Say's Law: a lynchpin of Austrian Economics--is it dead?

Economics Economics Questions
1

I repost here a thread I started here at Kitco: https://www.kitcomm.com/showthread.php?p=625321&posted=1#post625321

Comments welcome.

I tried to post this on UC Berkeley professor Brad DeLong’s site but
his blog is apparently closed to comments, so I’ll post it here.

I refute Say’s Law, which is one of the theoretical underpinnings of
Keynesianism (money illusion being the other, which is harder to
refute).

RL

Excellent blog! I like Professor DeLong’s style of reaching out to the
masses [but his blog is closed]. I also heard his interview on
Bloomberg podcast the other day that advocated more stimulus, around
$5T more! Now I’m not an economist (but I read the Economist),
however I wonder if the aversion to deflation by both right and left
wing economists is due to Keynes and the supposed refutation of Say’s
Law. I would say Say’s Law is not refuted at the macro level, just at
the micro level.

Here’s my thought experiment to suggest why: if somebody is selling
Chia Pets, a fad gift, and the ‘fad’ of Chia Pets fades, then no
amount of price dropping on the supply side will induce people to buy
Chia Pets, aside from the below cost value of the pottery and alfalfa
seeds ground to aggregate. So, we have refuted Say’s Law–supply does
not create demand at the micro level. BUT–here’s my brilliancy–at
the MACRO level, can we say Say’s Law has been refuted? Not
necessarily. It could be that the persons who used to make Chia Pets
will retool their skills, find out what sells, and offer their
services at a lower price (on average) than before. Society will then
be tempted to employ these people at the new lower price–supply
creates demand.

Fast forward to today: the Chia Pet makers is the finance sector,
which has grown from 5% to 15% of GNP. Nobody wants these people, nor
their products (leveraged finance). The solution is not to pour more
money in this sector, but to let prices crash, let these people
“retool” to become computer programmers, brain surgeons, gardeners,
semi-pro basketball players, and the like, and offer their services at
a different and possibly lower price. Say’s Law at the MACRO level
(the sum of all people and their fears/wants) still applies. This is
not a proof, but a premise. The minor premise is wages are not
sticky, and a corollary is that people can retool to do something else
in life quickly.

Perversely, Keynesian solutions, as the Austrian economists like to
point out, prevent adjustment from occurring by “locking in” people to
continue along their failed, status quo, ways. This is wasteful, as
well as actually preventing Say’s Law from operating. Hence Keynes
did not refute Say’s Law at the macro level, he just made it
impossible to work!

Thank you for your attention.

Ray Lopez

cryptocode says:

This is at least the second thread you’ve started on Say’s Law. What is your interest in it, and what is your goal?

Because I’m interested in economics in general I’d like to here a more intense and academic discussion of this Law from different views.

Please post your question on https://forum.freecapitalists.org/forums/ where you will get that kind of discussion. I’d like to read it. If you don’t, I will, but I can not defend your argument as well as you can.

Ray Lopez says:

I will check out Mises; please do post it there. I suspect strongly the Austrians will simply say that Say’s Law has not been refuted. They will not elaborate.

Unfortunately it’s not so simple. I think, very short term, that Say’s Law indeed at a macro level (sum of micros) does not work, just like it clearly does not work at the micro level (our Chia Pet example). But–and this is key–how short is "short in “short term”? That is the key to Keynesianism. Put another way: is Obama’s stimulus designed for 3 months? Six months? 1 years? 4 years? How short is short?

Second question, which the Austrians will agree I think: even if Keynesianism is only designed for 3 months, not longer, you risk the chance that resources will be misallocated because people will not “retool” to do new things–that the maintenance of the status quo (which is what Keynesianism does) is damaging.

I’ll also post to Mises (or look for your post) since I belong to that forum.

PS–indeed the Mises first answer to Say’s Law is woefully simplistic, see here: https://forum.freecapitalists.org/blogs/thecritiques/archive/2009/03/03/towards-a-greater-understanding-of-say-s-law.aspx

2

Says law has not been refuted . it is true.

Keynes ‘straw-manned’ Says law.

keynes and anyone else who tried did/could show that ‘supply creates its own demand’ is false.

but that of course is not Says law.

try ‘supply constitutes its own demand’, or in other words. ‘real demand is only possible with a supply.’

‘goods are paid for with goods’

this is true micro and macro up and down.

thanks for listening.

3

Explain Say’s law and explain why it is refuted, sparing us of the vagaries.

4

What he said ^^^.

You would think that the idea that your purchasing power is derived from what you produce may seem simple enough, but it’s confused a whole lot of economists. You first have to identify what Say’s Law is, and more inportantly what it is not. It is not:

  • “supply creates demand”
  • “if you build it they will come”, etc

As production constitutes demand for other goods, then we can extrapolate other points:

  • money is simply a medium of exchange
  • there cannot be a “general overproduction” which causes recessions.

Say’s Law isn’t the cornerstone of classical economics, and from what I’ve seen, not only did Keynes fail to refute it, he couldn’t even state it correctly.

Bill Anderson has a good paper on it: http://mises.org/journals/scholar/sayslaw.pdf, and Hazlitt did a good job in defending it in Failure of the New Economics.

5

I notice Say’s Law is hard to pin down. Below are some comments on the paper SAY’S LAW: WERE (ARE) THE CRITICS RIGHT?* by William L. Anderson.

But essentially, my original post had it right. Look at the numbered paragraphs 1 through 6 in the Anderson paper excerpt below. This is the ‘true’ definition of Say’s Law, says this economist, with whom I assume the Austrians agree.

Now topics for debate:

(1) why does the author say that “even the critics [of Say’s Law] held to the first three propositions”? I don’t agree Keynes would agree with proposition #2 below, in fact, he expressly (see below) disagrees! This then is an overstatement by the author, and not really debatable.

(2) who says that proposition #5 is true? ("5. “A higher rate of savings will cause a higher rate of subsequent growth in aggregate output.”)? And, doesn’t “will cause” imply a FUTURE benefit? So Keynes was right after all, since he said Say’s Law does not apply in the short term, and by implication the below author, who is clearly sympathetic to the Austrians, implicitly agrees. Short term then, Say’s Law at the macro (aggregate) level is dead. Long term, yes, Say’s law works for everybody.

(3) Proposition #6 below is exactly what I wrote in my original post, about “retooling”.

But again, the main thrust is this:

Is Say’s Law invalid at the macro level (for society as a whole), over the short term? I say it is invalid (Say’s Law does not work). Keynes would agree. And as I replied in my original post (I jumbled short and long term, but I trust it is clear now): short term–which is Keynesianism–Say’s Law does NOT work. Keynes was right on this point. But, the Austrians are correct as well (as I said in my original post directed to Brad DeLong), because LONG TERM, at the macro level, Say’s Law DOES work. And, because of the benefit of “retooling” and not wasting resources on the “status quo” (like, today, in supporting a rotten and overleveraged finance sector), the Austrians preference or promoting of the long-term over the short-term is correct.

Anybody disagree? The only possible points of contention that I see, logically, are:

(A) if you believe that even short term Say’s Law works. I don’t think you can say so, based on the below, unless you are a very extreme Austrian, and even then, you would have to assume that recessions are not caused by a shift in society’s expecations, but rather solely by some other phenomena like mispricing of money.

(B) if you believe, as perhaps an “extreme” Keynesian would, that Say’s Law is never correct, even in the long term. I’m not sure even Keynes would take that extreme position.

RL

Excerpts:

The obvious question, then, is: What is Say’s Law? The popular answer, or at least the version of the law with which most commentators are familiar, is that “supply creates its own demand.” In other words, demand in the marketplace is derived from that which has been produced. Writes Benjamin Anderson (1949), “The prevailing view among economists, . . . has long been that purchasing power grows out of production. The great producing countries are the great consuming countries.” To simply say that “supply creates its own demand” however, is to inadequately state the law and to undermine the context in which Say wrote it; to suggest this law is Say’s only legacy would also
be doing Say and his writings a great disservice. Say might not have reached his goal of becoming the world’s greatest economist, but he was a powerful economic thinker and the direction of classical economic thought was due in large part to this Frenchman.

In presenting Say’s Law, Henry Hazlitt (1959) wrote, “Whenever business was bad, the
average merchant had two explanations at hand: the evil was caused by a scarcity of money and by
general overproduction. Adam Smith, in a famous passage in The Wealth of Nations, exploded the
first of these myths. Say devoted himself to a refutation of the second.” In other words, Say was not
attempting to create a doctrine which said that business downturns or recessions were impossible, but
rather tried to explain why he believed that recessions (Say did not use that term) were not caused by a
general overproduction of goods. In fact, any unbiased reader can see that Say was actually describing
what one might call recession conditions.

Sowell (1994) writes that in the Classical system, Say’s Law “involved six major propositions.”
Sowell writes:

  1. “The total factor payments received for producing a given volume (or value) of output are
    necessarily sufficient to purchase that volume (or value) of output.”
  2. “There is no loss of purchasing power anywhere in the economy.” (In other words, no
    Keynesian “leakages.”) “People save only to the extent of their desire to invest and do not
    hold money beyond their transactions need during the current period.”
  3. “Investment is only an internal transfer, not a net reduction, of aggregate demand.”

4. “In real terms, supply equals demand ex ante, since each individual produces only because of,
and to the extent of, his demand for other goods.”
5. “A higher rate of savings will cause a higher rate of subsequent growth in aggregate output.”
6. “Disequilibrium in the economy can exist only because the internal proportions of output differ
from consumer’s preferred mix – not because output is excessive in the aggregate.”

As Sowell points out, even the critics held to the first three propositions. It was the last three
that created the controversy. (It should also be noted that the last proposition helps form the basis for
the Austrian Business Cycle Theory as outlined by Ludwig von Mises, F.A. Hayek, and Murray N.
Rothbard.)

As might be expected the real source of the conflict between supporters of Say’s Law and its
opponents came with the controversy over whether or not gluts – unsold inventories – were
proportional or general. Proponents of Say’s Law believed the former, while Malthus and others held
to the latter, which falls under the aegis of theories of underconsumption.

6

im sorry, you’ve given me too much homework and im not incentivized. please brake down your questions to managable chunks, the truth is out there though it needs to be coaxed in…

perhaps before posting your most pressing questions (which we can expand from) find a way to acknowledge the difference between Say’s law as it is found in Say and those who built on his work, and those followers of Keynes that are critiquing quite another law, that they have confusingly named ‘Say’s law’

7

Do as I asked.

8

Your first post hardly provides an argument as to why Say’s Law is refuted, and moreover it doesn’t pin-point exactly what about Say’s Law you are refuting.

The Austrian Business Cycle Theory doesn’t hold that factors such as a shift in expectations doesn’t exist, but recessions are not caused by failures in particular industries, they are caused by collective misinvestments. And so, the ABCT pinpoints what allows overspeculation and misinvestment to happen on a level in which it will cause a recession, and that is an inflationary fiscal policy (in the modern sense, an expansion of credit). This doesn’t necesarilly have be an “extreme Austrian” view, as Garet Garret was not an “extreme Austrian” and yet pinpointed the blame of the Great Depression on the credit expansion during the 1920s (his book was published in 1932).

Now, of the “three last points” of Say’s Law (your 4-6) what exactly are you refuting? What are your arguments? You aren’t really presenting a thesis to which we can respond to. You want us to create an argument against a general presentation of Say’s Law, without actually presenting what you are refuting and how you are refuting it.

9

Sorry nirgrahamUK no offense to you and Ignasius? on this thread but I cannot lead a horse to water. Wikipedia is a resource too.

Seems like the differences might be ideological rather than factual however. Since Say’s Law is a lynchpin, it would be embarassing to Austrians if it fails. Hence I suspect they don’t want to even discuss Say’s Law, rather preferring to couch their language in something that sounds like Say’s Law but they call collective misallocation or malinvestment.

Marxists also have the same problem–they don’t use the language as conventional economists, making discourse possible, though with Marxists at least you can pin them down on the labour theory of value, which is their Achilles Heel.

Another weak point about Austrian theory is the so-called “money illusion”–which Austrians don’t believe exists, though real life experiments have shown exists. Do you know what I’m even talking about? It’s a topic for another thread. It’s the second lynchpin (along with Say’s Law’s refutation) in Keynesianism.

RL

10

Jonathan M. F. Catalán wrote: “Your first post hardly provides an argument as to why Say’s Law is refuted, and moreover it doesn’t pin-point exactly what about Say’s Law you are refuting.”

I assume you meant my second post. I thought I was clear–perhaps some ‘cognitive dissonance’ on your end, amigo?

The Austrian Business Cycle Theory doesn’t hold that factors such as a shift in expectations doesn’t exist, but recessions are not caused by failures in particular industries, they are caused by collective misinvestments.

That’s fine–a prerequisite of Say’s Law is that there is such a failure. The solution that Say’s Law dictates is that changing supply will fix such a failure. This was ‘proved’ by Keynes wrong–changing the supply does not fix the failure, at least short term.

And so, the ABCT pinpoints what allows overspeculation and misinvestment to happen on a level in which it will cause a recession, and that is an inflationary fiscal policy (in the modern sense, an expansion of credit). This doesn’t necesarilly have be an “extreme Austrian” view, as Garet Garret was not an “extreme Austrian” and yet pinpointed the blame of the Great Depression on the credit expansion during the 1920s (his book was published in 1932).

Unfortunately this does not address Say’s Law–which I feel you still don’t understand. I’m a bit disappointed by this forum since I assumed it would be more erudite than Kitco, but it just seems a bit more hostile and ideologically biased.

A good resource on Say’s Law is here (please read the link, not just the excerpt, in its entirety before replying).

In economics, Say’s Law or Say’s Law of Markets is a principle attributed to French businessman and economist Jean-Baptiste Say (1767-1832) stating that production, or supply, inherently creates demand for what is produced. An important implication of Say’s Law is that recessions do not occur because of inadequate demand or lack of money. According to Say’s Law, the production of goods provides the means to the producers to purchase what is produced, and hence, demand will grow as supply grows. For this reason, prosperity should be increased by stimulating production, not consumption. Another implication of Say’s Law is that the creation of more money simply results in inflation; more money demanding the same quantity of goods does not create an increase in real demand.

Following John Maynard Keynes, modern Keynesian macroeconomists argue that Say’s Law only applies when prices are fully flexible. In the short run, when prices are not flexible, a drop in aggregate demand can cause a recession.[1]

Economists such as Thomas Sowell (who wrote his doctoral dissertation on the idea) of the Chicago School have advocated Say’s law. Arthur Laffer, the supply-sider, also adhered to the law, as does the Austrian School.

11

I think it is useful…should not be refuted or taken as LAW. the guy made a point.

However he fails to undertand what comes first, supply or demand. Demand is always first; you produce something because you think there is a demand for your product, “you can’t create your own demand”.

12

ditto!

please, first acknowledge that there are two different "Say’s Law"s. lets coin some jargon to differentiate them.

there is SSay’s Law = Say’s Say’s Law

and KSay’s Law = Kenye’s Says Law.

////////////////////

my position is that:

SSLaw, is true.

KSLaw, is false.

/////////////////////

Keynes, proved KSLaw to be false. with this any austrian would agree.

Keynes, didnt do a great service to economics though, because he confused his proof that ‘KSLaw is false’ with a proof he never provided (and that could not be provided) that ‘SSLaw is false’ . this has led to no end of nonsense. and arguably to the current global financial crises.

if you acknowledge this distinction then we can talk in more detail about what you like. whichever law it is that interests you. When asking question on this particular thread, please be explicit with any question that you might pose about “Says Law”, stating whether its SSLaw or KSLaw that you are asking about. as I will have different answers depending on which you are focused on.

13

RayLopez, I don’t mean this as an insult, but you really should work on making more concise and readable posts. Half of your post is irrelevant chatter with someone else.

Anyway, it seems you have misunderstood Say’s law (or I misunderstood your argument). Whatever you produce has to have utility for others. Products don’t automatically fetch an above-cost price.

Also, it’s usually not conductive for a discussion to open up with insults.

14

First of all, wipe the dribbling venom away from your mouth. It’s not going to do you much good here. Second of all, what does that formulation of Say’s law have to do with the Austrians? I’m a bit disappointed in your ability to put forth any sort of coherent argument. But maybe you just seem a bit more hostile and ideologically biased. Maybe “Lord Keynes” didn’t understand Say’s law? It isn’t so much about Austrians speaking in some “other” language as it is about using terms in their original meanings for the most part, given that the Austrian school predates many of the currents in modern economics and also given that its adherents explicitly define their terms. Who is “ignasius” by the way?

15

No, in that particular case, I meant your first post. You don’t provide an argument; neither did you provide an argument in this post. You are simply copy and pasting from Wikipedia, without presenting any type of case. You are claiming that Say’s Law is incorrect, but you don’t provide an argument as to why.

The Austrian Business Cycle Theory suggests that the collective failure was due to a massive expansion of credit, driving loan interest rates down. These low interest rates send the signal that the consumer is saving (because, naturally, low interest rates are a product of increased savings; while, in reality, the low interest rates are only artificial, they do not represent a change in the consumer’s time preference). And so, there was a general malinvestment. That is, producers were investing in high-order capital goods. So, the producer was not offering a product that was in demand.

So, I don’t think Say’s Law suggests a change in the supply, as in a stimulus in supply, but just a liquidation of the bad investments so that aggregate supply will shift back to where it should have been without the expansion of credit. That is, aggregate supply should shift back to aggregate demand, as opposed to aggregate demand shifting to the new aggregate supply.

It does, it actually has a lot to do with Say’s Law (including the notion that interest rates lower when savings increase). There are more aspects to Say’s Law than what you claimed above.

The Austrian’s argument is that there the “drop in aggregate demand” is not as great as Keynesians would like to assume; at least, for the consumer (Rothbard uses the figure of 30% to represent the fall in consumer demand and 50% to represent the fall in the demand for industrial goods). While the 30% suggests that there was a drop in aggregate demand as a result of the recession (decrease in purchasing power), the recession was caused my a general malinvestment caused by the artificial expansion of credit.

But, this very quote shows that you are contradicting yourself… and by your own definition you are lacking a true understanding of Say’s Law. You, at first, suggested that for Say’s Law to apply the recession already has to take place, while now you’re saying that Say’s Law is wrong and it’s a drop in aggregate demand that causes the recession.

16

Ludwig von Mises made an excellent article on Say’s Law of Markets- and here it is http://mises.org/daily/1803

17

Why is it important to you to either prove, or refute Say’s Law? What difference would it make, as you see it?

18

“and how does that make you feel?”

19

I’m going to assume this is the passage you are claiming disproves Say’s law.

You are making a false distinction between Say’s law in “macro” and “micro.” Say’s law says that aggregrate production equals aggregate demand, meaning it explicitly doesn’t apply to your Chia Pet scenario. One thing Say’s law does not say is that everything made will be sold.

20

Thanks Luis Buenaventura . I read this but I found nothing about Say’s Law’s is correct except the author “just saying so”. Can you post what you think in this article supports Say’s Law? The Wikipedia article by contrast was much more informative.