In conclusion• … the foregoing theory is moderately conservative • The State will have to exercise a guiding influence on the propensity

to consume partly through its scheme of taxation, partly by fixing the rate of interest, and partly … in other ways.

• … [it is] unlikely that the influence of banking policy on the rate of interest will be sufficient by itself to determine an optimum rate of investment.

• [T][T]herefore, a somewhat comprehensive socialisation of herefore, a somewhat comprehensive socialisation of investment will prove the only means of securing an investment will prove the only means of securing an approximation to full employmentapproximation to full employment..

• … beyond this no obvious case is made for a system of State Socialism … If the State is able to determine the aggregate amount of resources devoted to [investment] and the basic rate of reward to those who own [capital], it will have accomplished all that is necessary.

• …if our central controls [establish] full employment as nearly as is practicable, …then there is no objection to the classical analysis there is no objection to the classical analysis of the manner in which private self-interest will determine what of the manner in which private self-interest will determine what in particular is produced, in what proportions the factors of in particular is produced, in what proportions the factors of production will be combined to produce it, and how the value of production will be combined to produce it, and how the value of the final product will be distributed …the final product will be distributed …

Joan Robinson1903 - 1983

Piero Sraffa1898 - 1983

James Meade1907 - 1995

E. A. G. Robinson1897 - 1994

Richard F. Kahn1905 - 1989

Keynes’ Circus

"I have my heart to the left and my brain to the right."

1926: Economic Journal, Only constant returns compatible with perfect competition.1951-73: Collected Works of Ricardo1960: Production of Commodities byMeans of Commodities: Prelude to aCritique of Economic Theory

Co-author of General Theory?

Michal Kalecki: A Parallel Development of the General Theory?

•

• Keynes: A deviationist from Marshall• Kalecki: A deviationist from Marx

• Macroeconomics of class conflict• “When workers spend what they earn, capitalists earn

what they spend” Proba teorii koniunktury (An essay on the theory of the business cycle), Warsaw: 1933

• I Y (a multiplier process) Profit S = I» As in General Theory, investment spending drives

the macroeconomy … and generates fluctuations

•Engineering education, Warsaw Poly•Polish business cycle institute•Sweden (1935), England (1936 – 1945)•International Labor Organization; United Nations New York (till 1955)•Warsaw professor

Michael Kalecki1899 - 1970

Kalecki’s Economics• Capitalist share (1 - α) determined by monopoly power• Capitalist Profit depends on Capitalist Spending

Profit = Capitalist Spending = c0 + mpc x Profit + I Profit = (c0 + I)/(1 – mpc)

• Capitalists earn what they spend

• Recall widow’s cruse from Keynes’ Treatise on Money

• When capitalists’ mpc = 0 and workers’ mps = 0, economy’s mps = (1 – α)

and investment multiplier = ΔY/ΔI = 1 / (1 – α)

• Investment is own undoing: I = m x Profit – m x K– As capital stock increases, borrowers and lenders risks increase

• If the entrepreneur is not cautious enough in his investment activity, it is the creditor who imposes on his calculation the burden of increasing risk…Anticipation of Minsky

• The tragedy of investment is that it causes crises because it is useful…it is not the theory [Kalecki’s] that is paradoxical but its subject—the capitalist system.

• Attack on Pigou (real balance) effect– Falling wages and prices “catastrophic increase” in debt burden

“wholesale bankruptcy and a confidence crisis.”• Recall Fisher’s debt-deflation theory of depression anticipation of Minsky

• G must offset vagaries and secular decline of I

Kalecki’s Economics• G must offset vagaries and secular decline of I

but…

• Big business opposes full employment (stimulus) programs:– Dislike of government intervention on principle– Dislike of public investment and subsidized consumption

“You shall earn your bread in sweat”

– Dislike of full employment• Disciplinary role of “the sack”

Political business cycle: countercyclical G reversed at peak– Military Keynesianism half-acceptable

• No such thing as the long-run independent of its short periods

A dynamic macroeconomics

• What did he say?

• Different things at different times» On tariffs On saving

• What did he mean?Y = C + IC = C(Y) …Propensity to consume passive response to incomeI = I(i) …Marginal efficiency of capital + animal spirits instability

S = I …spending multiplier … Income adjusts, not wages and prices L = L(Y,i) … Liquidity preference function interest rate determined in money market, not Scredit = Dcredit , not Ssaving = Dinvestment

Keynes’ General Theory

…the transition from a lower to a higher scale of activity involves an increased demand for liquid resources which cannot be met without a rise in the rate of interest, unless the banks are ready to lend more cash…If there is no change in the liquidity position, the public can save ex ante and ex post and ex anything until they are blue in the face without alleviating the problem in the least. The “Ex Ante” Theory of the Rate of Interest, Economic Jrnl, 1937.

… In the world of the classical economy, … why should anyone outside an insane asylum wish to use money as a store of wealth? …The possession of actual money lulls our disquietude; and the premium which we require to make us part with money is the measure of the degree of our disquietude. The General Theory of Employment, QJE, 1937.

Keynes on Uncertainty• By “uncertain” knowledge, let me explain, I do not mean merely

to distinguish what is known for certain from what is only probable. The game of roulette is not subject, in this sense, to uncertainty…Or, the expectation of life is only slightly uncertain. Even the weather is only moderately uncertain. The sense in which I am using the term is that in which the prospect of a European war is uncertain, or the price of copper and the rate of interest twenty years hence, or the obsolescence of a new invention, or the position of wealth-owners in the social system in 1970. About these matters there is no scientific basis to form any calculable probability whatever. We simply do not knowWe simply do not know. Nevertheless, the necessity for action and for decision compels us … to do our best to overlook this inconvenient fact and behave exactly as we should if we had behind us a good Benthamite calculation of a series of prospective advantages and dis advantages, each multiplied by its appropriate probability, waiting to be summed.

• The General Theory of Employment, QJE, 1937.

The Neoclassical – Keynesian SynthesisShort – run Keynesian UnemploymentLong – run Classical Full Employment

Sir John Hicks1904 - 1989

Mr. Keynes and the Classics: A suggested simplification,Econometrica, 1937

Goods Market: I = SMoney Market: L = M ISLM macromodel

i

Y

IS

LM

•Macro- equilibrium•Policy tool

UNCERTAINTY

“Quasi – rents”

Yields/Profits

Interest Rate

Price of Capital Asset, Pk

vs.Price of Investment, PI

Investment Spending

Effective Demand, Output and Employment

Multiplier

Rush to liquidity in a crisis only reduces prices of securities

i UP

(What it’s worth)

(What it costs to build)

Confidence and Effective Demand in Keynes’ Economics

Stabilizing an Unstable Economy

Hyman Minsky1919 - 1996

Financial Instability Hypothesis:•Hedge finance•Speculative finance•Ponzi finance

Two types of risk affect the volume of investment. …The first is the entrepreneur's or borrower's risk and arises out of doubts in his own mind as to the probability of his actually earning the prospectiveyield for which he hopes. If a man is venturing his own money, this is the only risk which is relevant.…But where a system of borrowing and lending exists, a second type of risk is relevant which we may call the lender's risk. GT, Chapter 11.

Pric

e of

ca

pita

l ass

ets

PI

PK

Investment

Internal funds

Io I1

Borrower’s Risk

Lender’s Risk

When expectations are disappointed,investment collapses … but debts remain

A Minsky Cycle•Displacement (invention, easy money)•Boom…successful speculation•Euphoria…financial innovation•Profit taking

•Panic

Student of Simons/Schumpeter

Mehrling on Minsky• How to infer financial conditions:

– Speculative financing requires periodic refinance

So Increased financial fragility Increased difficulty rolling over loans

Increased demand for bank loans…But banks finance “speculatively”

Problems of bank refinancing• Evolution of financial fragility:

– Post WWII, Treasury bills ruled refinancing “automatic” [the Accord]– Banks drew down their T-bill holdings Money market financing

• But Fed not responsible for money market• Fed policy of “brinksmanship”—lender of last resort only in crisis

Increased volatility of short-term rates

Higher s-t rates refinancing by pledging ever greater future cash amounts.

So refinance increases fragility rather than restores robustness.

Natural thrust toward fragility is amplified, not dampened, by financial system. Refinance becomes impossible for some overextended units crisis erupts.

They default upsetting efforts of others to refinance.

OR they attempt to “make position by selling position” fire sale Undermine collateral support for the existing debt structure.

Mehrling on Minsky• Periods of tight liquidity short rates rise (incentive for stretching liquidity)

– Value of today’s cash flows rises relative to cash flows in the future.

• Demand price of capital assets (Pk) falls

• Supply price of investment goods (Pi) rises

(interest is a cost of production).

– The incentive to invest is reduced. • The greater danger:

» collapse of investment spending » reduced aggregate income » cash flows elsewhere in the economy fall short of expected levels» hedge finance units speculative units» speculative units Ponzi units, » the fragility of the system increases.

– An investment slump might amplify the financial problems of a few units and bring

the whole system down in a cascade of debt deflation.