Capital & full employment

Duncan has endorsed Keynes’ old proposal to maintain cheap and easy money, and so achieve “an increase in the volume of capital until it ceases to be scarce”.
I’m not sure this will work. We’ve tried something like it twice, and on both occasions it proved unsustainable.
In the 1960s, low real interest rates and tax breaks encouraged firms to invest. But this failed to secure lasting full employment because the high economic activity it engendered led to rising wages (and later oil prices) and so a profit squeeze so severe that firms could not make up in volumes what they didn't get in margins; Marglin and Bhaduri’s paper (pdf) provides the analysis.
Then in the 00s, we had the savings glut and easy monetary policies. This should have encouraged non-financial firms to invest. But they didn’t do so to anything like the level required to achieve full employment; even at the peak of the boom, there were four million out of work. It was housing that boomed in response to easy money, not corporate investment.
Quite why this should be is unclear. It just seems that, despite high observed profit rates on existing capital, firms couldn’t see profitable uses for further capital.
Experiments, then, seem to suggest that Keynes was too optimistic. Flooding the economy with cheap finance capital - at least on the scale that’s been tried - is not enough to produce lasting full employment.
I fear Keynes might have been misled by an ambiguity in the word “capital” when he wrote that “there are no intrinsic reasons for the scarcity of capital.”* Yes, there’s no good reason for the scarcity of finance capital - the cash available to firms to invest. But there might be good reasons for a scarcity of profitable (future) physical capital. It might be that a lack of innovative ideas or working class militancy does produce such a scarcity.
In this sense, Kalecki was far more correct than Keynes. He pointed out that there was no inherent tendency for capitalism to generate lasting full employment, and that it was possible that declining innovations could lead to sustained under-investment in physical capital and hence lasting unemployment**.
Its’ not obvious that Keynes’ proposal to socialize investment would overcome this. If capitalists can’t maintain sufficient innovations to maintain full employment, there’s no hope of the state doing so. And we know from looking at the Post Office today - or from many industries in the 70s and 80s - that mere state ownership does zilch to overcome the class conflict that Kalecki thought would prevent full employment. The only way state-controlled investment could secure full employment would be at the expense colossal allocative inefficiency.
I mention all this to raise a possibility. Conventional discussion of macroeconomic policy falls into two camps. On the one hand, there are those who argue that such policies can be effective in creating jobs. On the other are those who see them as distorting a market mechanism that would, if left to itself, generate full employment.
But what if there’s a third possibility - that both these views are half-right or half-wrong? It could be both that the economy isn’t a neatly self-righting mechanism tending towards full employment, and that macroeconomic policy interventions are insufficient to generate lasting full employment.
* He might also have been misled by thinking of physical capital as an aggregate. But there’s no such thing. There’s only this particular project, that one, and so on.
** Kalecki’s works are scandalously hard to get. I’m thinking of his papers “The process of economic development”, “The development factors” and “Political aspects of full employment.” This paper (pdf) by Malcolm Sawyer is a nice discussion of Kalecki’s thinking.

Comments

[www.facebook.com/profile.php?id=544950546]

Why is there no good reason for scarcity of financial capital? Real financial capital surely has to come from savings surely? What am I missing?

[Duncan]

Chris,

First off –I’m writing some more posts on this topic trying to flesh it out – the problem is doing it in manageable chunks – it’s quite a large subject!

On the substantive points though.

“In the 1960s, low real interest rates and tax breaks encouraged firms to invest. But this failed to secure lasting full employment because the high economic activity it engendered led to rising wages (and later oil prices) and so a profit squeeze so severe that firms could not make up in volumes what they didn't get in margins; Marglin and Bhaduri’s paper (pdf) provides the analysis.”

I’d go further. The problem wasn’t simply the rising wages generating inflationary pressure (something foreseen by Robinson, Kaldor and other radical Keynesians – who were early to recognize the needs for an incomes policy) but also the failure of British industry to invest. Whilst a cheap money policy was certainly pursued in the late 1960s (and inducements to invest were offered) investment levels didn’t fully respond. There’s a an excellent Heath speech to the IoD in the early 1970s berating industry for this and asking quite what it will take to make them invest. I feel that direct government investment may at times be needed.

“Then in the 00s, we had the savings glut and easy monetary policies. This should have encouraged non-financial firms to invest. But they didn’t do so to anything like the level required to achieve full employment; even at the peak of the boom, there were four million out of work. It was housing that boomed in response to easy money, not corporate investment.”

Exactly, Cheap money alone is not a solution, it has to be accompanied by more government intervention. I’m inching towards a position that we need more control of lending. Dalton (who pursued a cheap money policy 1945-1947) was accused of achieving the euthanasia of the rentier whilst supporting speculators. Any cheap money policy does not have to be an ‘easy’ money policy – otherwise it risks simply stoking asset price bubbles.

As for “But there might be good reasons for a scarcity of profitable (future) physical capital. It might be that a lack of innovative ideas or working class militancy does produce such a scarcity.”. I’m not so sure. I take to heart dale Jorgenson’s work that it is the volume of investment not TFP that drives growth (and hence employment).

“But what if there’s a third possibility - that both these views are half-right or half-wrong? It could be both that the economy isn’t a neatly self-righting mechanism tending towards full employment, and that macroeconomic policy interventions are insufficient to generate lasting full employment.”

Worth considering.

I also agree on both the non-homogeneity of capital and the scandal of finding Kalecki’s work.

Finally – it really is worth looking at the 45-47 period. Lots of problems, but there are lessons there.

Sorry for the long response,

Duncan

[Joerg Wenck]

"It could be both that the economy isn’t a neatly self-righting mechanism tending towards full employment, and that macroeconomic policy interventions are insufficient to generate lasting full employment."
Which is, of course, Keynes' thesis. Keynes explicitly wrote that he could not conceive of a long-term victory over unemployment without worktime reduction (which, in turn, doesn't directly result from either socialized investment or some imaginary invisible hand being at work in the economy). See, e.g., Keynes' letter to T.S. Eliot sometime in the 1940s.
Larry Summers has explicitly stated that he sees things differently. Larry Summers clearly isn't a genuine Keynesian. In fact, lots of Neo-Keynesians aren't.

[Chris Purnell]

Perhaps you should edit an edition of Kalecki?

[Pat]

If its cheap to borrow money, people will borrow more of it- and most people don't have a business to invest in, so they buy a house or car or such. This results in increased car production, but in a country with strict planning controls, not so much extra housing production. Hence house prices start to rise, and a housing bubble starts (similar bubbles can start in other commodities as well). The extra cars made are of course a benefit to carmakers, who therefor attract more investment. All in all the cheap money gets channelled into poor investments- which in the end give a poor return. Money then gets short, interest rates rise, the bubbles burst, people make their old cars last longer and money starts to be directed towards profitable ventures- which then produce a return, making more money available, and cheap credit again available.
Lovely as it would be to have a steadily growing economy, no boom or bust, everything predictable, I'm not aware that this has been achieved anywhere ever- and deduce that the thing is impossible. I guess an economy is like a bicycle- always falling over in one direction or the other, but balancing out over time.
Another factor is that with cheap credit, and an expanding economy people expect any money they spend to be replaced easily, so they are not so careful how they spend it. When money's tight they are very careful how they spend it.

[reason]

Chris,
I tend to agree with you here - but what is your solution then? The French one? Or might you argue that instead the problem was one with the concentration of income to those who use it unwisely as Steve Waldmann at Interfluidity recently argued.

(P.S. If the problem was short term, and there had been a lack of investment in infrastructure, then it might make sense to invest in long lasting infrastructure while the opportunity cost is low.)

[botogol]

You have't considered the impact of govt policies that specicially mitigate against full unemployment, like

- the minimum wage - which makes it actually illegal for people to work if they are unable to contribute labour worth at least £5.80 per hour

- welfare payments (and especially their operation at the margin to create high effective marginal tax rates) which provide considerable incentive for people not to work.

And though you do mention working class militancy, I think you also need to consider other cultural factors that have meant that in some parts of UK society it is socially and culturally acceptable not to work, and to envisage spending an entire life depending upon the benefits to which you are 'entitled', combined with some unofficial cash-in-hand earnings.

[Tim Worstall]

"Exactly, Cheap money alone is not a solution, it has to be accompanied by more government intervention. I’m inching towards a position that we need more control of lending."

Lemme see: you're suggesting that Ed Balls, Peter Mandelson and Harriet Harman determining which factory gets built where to produce what goods is going to be an advance on the vagaries of the market?

That is, umm, to be polite, exceedingly hopeful of you.

[Ian]

I work in venture capital (and not in the financial engineering part of the industry). There is no shortage of equity at present, but rather a paucity of attractive opportunities. The main reason for this, I suspect, is that there is global overcapacity in almost all sectors. Furthermore there is long term evidence that the main spur to investment and subsequent job creation is technological change. How many millions of jobs were created by the advent of the mobile phone?

If this analysis is correct, there is little the government can do in terms of productive job creation. We just have to wait for new industries to emerge. This always happens sooner or later.

[Tim Worstall]

That's good news Ian.

Wanna invest in a scandium factory?

[Alex]

Tim - that isn't actually an argument, just personal abuse and your usual creepy, grubby, and most of all, boring obsession with women on the Left.

Further, what makes you think letting bankers - if we want to personalise this, Angelo Mozillo, Fred Goodwin, and Johnny Cameron - decide this was so much better? That turned out well, didn't it?