I was perusing the commentary on negative deposit rates yesterday (a policy the ECB is considering) when I came across this piece on the Mises website. The author, in a very typical hyperbolic Austrian fashion, declares the Keynesian “end game” among other claims. But the commentary is way off the mark and I think it’s helpful to point out precisely why so we can avoid what is becoming a mass of confusion on several topics.

First here’s the gist of the piece:

“Negative deposit rates” means that the banks will charge the customer for saving money and placing it in the bank. According to Keynesian theory (if there really is such a thing) government needs to spur “aggregate demand” in order to stimulate the economy to increased production. Keynes had no respect for savings…only spending. He called the consequences of savings to be a “paradox of thrift” in that if we all save instead of spend, then the economy will go into a death spiral. He was completely ignorant of capital theory, which explains that REAL capital, not paper money capital, comes from deferring spending ON CONSUMER GOODS in order to increase spending ON CAPITAL GOODS. The money that we save is not destroyed. It goes into the lendable funds market to finance long term capital investment that will pay future dividends, both literally and figuratively, ensuring MORE goods in the future. It is a mark of the fanaticism and desperation of the Keynesians that they would resort to threats of money confiscation in order to prevent people from saving and force them to spend in the present. This is shear and utter madness…some might say it is theft on a vast scale, perpetrated by government fanatics.

Let’s unpack that bit by bit.

1) Keynes didn’t say that government’s “need” to spur aggregate demand. Keynes said that a lack of business investment was the key driver of unemployment and that government could, at times, do things to act in a counter-cyclical manner to boost aggregate demand thereby boosting business investment. Keynes understood that capitalism runs on business revenues. He famously promoted aggregate demand because he understood that consumer demand drives the health of capitalist entities. Keynes was pro-business, not just pro-consumption. For this reason Keynes was in favor of having the government act in a counter-cyclical fashion by running deficits when aggregate demand was low and running surpluses when aggregate demand was high.

2) Regarding the “paradox of thrift” – Keynes simply understood that investment creates saving. But saving does not necessarily finance investment. Let’s say I spend $100 on a candy bar you sell to me and you save that income immediately. Your saving is $100 if even for the briefest moment. In other words, your saving (income not consumed) is $100. If you then consume $50 on dinner then you dissave $50 via consumption. But that dissaving becomes someone else’s saving immediately. In other words, your saving does not increase aggregate saving because your spending is someone else’s saving. But let’s say a firm invests (spending not consumed for future production) $100 in plants and equipment. The firm has not dissaved. The firm has invested. In this case, the firm has $100 in plants and equipment and the seller has $100 in new income. Indeed, it is often investment that creates saving. Keynes understood that my income is someone else’s spending and that, in the aggregate, if we don’t spend then someone doesn’t have income. Therefore, if someone decides to save more than he/she earns then someone else doesn’t generate that income. In the aggregate, if we all saved every dollar we earned then there would be no income in the economy and economic life would grind to a halt. More importantly, Keynes understood that investment creates saving and that investment is driven by businesses who see high demand for their goods and services. Keynes didn’t just respect saving, he was, by definition, the ultimate promoter of it by being a proponent of investment.

3) On the “lendable funds market” – this is just a lack of understanding of endogenous money and how modern banking works. Banks don’t collect funds that they can loan out. The author is using a simple fixed money supply mentality that assumes that money is just something that’s passed from person to person and not borrowed into existence from thin air when banks make loans. In other words, it’s a total myth as the Bank of England and Federal Reserve have previously shown.

4) The worst part of this piece is that the policy being discussed (negative rates) is not necessarily Keynesian. In fact, it’s a policy that Monetarists and New Keynesians have strongly promoted (see here and here) based in large part on the idea that banks “lend out” their reserves and will be more inclined to make loans if they are charged a penalty rate. This is unlikely. Banks might be more inclined to take more risk if they are charged a penalty rate, but they certainly don’t “lend out” reserves so that’s clearly wrong. And the added cost of holding reserves will likely just mean they have to make up the difference somewhere else like charging customers higher fees. I highly doubt that they will be more inclined to lend just because they’re incurring higher costs.

5) Fear not – I am not simply being a Keynesian apologist. It’s just that I’ve just finished reading the General Theory for the second time and am growing wary of seeing how so many people misunderstand his arguments in what is an obvious political hitjob and nothing more. Keynes was, in many ways, as conservative as most American conservatives today and in fact, regularly expressed his disgust for Marxists as well as “American Keynesians”. Still, it’s true that we should be highly skeptical of government spending and government actions and I think Keynes would have agreed. Taxation can certainly be seen as a form of confiscation and negative interest rates, if imposed by the Central Bank, could act as a tax on the economy. That’s a bad thing as negative interest rates could act like a tax on consumers who are required to use the private banking system for most of their transactions. That could reduce national income and hurt growth. And for that reason, we should be highly skeptical of this policy. But let’s be careful about rejecting ideas based on ideological misrepresentations rather than fact.

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