Monday, June 13, 2011

More on the wonders that actually reading Keynes can do... Bob Murphy edition

Not that I want to continue that debate with Bob Murphy where he pointed out a problem, I conceded, and he continued to act as if I never conceded... but he puzzled me when he said this:

"You seem to be saying, “Oh, the Keynesian theory is still right, it’s just that unemployment is driving expenditures.” But no, that’s the opposite of what Keynesian theory says. If changes in unemployment are what drive expenditures during the business cycle, then Krugman et al. are wrong for saying we need the gov’t to boost spending to maintain aggregate demand."

That seemed a little odd and a lot wrong. I thought "somebody oughta warn Franco Modigliani!". Let's just take a look:

"There are also other factors, over and above the operation of the general rule just mentioned, which may operate to modify the marginal propensity to consume, and hence the multiplier; and these other factors seem likely, as a rule, to accentuate the tendency of the general rule rather than to offset it. For, in the first place, the increase of employment will tend, owing to the effect of diminishing-returns in the short period, to increase the proportion of aggregate income which accrues to the entrepreneurs, whose individual marginal propensity to consume is probably less than the average for the community as a whole. In the second place, unemployment is likely to be associated with negative saving in certain quarters, private or public, because the unemployed may be living either on the savings of themselves and their friends or on public relief which is partly financed out of loans; with the result that re-employment will gradually diminish these particular acts of negative saving and reduce, therefore, the marginal propensity to consume more rapidly than would have occurred from an equal increase in the community’s real income accruing in different circumstances."

Or, to put it in modern Keynesian-theory-speak (for those who have imagined some massive rift between Keynes and Keynesians) "When your income is zero you still have some autonomous spending that you find a way to finance, and you consume 100% of your income until you hit the point where the C curve and that Y=E curve on the Keynesian cross meet, after which point you consume a smaller share of your income".

I should hope the concept of "feedback loops" is reasonably accessible to people. Lower expenditures can cause unemployment and unemployment can cause lower expenditures, and lower expenditures with unemployment are still consistent with a life-cycle income hypothesis (which motivates the autonomous consumption idea). Intervention does not become meaningless in a feedback loop.

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