Chapter 3, Keynes vs. Say's Law
Keynes' Greatest Achievement
We come now to Keynes' famous refutation of Say's Law of Markets.
All that it is necessary to say about this refutation has already been said by Benjamin M. Anderson Jr. and Ludwig von Mises.
Keynes himself takes the matter so cavalierly that all he requires to refute Say's law to his own satisfaction is less than four pages.
Yet some of his admirers regard this as alone securing his title to fame.
Historians fifty years from now may record that Keynes's greatest achievement was the liberation of Anglo-American economics from a tyrannical dogma,
and they may even conclude that this was essentially a work of negation unmatched by comparable positive achievements.
Even, however, if Keynes were to receive credit for nothing else, his title to fame would
be secure.
Yet, the Keynesian attacks, though they appear to be directed against a variety of specific
theories, all fall to the ground if the validity of Say's law is assumed.
I think I am justified, therefore, in devoting a special chapter to the subject.
It is important to realize, to begin with, as Mises has pointed out, that what is called
Say's Law was not originally designed as an integral part of classical economics, but
as a preliminary, as a refutation of a fallacy that long preceded the development of economics
as a recognized special branch of knowledge.
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.
For a modern statement of Say's Law, I turn to B. M. Anderson.
The central theoretical issue involved in the problem of post-war economic adjustment
and in the problem of full employment, says Anderson, in the post-war period, is the issue
between the equilibrium doctrine and the purchasing power doctrine.
Those who advocate vast governmental expenditures and deficit financing after the war as the
only means of getting full employment, separate production and purchasing power sharply.
Purchasing power must be kept above production if production is to expand in their view.
If purchasing power falls off, production will fall off.
The prevailing view among economists, on the other hand, has long been that purchasing
power grows out of production.
The great producing countries are the great consuming countries.
The 20th century world consumes vastly more than the 18th century world because it produces
vastly more.
Supply of wheat gives rise to demand for automobiles, silks, shoes, cotton goods, and other things
that the wheat producer wants. Supply of shoes gives rise to demand for wheat, for silks,
for automobiles, and for other things that the shoe producer wants. Supply and demand
in the aggregate are thus not merely equal, but they are identical, since every commodity
may be looked upon either as supply of its own kind or as demand for other things. But
But this doctrine is subject to the great qualification that the proportions must be right, that there must be equilibrium.
Keynes's refutation of Say's law consists in simply ignoring this qualification.
He takes as his first target a passage from John Stuart Mill.
What constitutes the means of payment for commodities is simply commodities.
Each person's means of paying for the production of other people consist of those which he
himself possesses.
All sellers are, inevitably, and by the meaning of the word, buyers.
Could we suddenly double the productive powers of the country, we should double the supply
of commodities in every market, but we should, by the same stroke, double the purchasing
Everybody would bring a double demand as well as supply. Everybody would be able to buy twice as much, because everyone would have twice as much to offer in exchange.
By itself, this passage from Mill, as B.M. Anderson has pointed out, does not present the essentials of the modern version of Say's law.
If we doubled the productive power of the country, says Anderson, we should not double the supply of commodities in every market, and if we did, we should not clear the markets of the double supply in every market.
If we doubled the supply in the salt market for example, we should have an appalling glut of salt.
The great increases would come in the items where demand is elastic.
We should change very radically the proportions in which we produced commodities.
But as Anderson goes on to point out, it is unfair to Mill to take this brief passage out of context and present it as if it were the heart of Say's law.
If Keynes had quoted only the three sentences immediately following, he would have introduced
us to the conception of balance and proportion and equilibrium, which is the heart of the
doctrine, a conception which Keynes nowhere considers in his general theory.
Mill's next few lines, immediately following the passage torn from its context quoted above,
are as follows.
It is probable indeed that there would now be a superfluity of certain things.
Although the community would willingly double its aggregate consumption, it may already
have as much as it desires of some commodities, and it may prefer to do more than double its
consumption of others, or to exercise its increased purchasing power on some new thing.
If so, the supply will adapt itself accordingly, and the values of things will continue to
conform to their costs of production.
The doctrine that supply creates its own demand, in other words, is based on the assumption
that a proper equilibrium exists among the different kinds of production, and among prices
of different products and services.
And it, of course, assumes proper relationships between prices and costs, between prices and
wage rates.
It assumes the existence of competition and free and fluid markets by which these proportions,
price relations and other equilibria will be brought about.
No important economist, to my knowledge, ever made the absurd assumption of which Keynes
Say's law, to repeat, was contrary to the assertions of the Keynesians, not the cornerstone
on which the great edifice of the positive doctrines of the classical economists was
To resume the quotation from Mill,
The creation of producers does not depend on how much money, but on how much of consumable articles they obtain for their goods.
Besides, money is a commodity, and if all commodities are supposed to be doubled in quantity, we must suppose money to be doubled too, and then prices would no more fall than values would.
In sum, Say's law was merely the denial of the possibility of a general overproduction of all goods and services.
If you had presented the classical economists with the Keynesian case, if you had asked them, in other words,
what they thought would happen in the event of a fall in the prices of commodities,
If money wage rates as a result of union monopoly protected and insured by law remained rigid or rising,
they would have undoubtedly replied that sufficient markets could not be found for goods produced at such economically unjustified costs of production,
and that great and prolonged unemployment would result.
Certainly this is what any modern subjective value theorist would reply.
Ricardo's Statement
We might rest the case here, but such a hullabaloo has been raised about Keynes's alleged refutation
of Say's Law that it seems desirable to pursue the subject further.
One writer has distinguished the four essential meanings of Say's Law as developed by Say
and more fully by Mill and Riccardo.
It may be profitable to take her formulation as a basis of discussion.
The four meanings as she phrases them are 1.
Supply creates its own demand, hence aggregate overproduction or a general glut is impossible.
2. Since goods exchange against goods, money is but a veil and plays no independent role.
3. In the case of partial overproduction, which necessarily implies a balancing underproduction elsewhere, equilibrium is restored by competition, that is, by the price mechanism and the mobility of capital.
4. Because aggregate demand and supply are necessarily equal, and because of the equilibrating mechanism, output can be increased indefinitely and the accumulation of capital proceed without limit.
I shall contend that of these four versions, 1, 3 and 4 are correct, properly interpreted
and understood, that only version 2 is false as stated, and that even this is capable of
being stated in a form that is correct.
Now Ricardo clearly stated the doctrine in versions 1, 3 and 4, and though he implied
M. Say has, most satisfactorily shown, that there is no amount of capital which may not
be employed in a country, because a demand is only limited by production.
No man produces but with a view to consume or sell, and he never sells but with an intention
to purchase some other commodity, which may be immediately useful to him, or which may
contribute to future production.
By producing, then, he necessarily becomes either the consumer of his own goods, or the
purchaser and consumer of the goods of some other person.
It is not to be supposed that he should, for any length of time, be ill-informed of the
the commodities which he can most advantageously produce, to attain the object which he has
in view, namely the possession of other goods.
And therefore it is not probable that he will continually produce a commodity for which
there is no demand.
There cannot then be accumulated in a country any amount of capital which cannot be employed
productively until wages rise so high in consequence of the rise of necessaries and so little consequently
remains for the profits of stock that the motive for accumulation ceases.
While the profits of stock are high, men will have a motive to accumulate.
Whilst a man has any wished-for gratification unsupplied, he will have a demand for more
for Commodities, and it will be an effectual demand, while he has any new value to offer
an exchange for them.
Productions are always bought by productions, or by services.
Money is only the medium by which the exchange is affected.
Too much of a particular commodity may be produced, of which there may be such a glut
in the market as not to repay the capital expended on it, but this cannot be the case
with respect to all commodities.
The italics above are my own, intended to bring out the fact that Ricardo by no means
denied the possibility of gluts, but merely of their indefinite prolongation.
In his Notes on Malthus, in fact, Ricardo wrote,
Mistakes may be made, and commodities not suited to the demand may be produced.
Of these there may be a glut.
They may not sell at their usual price, but then this is owing to the mistake and not
to the want of demand for productions.
The whole of Ricardo's comment on this phase of Malthus's thought will repay study.
I have been thus particular in examining this question of Say's law, wrote Ricardo, as
it forms by far the most important topic of discussion in Mr. Malthus's work, i.e. Malthus's
principles of political economy.
It was Malthus who, in 1820, more than a century before Keynes, set himself to refuting Say's
law. Ricardo's answer, most of which was not discovered or available until recent years,
is devastating. If it had been earlier available in full, it would have buried Malthus's fallacious
Refutation Forever. Even as it was, it prevented its exhumation until Keynes's time.
Ricardo's answer was, it is true, weak or incomplete at certain points.
Thus, he did not address himself to the problem of what happens in a crisis of confidence,
when for a time, even the commodities that are relatively under-produced
may not sell at existing price levels because consumers, even though they have the purchasing power and the desire to buy those commodities,
do not trust existing prices and expect them to go still lower.
But the basic truth of Say's Law, and Say's Law was only intended as a basic or ultimate truth,
is not invalidated, but merely concealed by a temporary abnormal situation of this kind.
This situation is possible only in those periods when a substantial number of consumers and businessmen
remain unconvinced that bottom has been reached in wages and prices,
or feel that their job or solvency may still be in danger.
And this is likely to happen precisely when wage rates are artificially forced or held
above the equilibrium level of marginal labor productivity.
Again, it is true that Ricardo declares at one point, already quoted, that
Money is only the medium by which the exchange is effected. If this is interpreted to mean, as Bernice Scholl interprets it, that money plays no independent role, then of course it is not true.
But if it is interpreted to mean, if we for the moment abstract from money, we can see that in the ultimate analysis, goods exchange against goods, then it is both true and methodologically valid.
Having recognized this truth, of course, we must in the solution of any dynamic problem, put money back into our equation or model, and recognize that in the modern world the exchange of goods is practically always through the medium of money, and that the interrelationship of goods and money prices must be right for Say's law to be valid.
But this is merely to return to the qualification of correct price relationships and equilibrium that has always been implicit in the statement of Say's law by the leading classical economists.
The Answer of Haberler
Before leaving the subject, it may be important to address ourselves to some of the confusions about it, not of Keynes himself, but of the post-Keynesians.
Professor Gottfried Haberler has been by no means uncritical of Keynes, but his discussion of Keynes's discussion of Say's law is peculiar.
He presents part of the quotation I have already presented from Ricardo, on pages 37 through 38, but does so in truncated form, and ends with the sentence,
Money is only the medium by which the exchange is effected.
He then declares, The meaning of this original formulation of this law seems to me quite clear.
It states that income received is always spent on consumption or investment.
In other words, money is never hoarded.
Now, the meaning of Ricardo's formulation of Say's law is already quite clear, particularly when it is given in full.
It does not require any exegesis by Haberler or anyone else, and certainly no paraphrase that quite changes its meaning.
Not only did Ricardo never explicitly assert the proposition that Haberler attributes to him, there is every reason to suppose that he would have repudiated it.
At several points he actually describes what we today might call money hoarding and its effects.
At many points in his notes on Malthus, he writes, regarding some view that Malthus attributes to him,
Our conclusion, thus, Haberler goes on, is that there is no place and no need for Say's
law in modern economic theory, and that it has been completely abandoned by neoclassical
Summing up, we may say that there was no need for Keynes to rid neoclassical economics of
Say's Law in the original straightforward sense, for it had been completely abandoned
long ago.
The short answer to this is that there is still need and place to assert Say's Law whenever
It is itself, to repeat, essentially a negative rather than a positive proposition.
It is essentially a rejection of a fallacy.
It states that a general overproduction of all commodities is not possible.
And that is all, basically, that it is intended to assert.
Haberler is right in so far as he denies the belief of Keynes and such disciples as Sweezy
that Say's Law still underlies the whole classical theory which would collapse without it.
General Theory, page 19.
It is true that Say's Law is not explicitly needed in the solution of specific economic
problems if its truth is tacitly taken for granted.
Mathematicians seldom stop to assert that two and two do not make five.
They do not explicitly build elaborate solutions of complicated problems upon this negative
truth.
But when someone asserts that two and two make five, or that an existing depression
is the result of a general overproduction of everything, it is necessary to remind him
of the error.
There is still another line of attack on Say's law, which Haberler, among others, seems to
adopt, and this is to assert that in the sense in which Say's law is true, it is mere tautology.
If it is tautological, it is so in the same sense in which basic logical and mathematical
propositions are tautological.
Things that are equal to the same thing are equal to each other.
One does not need to say this as long as one does not forget it.
To sum up, Keynes's refutation of Say's law, even if it had been successful, would not
have been original. It does not go an inch beyond Malthus's attempted refutation more
than a century before him. Keynes refuted, says Law, only in a sense in which no important
economist ever held it.
To Save is to Spend
Asking the accusation of beating a dead horse, I should like to address myself to one more
effort by Keynes to disprove Say's law, or what he calls a corollary of the same doctrine,
page 19.
It has been supposed, he writes, that any individual act of abstaining from consumption
necessarily leads to, and amounts to the same thing as, causing the labor and commodities
thus released from supplying consumption to be invested in the production of capital wealth.
Page 19.
And he quotes the following passage from Alfred Marshall's Pure Theory of Domestic Values,
page 34, in illustration.
The whole of a man's income is expended in the purchase of services and of commodities.
It is indeed commonly said that a man spends some portion of his income and saves another.
But it is a familiar economic axiom that a man purchases labor and commodities with that
portion of his income which he saves just as much as he does with that he is said to
spend.
He is said to spend when he seeks to obtain present enjoyment from the services and commodities
which he purchases.
He is said to save when he causes the labor and the commodities which he purchases to
be devoted to the production of wealth from which he expects to derive the means of enjoyment
in the future.
This doctrine, of course, goes much further back than Marshall.
Keynes could have quoted his Bait Noir, Ricardo, to the same effect.
Mr. Malthus, wrote Ricardo, never appears to remember that to save is to spend, as surely
as what he exclusively calls spending.
Ricardo went much further than this, and in answering Malthus answered one of Keynes's
chief contentions in advance.
I deny that the wants of consumers generally are diminished by parsimony, that they are
transferred with the power to consume to another set of consumers.
And on still another occasion, Ricardo wrote directly to Malthus.
We agree, too, that effectual demand consists of two elements, the power and the will to
Purchase.
But I think the will is very seldom wanting where the power exists.
For the desire of accumulation, i.e. saving, will occasion demand just as effectually as
a desire to consume.
It will only change the objects on which the demand will exercise itself.
For the present, however, it may be sufficient merely to note Keynes's contention on this
There will be plenty of opportunity for that later.
As we shall see, Keynes himself alternates constantly between two mutually contradictory
contentions.
One, that saving and investment are necessarily equal, and merely different aspects of the
the same thing, page 74, and 2, that saving and investment are two essentially different activities without even a nexus, page 21,
so that saving not only can exceed investment, but chronically tends to do so.
The second is the view which he chooses to support at this point.
We shall have occasion to analyze both views later. For the present, it is sufficient merely
to note the presence of this deep-seated contradiction in Keynes's thought.