John Maynard Keynes,The General Theory (BN Publishing, 2008), pp. 74–85.

[ed. This chapter includes a lot on Austrian capital theory and forced savings. Questions of mine are peppered throughout.]

I.

Keynes restates his achievement in chapter 6: defining savings and investment such that they are always equal; i.e. S=I.

II.

Here we explore what Keynes means by investment: basically, the purchase of capital equipment, financial assets, housing, et cetera. More specifically, the increase in the value of capital equipment. Where his definition of investment from others’ is in the inclusion or exclusion of different individual items. He gives the example of Ralph Hawtrey, who suggested that an “undesigned increment (or decrement) in the stock of unsold goods” should be excluded from a definition of investment (an unconvincing idea to Keynes). Neither does Keynes agree with the Austrian definition, since he argues that the latter like to cite capital consumption “where there is quite clearly no net decrease in capital equipment as defined above.” He also chastises the Austrians for not defining the terms, suggesting that the belief that “capital formation occurs when there is a lengthening of the period of production is ambiguous.”

This gives us some good grounds for discussion. I will reproduce some questions I have asked elsewhere, concerning Keynes’ treatment of the Austrians here,

My first two questions deal directly with what Keynes means. First, when he chastises the Austrians for calling capital consumption what is not, is he referring to the theory of the business cycle? That is, capital consumption (malinvestment) occurs during periods of fiduciary expansion. Second, is the inability to find definitions merely a product of a lack of ‘required reading, so to speak? The last sentence is particularly interesting. My third question: what do you think Keynes is trying to say? In other words, what is his point?

III.

This is the dynamic part of the chapter: explaining the divergences between savings and income.

The volume of employment, N, is decided by the entrepreneur who is seeking to maximize “present and prospective” profits (φ(N)). In turn, the volume of employment which will maximize profits is decided by the aggregate demand function (f(N)). Therefore, an increased excess of investment over savings will induce entrepreneurs to increase N. Basically, employment is decided by expectations of effective demand.

Keynes uses Dennis H. Robertson’s explanation of pretty much the same phenomenon (according to Keynes) to clarify what he is attempting to get across. Robertson defined today’s income as equal to yesterday’s consumption + investment; today’s saving = yesterday’s investment + (yesterday’s consumption – today’s consumption). Saving can exceed investment if yesterday’s income > today’s income (yesterday’s income – today’s income = excess savings). As such, excess savings = fall in income. It describes the same phenomenon, but the two approaches (Keynes’ and Robertson’s) is different: the former is a future-oriented approach, while the latter is past-oriented.

IV.

This section is about forced savings.

At first, Keynes writes that he had mistakenly assumed some similarity between the concept of “forced savings” and the idea of “excess savings.” But, he notes, now he realizes this is not true. He cites Friedrich Hayek and Lionel Robbins as users of the phrase, and argues that they have not clearly defined what they mean; but, he recognizes that it originates from changes in the quantity of money or credit.

Changes in volume of output (A) and employment (N) will cause changes in income, measured in wage-units. This, in turn, will redistribute income between borrowers and lenders, and will change the amount of total income saved. All the same, changes in the quantity of money may result in a change in the volume and distribution of income, which may affect the quantity of savings. But, these cannot be called “forced saving. Keynes promises to revisit the topic soon.

He decides to define forced saving by assuming a “standard rate of saving” equal to that which would exist in full employment. Forced saving is therefore actual saving – standard rate of saving; but, Keynes points out that this would be rate and unstable (it would be a deficiency of savings). Citing Hayek’s “Note on the Development of the Doctrine of Forced Saving,” Keynes notes that this was the original definition as employed by Jeremy Bentham. An increase in the quantity of money cannot increase real income, therefore additional investment takes place by taking resources away from consumption. However, writes Keynes, this concept is difficult to apply during periods of less than full employment. This is because an increase in employment will be accompanied by an increase in capital equipment; i.e. there are idle resources.

V.

Keynes traces the origins of the idea that investment can differ from savings to an optical illusion. Ultimately, writes Keynes,nobody can save without acquiring some kind of asset. Aggregate savings must be equal to aggregate investment.

This, Keynes uses as an attack on the concept of forced savings. Credit expansion will lead to greater current investment and incomes will be increased. Except in conditions of full employment, this means that real incomes will rise with money incomes. Then society will choose to divide its higher income between consumption and savings. Keynes notes that it is impossible that the “intention of the entrepreneur… can become effective” without an increase in savings. These savings are just as genuine as any other form of savings, because according to Keynes the decision to hold the new money comes at the expense of some of other form of wealth (despite the fact that new money will cause prices to rise). He does concede that an increase in credit will lead to: (1) increased output, (2) an increase in the value of the marginal product in terms of wage-units, and (3) a rise in nominal wages. But, he suggests that these three things occur with any rise in output. Again, he will return to this topic in the near future.

So, while the idea that “saving always involves investment” is “incomplete and misleading,” it is better than the two alternatives: either “that there can be saving without investment” or that there can be forced saving. Why? Because savings has two sides. If everyone were to save simultaneously, incomes would fall: savings cannot exceed investment. If investment were greater than savings, income would rise to where savings would equal investment.

He draws an analogy to the demand for money and its effect on money prices. The demand for money is dependent on income and prices. Thus, an increase in money will necessarily cause an increase in prices. All the same, on aggregate, changes in aggregate demand cause changes in aggregate income.