the originally planned ten years, and if interest rates have risen in the meantime, you will take less of a hit if you have been rolling your money over in one-year bonds, than if it’s still sitting in (say) a 60%-matured 10-year bond.
To be clear: The actual slope of the yield curve could be mostly due to expected changes in short rates over time. But even if we thought short rates would stay constant, I think most market participants would need to earn a higher rate of return on longer-dated bonds. There is no way to explain this just using time preference. (In fact, Rothbard in Man, Economy, and State did argue that the yield curve would be flat in the ERE. That’s true, but I think he missed the significance of that fact. Tomorrow I’ll post a paper where I criticize Rothbard’s arguments on this.)
Let me reassure libertarian readers that even if it turns out that “liquidity preference” has a lot to do with the money rate of interest, we aren’t forced to therefore support fiscal stimulus. “Keynesian” policy prescriptions do not at all follow from a “Keynesian” theory of interest by itself.
The Brown Center for Autism and ABA
This is going to seem like a very curt post given the subject matter. The problem is that I’ve been waiting for the time to “do it right” and that never presents itself.
My son Clark was diagnosed on the autism spectrum in late summer 2009. We began sending him to the Brown Center for Autism, which was absolutely amazing. Literally within the first week, I noticed a big improvement–I could take Clark (4-and-a-half at the time) to the mall and didn’t need to hold his hand. (Before, if you ever were foolish enough to let go of his hand while walking around, he would bolt like an Olympic sprinter.) So the people at the Brown Center literally changed that within one week.
Clark’s mother has made two videos to promote autism awareness and bring publicity to the Brown Center. They use Applied Behavior Analysis (ABA), which I loved because (a) it doesn’t involve drugs and (b) it works. I am not saying it would work for every young kid with autism, I am just saying it literally transformed our son in the year he spent at the Brown Center. So I encourage other parents–or other people in the field who might not know the efficacy of ABA–to look into what they’re doing at the Brown Center.
In the future I will write more on this topic. For what it’s worth, one of the reasons I am motivated to become rich is so I can write big checks to the Brown Center so that parents of limited means can afford to send their kids there. (The Brown Center is not extravagant by any stretch, but their treatment approach requires a very high staff/child ratio and so it’s expensive.)
Anyway here are the videos, and here is the link to donate to the Brown Center if anyone is so motivated.
Rachael & Clark part one from yesisaidyes.com on Vimeo.
Savings versus Investment
This is actually a very subtle issue, because at first blush you’d think the Austrians (adherents to Say’s Law-type reasoning in general) would say that savings always equals investment, whereas those wacky Keynesians would think the two could be different. Yet actually, it is Keynes who insists in the GT that savings necessarily equals investment, and he criticizes the Austrians (as well as other “classicals”) for thinking that “real savings” might fall short of investment spurred on by an artificial boom.
Anyway, that’s sort of a separate thing. Look at Krugman today. Because Obama said foreigners would be more willing to invest in the US if they thought our long-term budget situation were under control, Krugman wrote:
Think about it: U.S. interest rates are low; there’s no crowding out going on; we are NOT suffering from a shortage of saving.
So if foreign investors decide they love us, what does it do? It drives up the value of the dollar, which reduces exports, which leads to fewer jobs.
Does this sound familiar? It’s closely related to the reasons Chinese accumulation of dollar reserves unambiguously hurts the US economy when we’re in a liquidity trap. And what we just learned is that the White House still doesn’t get it.
So hang on a second. I thought–per Daniel Kuehn, but I think he is right–that the problem isn’t too much savings per se, it is not enough investment. So what’s going on in Krugman’s analysis? Obama is saying that both American and foreign investors will be more willing to plunk down investment spending in the US if they are reassured about the fiscal situation.
So why would that make things worse? Take it one step further: Suppose a Japanese investor literally bought US concrete and hired currently unemployed Americans to start building a factory in South Carolina. In order to do this, the Japanese investor would need to use his yen to acquire dollars, in order to buy the American real estate, to buy the concrete, and to hire the workers. So that would push up the dollar versus the yen, and hurt exports, meaning the Japanese investor was hurting the US economy?
Recent Comments