4. The Time Market and the Production Structure
The time market, like other markets, consists of component individuals whose schedules are
aggregated to form the market supply and demand schedules. The intricacy of the time market
and of the money market as well consists in the fact that it is also divided and subdivided
into various distinguishable sub-markets. These are aggregable into a total market,
but the subsidiary components are interesting and highly significant in their own right
and deserve further analysis. They themselves, of course, are composed of individual supply
and demand schedules.
We may divide the present-future market into two main subdivisions, the production structure
and the Consumer Loan Market.
Let us turn first to the production structure.
Money moves from consumers' goods back through the various stages of production, while goods
flow from the higher through the lower stages of production, finally to be sold as consumers'
goods.
The pattern of production is not changed by the fact that both specific and non-specific
factors exist.
Since the production structure is aggregated, the degree of specificity for a particular
product is irrelevant in a discussion of the time market.
There is no problem in the fact that different production processes for different goods take
unequal lengths of time.
This is not a difficulty because the flow from one stage to another can be aggregated
for any number of processes.
There are, however, two more serious problems that seem to be involved in aggregating the
production structure for the entire economy.
One is the fact that in various processes, there will not necessarily be an exchange
of capital goods for money at each stage.
One firm may vertically integrate within itself one or more stages, and thereby advance
present goods for a greater period of time.
We shall see, however, that this presents no difficulty at all, just as it presented
no difficulty in the case of particular processes.
A second difficulty is the purchase and use of durable capital goods.
We have been assuming, and are continuing to assume, that no capital goods or land are
bought, that they are only hired, that is, rented, from their owners.
The purchase of durable goods presents complications, but again, as we shall see, this will lead
to no essential change whatever in our analysis.
Let us begin with the expenditure of consumers on consumers' goods.
The movement of money is from consumers to the sellers of consumers' goods.
This is not a time transaction, because it is an exchange of present goods, money, for
present goods, consumers' goods.
The fact that consumers may physically consume all or part of these goods at a later date
does not affect this conclusion, because any further consumption takes place outside the
money nexus, and it is the latter that we are analyzing.
These producers of consumers' goods are necessarily capitalists who have invested in the services
of factors to produce these goods and who then sell their products.
Their investment in factors consisted of purchases of the services of land factors and labor
factors, the original factors, and first-order capital goods, the produced factors.
In both these two large categories of transactions, exchanges that are made a stage earlier than
the final sale of consumers' goods, present goods are exchanging for future goods.
In both cases, the capitalists are supplying present money in exchange for factor services
whose yield will materialize in the future, and which therefore are future goods.
So the capitalists who are producing consumers' goods, whom we might call first stage capitalists,
engage in time transactions in making their investments.
The components of this particular subdivision of the time market then are supply of present
goods, capitalists one, supply of future goods, landowners, laborers, capitalists two.
Capitalists 1 are the first stage capitalists who produce consumers' goods.
They purchase capital goods from the producer-owners, the second stage capitalists or capitalists
2.
At the next stage, the capitalists 2 have to purchase services of factors of production.
They supply present goods and purchase future goods, goods which are even more distantly
in the Future than the product that they will produce.
No important complication arises from the greater degree of futurity of the higher order
factors.
As we have indicated, a more distantly future good will simply be discounted by the market
by a greater amount, though at the same rate per annum.
The interest rate, that is, the discount rate of future goods per unit of time, remains
the same regardless of the degree of futurity of the good.
This fact serves to resolve one problem mentioned earlier, vertical integration by firms over
one or more stages.
If the equilibrium rate of interest is 5% per year, then a one-stage producer will earn
5% on his investment, while a producer who advances present goods over three stages for
three years will earn 15%, that is, 5% per annum.
These future goods are supplied by landowners, laborers and capitalists.
To sum up, at the second stage, supply of present goods is provided by capitalists too.
Supply of Future Goods by Landowners, Laborers and Capitalists III
This pattern is continued until the very last stage, at this final stage, which is here
the sixth.
The sixth stage capitalists supply future goods to the fifth stage capitalists, but
also supply present goods to laborers and landowners in exchange for the extremely distant future
The Transactions for the two highest stages are then as follows, with the last stage designated as N instead of 6.
Fifth stage, supply of present goods provided by capitalists 5, supply of future goods by landowners, laborers and capitalists N.
At the nth stage of production, supply of present goods is provided by capitalists n, supply of future goods by landowners and laborers.
We may now sum up our time market for any production structure of n stages.
Suppliers of present goods include capitalists 1, 2, 3 through n.
Suppliers of future goods, demanders of present goods, include all landowners, all laborers, and capitalists II, III, through N.
To illustrate clearly the workings of the production structure, let us summarize the quantities of present goods supplied and received by the various components of the time market.
We may use the same figures here to apply to the aggregate production structure, although the listener may wish to consider the units as multiples of gold ounces in this case.
Furthermore, the fact that the ERE interest rate will be the same for all stages and all goods in the economy especially permits us to aggregate the comparable stages of all goods.
For if the rate is 5%, then we may say that for a certain stage of one good, payments by capitalists to owners of factors are 50 ounces, and receipts from sales of products are 52.5 ounces, while we can also assume that the aggregate payments for the whole economy in the same period are 5,000 ounces, and receipts, 5,250 ounces,
The same interest rate connotes the same rate of return on investments,
whether considered separately or for all goods lumped together.
Suppose, for example, that we stipulate that in a production process of end stages,
capitalists invest a total of 318 ounces, 83 ounces of which goes to land and labor owners,
and 235 ounces of which goes to purchase factor services of capital goods of a higher order.
From this it is easy to derive the net money income of the various participants,
their gross money income minus their money payments if we include the entire period of time
for all of their transactions on the time market. The case of the owners of land and labor is
is simple, they receive their money in exchange for the future goods to be yielded by their
factors.
This money is their gross and their net money income from the productive system.
The total of net money income to the owners of land and labor is 83 ounces.
This is the sum of the money incomes to the various owners of land and labor at each stage
of production.
The case of the capitalists is far more complicated.
They pay out present goods in exchange for future goods and then sell the maturing, less
distantly future products for money to lower stage capitalists.
Their net money income is derived by subtracting their money outgo from their gross income
over the period of the production stage.
In our example, capitalists two spend 76 ounces out of a gross income of 80 ounces for a net
income of 4 ounces.
Capitalists three spend 57 ounces out of a gross income of 60 ounces for a net income
of 3 ounces.
Capitalists four spend 43 ounces out of a gross income of 45 ounces for a net income
of 2 ounces.
Capitalists 5 spend 28 ounces out of a gross income of 30 ounces for a net income of 2 ounces.
Capitalists N spend 19 ounces out of a gross income of 20 ounces for a net income of 1 ounce.
The total net income of the capitalists producing capital goods, orders 2 through N, is 12 ounces.
What, then, of capitalists won, who apparently have not only no net income, but a deficit
of 95 ounces?
They are recouped not from the savings of capitalists, but from the expenditure of consumers,
which totals 100 ounces, yielding a net income to capitalists won of 5 ounces.
It should be emphasized at this point that the general pattern of the structure of production
and of the time market will be the same in the real world of uncertainty as in the ERE.
The difference will be in the amounts that go to each sector and in the relations among
the various prices.
We shall see later what the discrepancies will be.
For example, the rate of return by the capitalists in each sector will not be uniform in the
and the Real Market, but the pattern of payments, the composition of suppliers and demanders, will be the same.
In analyzing the income-expenditure balance sheets of the production structure, writers on economic problems have seen that we may consolidate the various incomes and consider only the net incomes.
The temptation has been simply to write off the various inter-capitalist transactions as duplications.
If that is done here, then the total net income in the market is capitalists 17 ounces,
12 ounces for capital good capitalists and 5 ounces for consumers good capitalists, land and labor factors 83 ounces.
The grand total net income is then 100 ounces. This is exactly equal to the total of consumer
spending for the period. Total net income is 100 ounces and consumption is 100 ounces. There is,
therefore, no new net saving. We shall deal with savings and their change in detail later.
Here the point is that in the endless round of the ERE, zero net savings, as thus defined, would mean that there is just enough gross saving to keep the structure of productive capital intact, to keep the production processes rolling, and to keep a constant amount of consumers' goods produced per given period.
It is certainly legitimate and often useful to consider net incomes and net savings,
but it is not always illuminating, and its use has been extremely misleading in present-day economics.
Use of the net national income figures, it is better to deal with social income,
extending throughout the market community using the money, rather than to limit the scope to
and National Boundaries, leads one to believe that the really important element maintaining
the production structure is consumer spending.
In our E.R.E. example, the various factors and capitalists receive their net income and
plow it back into consumption, thus maintaining the productive structure and future standards
of living, that is, the output of consumers' goods.
The inference from such concepts is clear.
Capitalist savings are necessary to increase and deepen the capital structure.
But even without any savings, consumption expenditure is alone sufficient to maintain
the productive capital structure intact.
This conclusion seems deceptively clear-cut.
After all, is not consumer spending the bulwark and end product of activity?
This thesis, however, is tragically erroneous.
There is no simple automatism in capitalist spending, especially when we leave the certain
world of the E.R.E., and it is in this real world that the conceptual error plays havoc.
For with production divided into stages, it is not true that consumption spending is
is sufficient to provide for the maintenance of the capital structure.
When we consider the maintenance of the capital structure, we must consider all the decisions
to supply present goods on the present-future market.
These decisions are aggregated.
They do not cancel one another out.
Total savings in the economy, then, are not zero, but the aggregation of all the present
Capitalist Goods Supplied to Owners of Future Goods During the Production Process.
This is the sum of the supplies of Capitalists One through Capitalists N, which totals 318
ounces.
This is the total gross savings, the supply of present goods for future goods in production,
and also equals total gross investment.
Fund is the amount of money spent on future good factors and necessarily equals savings.
Total expenditures on production are 100 consumption plus 318 investment or savings equals 418
ounces.
Total gross income from production equals the gross income of capitalists one, 100 ounces,
plus the gross income of other capitalists, 235 ounces, plus the gross income of owners
of land and labor, 83 ounces, which also equals 418 ounces.
The system depicted in our example of the production structure, then, is of an economy
in which 418 gold ounces are earned in gross income, and 100 ounces are spent on consumption,
while 318 ounces are saved and invested in a certain order in the production structure.
In this evenly rotating economy, 418 ounces are earned and then spent, with no net hoarding
or dis-hoarding, that is, no net additions or subtractions from the cash balance over
the period as a whole.
Problems of hoarding and dis-hoarding from the cash balance will be treated in Chapter
2011 on Money, and are prescinded from the present analysis.
Thus, instead of no savings being needed to maintain capital and the production structure
intact, we see that a very heavy proportion of savings and investment, in our example
three times the amount spent on consumption, is necessary simply to keep the production
structure intact.
The contrast is clear when we consider who obtains income and who is empowered to decide
whether to consume or to invest.
The net income theorists implicitly assume that the only important decisions in regard
to consuming versus saving investing are made by the factor owners out of their net income.
Since the net income of capitalists is admittedly relatively small, this approach attributes
little importance to their role in maintaining capital.
We see, however, that what maintains capital is gross expenditures and gross investment,
and not net investment.
The capitalists at each stage of production, therefore, have a vital role in maintaining
Concretely, let us take the case of the capitalists' one.
According to the net income theorists, their role is relatively small, since their net
income is only 5 ounces.
But actually, their gross income is 100 ounces, and it is their decision on how much of this
In the ERE, of course, we simply state that they save and invest 95 ounces.
But when we leave the province of the ERE, we must realize that there is nothing automatic
about this investment.
There is no natural law that they must reinvest this amount.
It is, for example, that the capitalists, one, decide to break up the smooth flow of
the ERE by spending all of the 100 ounces for their own consumption, rather than investing
the 95 ounces.
It is evident that the entire market-borne production structure would be destroyed.
No income at all would accrue to the owners of all the higher-order capital goods, and
and all the higher-order capital processes, all the production processes longer than the
very shortest, would have to be abandoned.
We have seen, and shall see in more detail, that civilization advances by virtue of additional
capital, which lengthens production processes.
Greater quantities of goods are made possible only through the employment of more capital
in longer processes.
Should capitalists shift from saving investment to consumption, all these processes would
be necessarily abandoned, and the economy would revert to barbarism, with the employment
of only the shortest and most primitive production processes.
The standard of living, the quantity and variety of goods produced, would fall catastrophically
to the primitive level.
What could be the reason for such a precipitate withdrawal of savings and investment in favor
of consumption?
The only reason on the free market would be a sudden and massive increase in the time
preference schedules of the capitalists, so that present satisfactions become worth very
much more in terms of future satisfactions.
Their higher time preferences mean that the existing rate of interest is not enough to
to induce them to save and invest in their previous proportions.
They therefore consume a greater proportion of their gross income and invest less.
Each individual on the basis of his time preference schedule decides between the amount of his
money income to be devoted to saving and the amount to be devoted to consumption.
The aggregate time market schedules determined by time preferences determine the aggregate
social proportions between gross savings and consumption.
It is clear that the higher the time preference schedules are, the greater will be the proportion
of consumption to savings, while lower time preference schedules will lower this proportion.
At the same time, as we have seen, higher time preference schedules in the economy lead
to higher rates of interest, and lower schedules lead to lower rates of interest.
From this it becomes clear that the time preferences of the individuals on the market determine
simultaneously and by themselves both the market equilibrium interest rate and the proportions
In our example, the increase in time preference schedules has caused a decline in savings, absolute and proportionate, and a rise in the interest rate.
The fallacies of the net product figures have led economists to include some grossness in
their product and income figures.
At present, the favorite concept is that of the gross national product and its counterpart,
gross national expenditures.
These concepts were adopted because of the obvious errors encountered with the net income
concepts.
That gross figures, however, are the height of illogicality, because they are not gross
at all, but only partly gross.
They include only gross purchases by capitalists of durable capital goods, and the consumption
of their self-owned durable capital, approximated by depreciation allowances set by the owners.
We shall consider the problems of durable capital more fully later.
But suffice it to say that there is no great difference between durable and less durable
capital.
Both are consumed in the course of the production process, and both must be paid for out of
the gross income and gross savings of lower-order capitalists.
In evaluating the payment pattern of the production structure, then, it is inadmissible to leave
the consumption of non-durable capital goods out of the investment picture.
It is completely illogical to single out durable goods, which are themselves only discounted
embodiments of their non-durable services, and therefore no different from non-durable
goods.
The idea that the capital structure is maintained intact without savings, as it were, automatically,
is fostered by the use of the net approach.
If even zero savings will suffice to maintain capital, then it seems as if the aggregate
value of capital is a permanent entity that cannot be reduced.
This notion of the permanence of capital has permeated economic theory, particularly through
the writings of J.B. Clark and Frank H. Knight, and through the influence of the latter has
molded current neo-classical economic theory in America.
To maintain this doctrine, it is necessary to deny the stage analysis of production,
and indeed to deny the very influence of time in production.
If permanence is attributed to the mythical entity, the aggregate value of capital, it
becomes an independent factor of production, along with labor, and earns interest.
The all-pervading influence of time is stressed in the period of production concept and in
the determination of the interest rate and of the investment consumption ratio by individual
time preference schedules.
The Knight Doctrine denies any role to time in production, asserting that production now,
in a modern complex economy is timeless, and the time preference has no influence on the interest rate.
This doctrine has been aptly called a mythology of capital.
Among other errors, it leads to the belief that there is no economic problem connected with the replacement and maintenance of capital.
A common fallacy, fostered directly by the net income approach,
holds that the important category of expenditures in the production system is consumers' spending.
Many writers have gone so far as to relate business prosperity directly to consumers' spending,
and depressions of business to declines in consumers' spending.
Business cycle considerations will be deferred to later chapters,
But it is clear that there is little or no relationship between prosperity and consumer spending.
Indeed, almost the reverse is true.
For business prosperity, the important consideration is the price spreads between the various stages,
that is, the rate of interest return earned.
It is this rate of interest that induces capitalists to save and invest present goods in productive factors.
The rate of interest, as we have been demonstrating, is set by the configurations of the time preferences of individuals in the society.
It is not the total quantity of money spent on consumption that is relevant to capitalists' returns,
but the margins, the spreads between the product prices and the sum of factor prices at the various stages,
There is, in fact, never any need to worry about the maintenance of consumer spending.
There must always be consumption.
As we have seen, after a certain amount of monetary saving, there is always an irreducible
minimum of his monetary assets that every man will spend on current consumption.
The fact of human action ensures such an irreducible minimum, and as long as there is a monetary
economy and money is in use, it will be spent on the purchase of consumers' goods.
The proportion spent on capital in its various stages and in total gives a clue to the important
consideration, the real output of consumers' goods in the economy.
The total amount of money spent, however, gives no clue at all.
Money and its value will be systematically studied in a later chapter.
It is obvious, however, that the number of units spent could vary enormously, depending
on the quantity of the money commodity in circulation.
100 or 1000 or 10,000 or 100,000 ounces of gold might be spent on consumption without signifying anything, except that the quantity of money units available was less or greater.
The total amount of money spent on consumption gives no clue to the quantity of goods the economy may purchase.
The important consideration, therefore, is time preferences and the resultant proportion between expenditure on consumers' and producers' goods.
Investment. The lower the proportion of the former, the heavier will be the investment in capital structure,
and after a while, the more abundant the supply of consumers' goods and the more productive the economy.
The obverse of the coin is the determining effect of time preferences on the price spreads that set the rate of interest and the income of the capitalist savers investors in the economy.
We have already seen the effect of a lowering of investment on the first rank, and later we shall analyze fully the effect on production and interest of a lowering of time preferences
and the effects of various changes in the quantity of money on time preferences and the production structure.
Before continuing with an analysis of time preference and the production structure, however, let us complete our examination of the components of the time market.
The pure demanders of present goods on the time market are the various groups of laborers and landowners, the sellers of the services of original productive factors.
Their price on the market, as will be seen, will be set equal to the marginal value product of their units, discounted by the prevailing rate of interest.
The greater the rate of interest, the less will the price of their service be, or rather, the greater will be the discount from their marginal value product considered as the matured present good.
Thus if the marginal value product of a certain labor or land factor is 10 ounces per unit
period, and the rate of interest is 10%, its earning price will be approximately 9 ounces
per year if the final product is one year away.
A higher rate of interest would lead to a lower price, and a lower rate to a higher
Although the maximum price is one slightly below the full MVP, marginal value product, since the interest rate can never disappear.
It seems likely that the demand schedule for present goods by the original productive factors will be highly inelastic in response to changes in the interest rate.
with the large base amount the discounting by various rates of interest
will very likely make little difference to the factor owner. The rate of interest
however will make a great deal of difference in so far as he is an owner
and seller of a durable good. Land is of course durable almost by definition, in
fact generally permanent. So far we have been dealing only with the sale of
of Factor Services, that is, the hire or rent of the factor, and abstracting from the sale
or valuation of durable factors which embody future services.
Durable land, as we shall see, is capitalized.
That is, the value of the factor as a whole is the discounted sum of its future MVPs,
and there the interest rate will make a significant difference.
The price of durable land, however, is irrelevant to the supply schedule of land services in
demand for present money.
Large changes in the interest rate, which would make an enormous difference to capitalists
and determine huge differences in interest income and the profitableness of various lengthy
productive processes, would have a negligible effect on the earnings of the owners of the
and the original productive factors.
On the time market we are considering all factors in the aggregate.
The interest rate of the time market permeates all particular aspects of the present future market,
including all purchases of land and labor services.
Therefore, when we are considering the supply of a certain factor on the market,
We are considering it in general, and not its supply schedule for a specific use.
A group of homogeneous pieces of land may have three alternative uses,
say for growing wheat, raising sheep, or serving as the site of a steel factory.
Its supply schedule for each of the three uses will be elastic,
and will be determined by the amount it can obtain in the next best use.
Labor services may place evaluation on the possibility of contemplating the virgin beauty of the unused land.
In practice, however, the importance of such reservation demand for land is likely to be negligible.
It will, of course, be greater where the owner can use the land to grow food for himself.
Labor services are also likely to be inelastic with respect to the interest discount,
But probably less so than land, since labor has a reservation demand, a subjective use value, even in the aggregate labor market.
This special reservation demand stems from the value of leisure as a consumer's good.
Higher prices for labor services will induce more units of labor to enter the market, while lower prices will increase the relative advantages of leisure.
Here again, however, the difference that will be made by relatively large changes in the interest rate will not be at all great, so that the aggregate supply of labor will tend to be inelastic with regard to the interest rate.
The two categories of independent demanders of present goods for future goods, then, are the landowners and the laborers.
The suppliers of present goods on the time market are clearly the capitalists, who save from their possible consumption and invest their savings in future goods.
But the question may be raised, do not the capitalists also demand present goods as well as supply them?
It is true that capitalists after investing in a stage of production demand present goods in exchange for their product.
Product. This particular demand is inelastic in relation to interest changes, since these capital
goods also can have no subjective use value for their producers. This demand, however, is strictly
derivative and dependent. In the first place, the product for which the owner demands present goods
is of course a future good, but it is also one stage less distantly future than the goods that the
owner purchased in order to produce it. In other words, capitalists three will sell their future
goods to capitalists two, but they had bought future goods from capitalists four, as well as
Every capitalist at every stage, then, demands goods that are more distantly future than the product that he supplies,
and he supplies present goods for the duration of the production stage until this product is formed.
He is therefore a net supplier of present goods and a net demander of future goods.
Hence, his activities are guided by his role as a supplier.
The higher the rate of interest that he will be able to earn, that is, the higher the price spread,
the more he will tend to invest in production.
If he were not essentially a supplier of present goods, this would not be true.
Thank you for watching.