Lars P. Syll and Brad de Long on True Keynesians

So I don’t fully understand the argument here. Brad de Long (BDL) seems to be claiming that Lars P. Syll (LPS) is claiming that to be a ‘true Keynesian’ one must believe that temporary demand-shocks lead to a permanent decline in output.

BDL says, in contrast to what LPS claims, John Maynard Keynes (JMK) himself did not believe that short-term demand-shocks lead to a permanent decline in output.

To this end, BDL quotes a passage from Ch22 of The General Theory in which JMK describes how a crisis can eventuate. In this description, business managers are disappointed at lower than expected profits (i.e. a ‘declining marginal efficiency of capital’). This causes them to reduce investment and increase their liquidity preference, which in turn causes unemployment.

I disagree with BDL’s claim that the quoted passage suggests Keynes did not believe that a temporary fall in aggregate demand could lead to a long term decline in output. In all honesty, the passage doesn’t seem to suggest anything one way or the other. Perhaps business manager’s profit-expectations were disappointed because of an unanticipated decline in demand. Or perhaps demand remained utterly constant and the business managers just duped themselves into thinking demand was about to take off, and then it didn’t.

This is probably just me being dense, but I just don’t see why BDL thinks that passage proves anything about what Keynes thought about the ‘long term’ effects of ‘short term’ demand fluctuations. The marginal efficiency of capital is defined by Keynes as:

being equal to that rate of discount which would make the present value of the series of annuities given by the returns expected from the capital asset during its life just equal to its supply price. This gives us the marginal efficiencies of particular types of capital-assets. The greatest of these marginal efficiencies can then be regarded as the marginal efficiency of capital in general. The reader should note that the marginal efficiency of capital is here defined in terms of the expectation of yield and of the current supply price of the capital-asset.

The ‘expected annuities’ here are going to depend on what business managers think future profits are going to be, which they determine by ‘projecting forward’ the situation at the present time. The situation at the present time could be the actual number of sales they had that period, which is (part of) aggregate demand. A sudden fall in demand will reduce the expectations of future profits and hence the marginal efficiency of capital.

On a broader point, the use of ‘short term’ and ‘long term’ is massively confusing. The ‘non Keynesian’ argument seems to be that a short term dip is cancelled out by another short term rise, so that the integral of the overall output level for the entire history of human civilization remains constant regardless of period-by-period fluctuations.

I genuinely don’t know (or even much care) what the ‘proper Keynesian’ argument is vis a vis the effect of short term fluctuations on the long term. It seems obvious to me that short term falls in output (i.e. unemployment) will sum to a fall in ‘long term’ output. Perhaps I’m wrong about that, and I’d be grateful if someone could explain why.

The General Theory Chapter 1

The first chapter of John Maynard Keynes’ The General Theory of Employment, Interest and Money is only a paragraph long; but it already exhibits one of the recurring themes of the book, which is Keynes’ insistence that what he calls the “classical theory” of economics is still valid on its own terms. Keynes’ argument is that the classical theory only applies to a “special case only and not a general case”.

He also argues that “the characteristics of the special case assumed by the classical theory happen not to be those of the economic society which we actually live, with the result that its teaching is misleading and disastrous if we attempt to apply it to the facts of experience.” This is an amusingly roundabout way of saying that the traditional theory is pretty much worthless, without actually coming out and saying so.

I read this as a rhetorical gambit on Keynes’ part. He wants his new theory to be palatable to his professional colleagues, so he can’t just dismiss the classical theory as nonsense outright. He has to skirt around the issue. I think this need to conform to certain “economic” assumptions and modes of thinking hampers the presentation at various points later on in the book, but I’ll get into that later.

One particular line in the first chapter needs drawing out:

I shall argue that the postulates of the classical theory are applicable to a special case only and not to the general case, the situation which it assumes being a limiting point of the possible positions of equilibrium.

I don’t like economic equilibrium. It’s one of those tricky economic ideas that seems built on top of a whole raft of other tricky ideas. First you have to accept the existence of two unobservable entities: the demand curve and the supply curve. You then have to assume these two unobservable things have a particular set of characteristics (that they are functions, that they slope in a particular direction, that they are monotonic). You then have to assume they stay in the same shape for an extended but often unspecified length of time. Then you have to accept that there exists some (again more-or-less well described) set of forces causes prices to move to the point of equilibrium (the single point of intersection of these two curves).

So the fact that Keynes is talking about equilibrium at all is disappointing. The reference to a “limiting point” is interesting, but we’ll have to wait and see how this gets developed.

In a footnote to the first chapter Keynes writes that he’s decided to refer to both “classical” (i.e. pre-Marx) and “neoclassical” economists as “classical”. He admits this might be a solecism, but goes right ahead and does it anyway.

Shackle and uncertainty

Reading this interview with G.L.S. Shackle, I am struck by this point:

“involuntary unemployment” merely means that there are people who haven’t enough faith in their expectations to give employment.

Something I’ve always been unclear about with regards to Keynes is whether he (and the post Keynesians, and weird hybrids like Shackle) believed that uncertainty was the only barrier to full employment. There is no obligation on anyone to use all the resources at their disposal. You could argue that the only reason anyone ever maintains excess resources is because of uncertainty, but this presupposes that you – the individual entrepreneur – have direct control the quantity of the resources available to you.

In this context the “resource” is the population of employable people. The entrepreneurial class does not control the population of employable people, and it is not clear that they would necessarily choose to employ the entire population of employable people, even if they had perfect foresight. Indeed it could be argued that the *ahem* entrepreneurial class has an interest in keeping a reserve army of labour unemployed so as to maintain discipline within the ranks of those they do choose to employ.

Once again, economics ignores the political dimension.