Topic: Economics
Say's Law and Debt Jean Baptiste-Say is credited for the guiding principles of a truly "free market". Known as "Say's Law", it earns little respect from careless debt.by Gene DeNardo
(libertarian)
Wednesday, May 27, 2009
Say's Law is fundamentally the law of ideal free markets. Say believed that supply and demand in a pure free market exist in equilibrium. Products are produced simply to be exchanged for other products. The amount of income resulting would be capable of purchasing the entire product of the economy. Total supply would equal total demand and everybody would be happy.
Say didn't ignore inefficiency to a point. Some products in certain segments would be overproduced, causing a glut, but at the same time others would be under produced. The resulting lack of or increased demand would then adjust the pricing structure and balance would again be attained. The free market was a constant adjustment of supply and demand and pricing to accommodate these factors.
Say's view of money was fairly inconsequential. In some sense, his view of the economy was one of "barter"; products have value in their exchange with other products. Money has no "determining" effect on the whole economy and its role is simply to facilitate exchange. There is no reason for hoarding or speculating on the value of money, as its value is solely determined by that which it can be exchanged for.
Many economists have argued the Say's Law cannot be applied due to "stickiness" of prices. Prices do not react fast enough, for various reasons, to allow the market to act in a responsive and free manner.
This is true in our "controlled" economy and there are a number of reasons, including monopolies, government intervention, taxation, artificial scarcity and land capitalization. One effect that is often overlooked is that of debt.
Debt can be defined as taking possession of a product that will be paid for in the future. The concept in itself is simple enough, but the complications come into play where interest is concerned.
If the exchange involves a producer allowing his product to be possessed and payment to occur at some point in the near future, is there a call for interest? If it is a consumable product in a pure free market the answer would be no. The producer either has more product than he wants and payment at any time is a positive or he is in a period where he needs to increase production and he desires money to apply to production and future payment is not an option. A product of consumption has no greater future value.
Capital products, such as buildings or machines on the other hand, promise future value. If a capital product is possessed before full payment, the producer asks for "interest" in any future goods that are facilitated by the possession of the capital product. A percentage of the future return on these new goods, above and beyond the principal cost of the original capital product, is returned to the producer in exchange for the use of the capital product.
If the ensuing enterprise is successful, both the original producer and the debtor producer prosper. The capital product is put to work producing new goods and the return is sufficient for the survival of the debtor producer and for repayment of the debt to the original producer.
If there is insufficient demand in the particular segment of the market that the capital product is involved in, things can pan out a bit differently. The debtor now may not be able to make his payment. This may be difficult but under Say's conditions it is not a tragedy. He can simply inform the original producer of the capital product that he is returning the product, depending of course upon the requirements of the contract, and no longer is able to continue production. In Say's economy, other segments of the economy are prospering and new employment is not a problem for the former debtor producer.
The original producer now has repossession of his capital product. If he owes nothing on his product, he has not fared badly. The capital product may still have some, albeit lower, value and he will be able to lease or sell it to another party. Even if the market segment has been severely deflated, he cannot become insolvent since he has no debt due to the product.
On the other hand, if he owes principal and interest on the capital product, perhaps to material suppliers or others, he may have to relinquish the good, as did his debtor to him. Under Say's conditions, he would also be able to find other employment and his creditor is subject to the same above conditions, problems and solutions.
This chain of events can continue and a free economy is able to adjust with some disruption, but are there debt situations that prohibit the free economy from functioning properly? There are two possible scenarios.
The first situation that would inhibit the workings of a free economy is if the money does not represent the value inherent in the exchange. If there is the possibility that money is valued higher or lower than the product at the time of exchange, then equitable exchange is impossible and pricing is distorted. This is possible anytime money is not firmly rooted within a value or the value of the economy. Any creation of money without backing that is forced on the economy can have this effect. Governments and banks are both able to accomplish this with poor monetary policy. There is no possibility of a free market under these conditions.
The second situation occurs when it is possible to create credit based on the future products of the entire economy. This can only be done by a government or a bank that has claimed monopoly powers over the entire economy. It is always forced on the population as consent from every person to leverage their future labor is extremely unlikely.
To complicate matters, both these situations can be interwoven to create further problems. If the entity that is leveraging the future products of the whole economy to acquire debt meets its obligations by creating money that is unbacked by any real value, it becomes impossible to establish any pricing accuracy. The free economy that is the framework of Say's Law cannot exist.
We are witnessing the advanced stages of both these conditions. Our future production has been leveraged to the tone of ten plus trillion dollars and the dollars that represent the leverage and are destined to meet the obligations of the debt have little inherent value. In fact, we are being swept into a cyclone of endless debt built upon a currency that seems to represent nothing but the debt itself. Say's Law doesn't have a chance!
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Posted By: Walt Thiessen
Date: 2009-05-28 16:27:44
Pretty good overall, but I think you may be confusing products with commodities. Say's Law specifically addresses commodities rather than products. Natural resources, for instance, get traded in the market and are a part of Say's Law, but they are not products. Thus, money does not get eliminated from his discussion; nor is it unimportant. Rather, commodity-based money (gold, silver, etc.) all play a role. Claiming that Say's view of an economy was one of "barter" misses the truth.
Nor did Say claim that certain products would be overproduced. Rather, that was a claim of his detractors and critics, including Keynes. Actually, he rejected that view by pointing out that what his critics called over-production or under-production were actually manifestations of producers paying prices that were too high for the means of production they used to create the products they offered to the public. Thus, the market for those products failed to clear, not because of over-production, but rather because of overbidding the means of production.
In this manner, Say (although perhaps he did not realize it) anticipated the effect of monetary inflation on producer prices, a phenomenon which haunts modern economies.
"Money performs no more than the role of a conduit in this double exchange. When the exchanges have been completed, it will be found that one has paid for products with products."
"But the only way of getting rid of money is in the purchase of some product or other."
Hi Walt, I don't think Say was discounting money as a "commodity", I think he was emphasizing the nature of exchange.
And, you are right about the reason for overproduction. I think the biggest difference is that Keynes would point to aggregate overproduction [or lack of consumption] and Say's Law states that overproduction throughout the economy isn't possible in a free market.
Posted By: Walt Thiessen
Date: 2009-05-29 02:04:49
Yeah, the funny thing about Keynes et al is that they don't pay attention to their own terms. The idea of "aggregate overproduction" doesn't even make any sense if you try to apply real-world meaning to the term. It suggests that some of the stuff that gets produced simply gets thrown away without being sold because no one will buy it. The more accurate description is that people won't buy stuff if it's over-priced. Price it low enough, and someone will take it.
And that's really the nub of the matter. Keynesians do not like the idea of lower prices to clear the market. They think that stuff should sell at higher prices, regardless of demand, and that if demand is insufficient it should be "stimulated" (subsidized by someone else, usually via the government). Even the idea of cutting costs to offer lower prices barely gets any acknowledgement in the Keynesian world. I think this may help explain why Keynesians are so heavily dependent upon inflationary economics.
Aggregrate overproduction doesn't make sense, why would the entire economy overproduce? unless of course, you throw in tons of cheap, funny money and boatloads of government spending and stimulus, tax incentives to overproduce and mountains of debt. But even so, as you mentioned, price should clear.
I really think what lies behind it all is asset values. It is what seperates the power elite from the producing class. Asset values have to fall with prices. If you can orchestrate continual high prices through continual inflation, you can place a huge barrier between the masses and those in power through unaffordable [and really unrealistic] assset prices.
Posted By: Jahfre Fire Eater
Date: 2009-05-29 09:22:00
Hi Gene,
I look at it similarly but with a different emphasis.
Any aggregate, or isolated over production is not a mechanical function of any set of parameters and events. The production is a result of decisions made by people. Those decisions depend on the effect the current conditios have on the person who makes those decisions. The human nature of the person or committee in charge may directly affect production decisions in small enterprises. Those same aspects can affect the policies, algorithms or systems that are used by a larger enterprise to project and plan for future production.
Anything that distorts the perception those human components have of the situation could lead to over production.
The important flaw in the Keynesian model is the exclusion of the organic, human components in their theoretical economic machine.
So, when I consider the issue of over production I look at what could cause the human actions that lead to that result.
Makes sense to me! I think it goes back to the question "can everyone go crazy at once?".
I say not very likely unless there is some form of "mass deception".
Also, of course, the question of "control", which ties into "mass deception".
For instance, I believe it is the "individual" hangman who hangs the "criminal", no doubt. But, society as a whole can distort reality enough to convince the hangman to hang an innocent or to even accept the concept of the State choosing who should live and die.
Posted By: Jahfre Fire Eater
Date: 2009-05-29 17:21:56
Hi Gene,
Your comment about the responsibility of the hangman reminded me of this local situation...totally not economic in nature.
Our county offers a free slash pile for locals. Great, we live in the forest and I do a lot of lumber jacking. It used to just be a slash pile, open all the time. Then the county decided that renting a chipper or hiring it out once a year to chip an enormous pile wasn't the best strategty anymore and they bought an incredibly expensive chipper.
Soon afterwards, the county employee running the chipper scooped up some 1" re-bar and put it through the machine. No damage or real problems resulted immediately. Until the government got involved.
Instead of firing the incompetent employee who didn't understand it was his responsibility to ensure that HE didn't put re-bar into the machine, they put a fence around the slash pile, put a chain on the gate, reduced the available hours to prime middle of the day times rather than the end-of-the evening time I prefer to go and hired another county employee to inspect each load for metal.
Now I am fighting to have the county sell the freaking chipper and close the slash pile all together. Especially when I found out they now allow residents of other counties to use this free service provide by my tax dollars. These people have no conscience of sense of responsibility. They passed off this idiot's behavior as "one bad apple spoils it for everyone".
If this guy had been a Democrat he probably would have gotten a promotion.
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