...is everywhere. Lots of people in all economic traditions have pointed it out.
J.P. Koning has a great history of the idea here. I especially enjoyed some of the older Pigou passages pointing this out. I need to go back and look for details, but I'm quite sure Mun and some of the other mercantilists raised this point too.
Gene has been reading Malthus lately. Did he?
So what is so special about Keynes and this idea, because as Koning points out it's Keynes that we always associate it with? It could be just that sometimes ideas are crystalized by one person and it gets attached to them. Adam Smith laid out credit rationing and efficiency wage theory quite clearly in Wealth of Nations, but we think of both of those as Stiglitz's ideas. That's just how it works sometimes.
But I think it's a little more than that in Keynes's case. Keynes went beyond simply describing the demand for money or even describing the prospect of a general glut resulting from the demand for money. Both had been covered before. What Keynes did was develop a theory of interest where decisions on the margin about what Koning calls "moneyness" determine the interest rate rather than time preference. This is not to say that time preference is out of the picture, of course. I guess one could say that time preference determines the volume of savings and investment given an interest rate but liqudity preference and expectations determines the term structure itself. With New Keynesian economics, that central story has sort of fallen into the black box that is the random shock in the Taylore rule closure (if it's anywhere), but we're talking about the economics of Keynes here, not Keynesian economics!
Saturday, December 22, 2012
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"So what is so special about Keynes and this idea, because as Koning points out it's Keynes that we always associate it with?"
ReplyDeleteThat's a good question. Pigou and Lavington had already conceived of interest as a reward for parting with convenience/security of money. But Keynes came up with a great name for this, liquidity preference. I'd be willing to bet that he borrowed this from his experience with financial markets. What's in a name? I don't know, but it's a great term and it stuck.
I think Keynes was unique from Pigou/Lavington in adding some stylizations to this story. At times, people might have an infinite demand for liquidity/security. One can't substitute an alternative. Furthermore, money can't be "produced", say like chairs. So the return on money came to "rule the roost".
"This is not to say that time preference is out of the picture, of course. I guess one could say that time preference determines the volume of savings and investment given an interest rate but liquidity preference and expectations determines the term structure itself. "
I agree with this idea, although I don't think Keynes explicitly said that liquidity helped determine the term structure. He tended to assume that liquidity was concentrated in one asset called money which was compared to other interest-yielding capital assets. So an increase in the demand for liquidity would change the general interest rate, not the structure between millions of interest rates.
The way I read Keynes is that liquidity preference determines the term structure because we have different levels of uncertainty at different horizons. I have a certain degree of uncertainty over the next couple days, so I hold cash (actually in reality I rarely hold cash, but that's just an example), I have more uncertainty over the next year, so I've got a chunk that rolls over ever six months, and then I've got uncertainty decades into the future so I have some retirement stashed away that's less liquid. All of this is money, of course. Expectations alone couldn't give you the term structure as we observe it - the yield curve would be essentially flat. Liquidity preference that varies at different time horizons will do it.
DeleteJP Koning has written a fascinating post, but there is another aspect to this.
ReplyDeleteWhen Hoppe (or indeed any Austrian) recognises that money can yield utility he completely overlooks the consequences that has for Mises' regression theorem:
http://socialdemocracy21stcentury.blogspot.com/2012/10/money-has-direct-utility.html
"So what is so special about Keynes and this idea, because as Koning points out it's Keynes that we always associate it with? It could be just that sometimes ideas are crystalized by one person and it gets attached to them. Adam Smith laid out credit rationing and efficiency wage theory quite clearly in Wealth of Nations, but we think of both of those as Stiglitz's ideas. That's just how it works sometimes."
ReplyDeleteSometime ago Daniel, we had a discussion involving Dr. Michael Emmett Brady's paper on Adam Smith, Jeremy Bentham, and John Maynard Keynes. You once indicated that you thought that Keynes and Smith were "similar", but you never elaborated beyond that. Can you tell me how you think Keynes and Smith are similar?
Some would question how "Keynesian" the New Keynesians are...
ReplyDelete