Aggregate Demand
Retail sales, bankruptcies, foreclosures, job losses. Collapsing, cascading, accelerating, ever more massive. When a company tightens its belt, lays off or downsizes, it is doing what it needs to do to remain profitable.
But when all companies do this, and all shrink their payrolls, the demand for all goods shrinks and the business climate soon calls for another round of downsizing. Whatever else this moment in economic time is, it is a good look at demand destruction and a good opportunity to examine the key Keynsian concept -- Aggregate Demand.
Auto makers come to Washington for bailouts to save three million jobs. Part of their business plan to solicit the money is to downsize their workforces. Robert Reich here called this "paradoxical."
As a condition of getting a federal bailout, the Big Three are promising, among other things, to cut costs. Among the costs to be cut ...
... will be jobs. This is paradoxical, since the reason Congress is considering bailing them out in the first place is to preserve jobs and avoid the social costs of large-scale job loss (unemployment insurance, lost tax revenues, pension payments that have to be picked up by the Pension Benefit Guarantee Corporation, and so forth).
We should take a lesson from the Chrysler bailout of the early 1980s. The ostensible reason Congress voted for it was to preserve Chrysler jobs. Yet once the bailout was underway, in order to generate the money it needed to restructure itself, Chrysler laid off more than a third of its workforce. Most of these jobs never came back.
And it's much the same with the mammoth bailout of Wall Street. Absent an explicit understanding of why public money is needed and what it's to be used for, taxpayer dollars end up bolstering executives, creditors, and shareholders rather than the workers and communities that need the most help.
Bailouts without conditions are masquerading Supply Side trickle-down as socialism. As unfettered free market, you will recall, Supply Side trickle down suggested that government keep its filthy hands off because the private sector was doing everything that needed to be done.
It is to our great benefit that the president elect seems to have demand side in his economic DNA. By not backing off infrastructure, green energy, a service corps (I hope), or national health care, Mr. Obama is right in the mainstream of both the New Deal and Keynesianism. But back to the point.
Aggregate Demand is very clear in this dynamic phase, the condition of demand destruction.
Demand destruction, referring to this total demand, can arise from:
- Businesses (as in our example) laying off workers and eliminating their incomes.
- People who fear layoffs (or who are now being instructed on how profligate they are) beginning to save. This is Keynes' "paradox of thrift." Rational in the individual case, but damaging to the collective case.
- Businesses, seeing weak prospects, failing to invest.
- Governments, particularly state and local governments who may have legal restrictions, cutting services and jobs as their tax revenues are reduced by slowing economic activity.
- Foreign nations reducing call for American-made goods. (The dollar up, the cost of American products to other nations is down, demand is down.)
So it is fairly clear that the only real prospect for aggregate demand is federal government spending. I've gone over this before. Let me just offer a few clips from a letter to Franklin Delano Roosevelt by the estimable J.M. Keynes, December 31, 1933, reproduced from here.
...
My second reflection relates to the technique of recovery itself. ... Broadly speaking ... an increase of output cannot occur unless by the operation of one or other of three factors. Individuals must be induced to spend more out of their existing incomes; or the business world must be induced, either by increased confidence in the prospects or by a lower rate of interest, to create additional current incomes in the hands of their employees...;
or public authority must be called in aid to create additional current incomes through the expenditure of borrowed or printed money. In bad times the first factor cannot be expected to work on a sufficient scale. The second factor will come in as the second wave of attack on the slump after the tide has been turned by the expenditures of public authority. It is, therefore, only from the third factor that we can expect the initial major impulse.
...
The set-back which American recovery experienced this autumn was the predictable consequence of the failure of your administration to organise any material increase in new loan expenditure during your first six months of office. The position six months hence will entirely depend on whether you have been laying the foundations for larger expenditures in the near future.
...
The other set of fallacies, of which I fear the influence, arises out of a crude economic doctrine commonly known as the quantity theory of money. Rising output and rising incomes will suffer a set-back sooner or later if the quantity of money is rigidly fixed. Some people seem to infer from this that output and income can be raised by increasing the quantity of money. But this is like trying to get fat by buying a larger belt. In the United States to-day your belt is plenty big enough for your belly. It is a most misleading thing to stress the quantity of money, which is only a limiting factor, rather than the volume of expenditure, which is the operative factor. ...
Who John Maynard Keynes was Not
Keynes was not an ivory tower academic: Though he matriculated at Eton and studied and taught at Kings College Cambridge, Keynes was socially sophisticated and arty. He married a well-known Russian ballerina. He was also a public servant of some standing both early and late in his career. His "Economic Consequences of the Peace" deriding the Treaty of Versailles, was widely popular and prescient in predicting the rise of Fascism from the impossibly punitive terms of the Treaty. Keynes was a significant person in the negotiations before he resigned in disgust. In the interwar period, Keynes was very well known, but not in government. During and after the World War II, Keynes was again a dominant figure in the British Treasury. His imprint is all over the Bretton Woods agreement that set up international finance after the war. (To be fair, Bretton Woods was bent to the preferences of the Americans and its institutions were subsequently distorted into forms Keynes would not have recognized.)
Keynes was not a Labour Party loyalist. He was attracted to the Labour Party superficially, but opined that in the end, the party was a class party, and "...the class is not my class. If I am going to pursue sectional interests at all, I shall pursue my own. When it comes to class struggle and such, my local and personal patriotisms, like those of everyone else, except certain unpleasant zealot ones, are attached to my own surroundings. I can be influenced by what seems to me to be Justice and good sense, but the class war will find me on the side of the educated bourgeoisie." (quoted in Robert Lekachman, "The Age of Keynes," 1967)
Keynes was not a New Dealer. His use of the public sector was as a necessary counterweight to the excesses of the private sector. Social security, unemployment insurance and other social safety net programs may be Keynesian in that they are countercyclical, but Keynes himself was interested in making Capitalism work, or using it as the dynamic component of the society, at least. (Keynes famously said, "Capitalism is the astounding believe that the most wickedest of men will do the most wickedest of things for the greater good of everyone.")
The opening of Keynes' letter to Roosevelt above is instructive, because it reflects his concern that Fascism or Communism were both doing better for their citizens in 1933 than Market Capitalism.
Dear Mr President,
You have made yourself the trustee for those in every country who seek to mend the evils of our condition by reasoned experiment within the framework of the existing social system. If you fail, rational change will be gravely prejudiced throughout the world, leaving orthodoxy and revolution to fight it out. But if you succeed, new and bolder methods will be tried everywhere, and we may date the first chapter of a new economic era from your accession to office.