DECEMBER 01, 1979 by CLARENCE B. CARSON
Dr. Carson has written and taught extensively, specializing In American intellectual history. His recent series in The Freeman, World In the Grip of an Idea, is being published by Arlington House.
Many economists, journalists, and publicists spread the view after World War II that we now know how to prevent depressions. The claim was that the government could prevent depression by manipulating the money supply, altering the tax structure, providing employment, and "stimulating" the economy. If these, and like measures, were undertaken judiciously, depressions were supposed to be avoidable.
The evidence is mounting that such is not the case. The United States has been in the throes of depression for most of the 1970s, a depression which threatens to deepen and shows no signs of going away. All the devices which were supposed to prevent depression have been extensively employed, but to little or no avail. In fact, there is good reason to believe that the very measures supposed to prevent depression are prolonging and deepening it. But to grasp the full implications of this we need a new or different concept, I suggest we view what is happening to us as "Permanent Depression." And we may look to Soviet Russia, Communist China, Castro’s Cuba to see where that road leads.
Permanent Depression is that condition which exists when there is involuntary underemployment of land, labor, and capital to satisfy human wants. Permanent Depression may be great or small. It may be so small that its direct effects would be experienced by only a few people. Or, it may be so massive as to erupt in what will be recognized as a Great Depression engulfing peoples around the world. But whether massive or tiny, whether apparent to everyone or knowable only as potentiality, Permanent Depression exists wherever there are obstacles which result in involuntary underemployment of land, labor, and capital to satisfy human wants. It is a depression because less is produced than otherwise might have been. Goods are less plentiful than they might have been. Prices are higher than they might have been. Human wants go unsatisfied, and to the extent that the condition is involuntary it is a depression.
Why not simply "underemployment . . . , " it may be asked? It is true that any underemployment of resources would result in less than full production. But if the satisfaction of human wants is the goal of the activity, voluntary underemployment must be permitted. Saving, leisure, and possession for convenience and enjoyment are human wants—any of which may occasion underemployment. To formulate the matter otherwise would involve the contradiction of sacrificing the wants of some to satisfy the wants of others. So long as the wants of all are in play, there is no reason for describing the resulting condition as depression. Whereas, if the underemployment is involuntary, the satisfaction of wants is clearly being reduced, i.e., depressed.
This brings us, too, to the cause of the Permanent Depression. The cause is implicit in the word "involuntary." The cause is that force has been intruded into human activity so as to place obstacles in the way of production. Force in one form or another is the only plausible explanation of involuntary activity or inactivity. Although the use of force may be variously motivated and be used for any number of objects, it can have only two origins. It must either be exerted by outlaws or through the agency of government. Since it is the business of government to apprehend and restrain outlaws, the proximate cause of Permanent Depression is government, either through failure to perform its function or by positive acts of compulsion.
Governments can and do cause Permanent Depression. Indeed, they are directly the usual cause and the only bodies who could make it permanent. Nothing is easier to accomplish than for government to bring on Permanent Depression. All it has to do is to adopt measures which have the effect of discouraging production. A review of the history of the world would show that as soon as any government has consolidated its power over a people—gained a monopoly of power—it has in one way or the other gone about the task of discouraging production. In our era, governments have not only discouraged production but also encouraged consumption, thus deepening and broadening the Permanent Depression. The movement to do this is now world-wide, but let us restrict our account largely to the United States.
For several decades now—indeed, for the better part of a century—the leaders of the United States have been acting on the basis of a profound economic error. It is not a new error, but it has been given impressive academic credentials over the past century. The error can be stated this way, though it is not usually put so bluntly or directly: The way to prosperity and national felicity is to discourage production and encourage consumption. Stated so generally and baldly, the fallacy of the proposition may show through. But that is not how we ordinarily confront it. It is usually advanced in some particular application, and down where each of us lives, the proposition has great appeal.
Let me illustrate. Everyman is usually firmly convinced that he knows the solution to his economic problem, if he has one. The problem is this, as he sees it: There are too many producers of the goods he produces or too many providers of the services he provides. Which of us is immune to this notion? I know—don’t argue with me on this one—that there are too many writers. No doubt, I would know with equal clarity if I were a real estate salesman that there are too many of those. In like manner, the managers of Chrysler Corporation can see that too many automobiles are being produced. Or, to turn the problem around, there are too few customers for the goods and services we have to offer. The solution is obvious. Have government discourage production —at least that of the others—and encourage consumption—at the least of whatever it is I have to offer.
The error in these beliefs is by no means obvious, certainly not in the particular applications. Yet it is a prescription for Permanent Depression. That measures based on the error would lead to depression was pointed out nearly two centuries ago by J. B. Say. The corrective to the error was stated in what has come to be known as Say’s Law.
J. B. Say was a French economist, a contemporary, more or less, of Adam Smith. His economic treatises were published in the early years of the nineteenth century. His works never attained the renown of Smith’s. Today he is remembered, if at all, for the economic law which is joined to his name. And even the law has fallen into disrepute among many economists, for reasons that may be apparent when it has been examined. Various claims have been made to its refutation, but that is easier said than done.
Say’s Law is usually stated this way: "Production creates its own demand."1 I know of no general law more infelicitously stated. It is subject to all sorts of misinterpretations. It must be immediately qualified in order to get to its meaning. To wit: The act of production does not create demand. It is only when what has been produced is offered in the market that it becomes demand. Even that is not obvious. Moreover, not just anything that is produced and offered in the market becomes demand. Only those commodities or that labor which is wanted will become demand. Nonetheless, that production creates its own demand may be the most direct and effective way to state the law.
Some propositions which under-gird Say’s Law need to be stated in order to establish its validity. The most important is this. In the absence of a medium of exchange, or money, if you will, supply is demand and demand is supply. This can be readily demonstrated by a simple barter situation. Suppose that I grow tomatoes and my neighbor grows bell peppers. My family having set up a clamor for bell peppers, I approach my neighbor with the proposal that I will give him twelve of my tomatoes for twelve of his peppers. He consents, and the exchange is made. Clearly, my supply of tomatoes constituted the demand for his peppers. In like manner, his supply of peppers constituted his demand for my tomatoes. It is not difficult to see, either, that it was my production of the tomatoes that created the effective demand for the peppers.
The Use of Money in Trade
It was Say’s contention that the use of money in effecting exchanges does not fundamentally alter the situation. Fundamental they may not be, but there can be no doubt that the use of money changes some things. When money is used in transactions, supply and demand assume separate guises. It becomes possible to calculate price levels. Demand comes to be expressed as money and supply as goods. An opening occurs for monetarist illusions that demand can be increased by increasing the money supply. Even so, Say maintained that it is only an illusion that money is ever anything more than a medium through which goods are exchanged for goods. He put it this way: "Money performs but a momentary function in this double exchange; and when the transaction is finally closed, it will always be found, that one kind of commodity has been exchanged for another."2
John Stuart Mill noticed that there is another difference which comes into play when money is used. There is, he said, "this difference—that in the case of barter, the selling and buying are simultaneously confounded in one operation; you sell what you have, and buy what you want, by one indivisible act, and you cannot do the one without doing the other. Now the effect of the employment of money, and even the utility of it, is, that it enables this one act of interchange to be divided into two separate acts or operations; one of which may be performed now, and the other a year hence, or whenever it shall be most convenient." The seller "does not therefore necessarily add to the immediate demand for one commodity when he adds to the supply of another."3
The Timing of Trade
What occurs may be described this way. The demand which arose from a product at some time in the past is transferred into money in which it may be said to reside until another purchase is made. But this is a never ending process, so long as the money remains in circulation, so that at any given time some of the demand resides in the medium through which exchanges are made. None of this changes the validity of the fundamental axiom, as Mill affirms: "Nothing is more true than that it is produce which constitutes the market for produce, and that every increase of production . . . creates, or rather constitutes, its own demand."4
Say’s Law impressed and was accepted by many of the greatest economists of the past two centuries. David Ricardo affirmed and applied it. John Stuart Mill, as just noted, accepted it as axiomatic. Say’s works provided an important part of the foundation for Frederic Bastiat’s writing. Amongst our contemporaries, William H. Hutt has declared "that the Say Law stands once again inviolate as the basic economic reality in the light of which all economic thinking is illuminated." Moreover, it is a self-evident truth whose validity may be tested and proved by all who have some understanding of the world in which we live.
"Production creates its own demand." We have now arrived at the point, perhaps, where we can affirm the importance of the word "production" in the statement of the law. However misleading it may be on first encounter it is nonetheless the key to the significance of Say’s discovery. Production is the road to prosperity, the law informs us. If there is a fall off in demand, the way to increase it is to increase production. If supply is declining the way to signal demand is by production.6 The only limit on the degree of potential prosperity, Say was telling us, is whatever limits there may be to productivity of what is wanted.
The way to create Permanent Depression can now be restated. It is to act on the premise of the reversal of Say’s Law. Reversed, it can be stated this way: Consumption creates its own supply. Although no one to my knowledge has phrased the proposition that way, it is the necessary premise for much that is believed. The notion of a general overproduction of goods is premised upon it. In like manner, it is the underlying premise of all notions that the economic problem is to stimulate consumption. So far as programs to discourage production and encourage consumption have an economic premise, it is the one arrived at by reversing Say’s Law.
Barriers to Commerce
Even a brief survey of government programs will give some indication of how deeply involved the United States is in discouraging production and encouraging consumption. Indeed, such policies are not entirely new in this country. The protective tariff was a fixture in the United States in the latter part of the nineteenth century. Although proponents of the protective tariff have often advanced it as a device to encourage production, it does not have that effect. So far as it works, it discourages domestic production by denying some of the foreign market to American products. If domestic producers are enabled to supplant foreign producers as a result of the tariff the true significance is that Americans produce less, and at higher cost, than if their resources had been directed to that production which Americans could do most efficiently. Foreign loans, much used in the twentieth century, have the economic effect of encouraging foreign consumption at the expense of domestic, and discouraging production for the domestic market.
But it is in the twentieth century that so many devices have been adopted to encourage consumption and discourage production. Since it would take a massive catalogue to detail them all, it will be possible here to touch only on some of the broad categories.
All redistributionist programs, whatever the motives for enacting them, have the effect of encouraging consumption and discouraging production. This is so whether it is school lunch programs, food stamp programs, urban renewal projects, CETA, government operated educational institutions, welfare payments, or what have you. Redistribution takes away from potential saving and investment and allots the money where it is likely to be spent for consumption. Thus, it discourages production by making it more difficult to accumulate capital with which to produce. The progressive income tax is not only a redistributionist measure but also one which patently discourages production and, depending on how it is spent, encourages consumption. All payments made to the idle have the effect of discouraging production and making the recipient a consumer only.
The effects of inflation—increase of the money supply—are somewhat more complex. On the face of it, much of the increased money supply is an encouragement to production, for it may be spent on plants, machinery, and productive equipment. But this is misleading. Inflation encourages the consumption of capital or productive equipment, not production as such. It sends false signals into the market by leading to a general rise in prices, leading to indiscriminate increases in production, many of which are unwarranted. Inflation, then, tends to encourage consumption, encourage indiscriminate production, and hence to discourage the concentration on producing what is most wanted, which is that portion of production which contributes most to prosperity.
Price controls have the general effect of encouraging consumption and discouraging production. And such controls are rampant in the United States today. Minimum wages, whether established by law or by unions, whether called minimum wages or salaries or wages prescribed in a civil service structure, are price controls. Moreover, wage price controls discourage production. They do so, in the first place, by reducing the number who might be employed in production—causing unemployment. In the second place, where the unemployed are paid, either in unemployment compensation or as welfare, there is an encouragement to consumption unmatched by production. Maximum prices are widespread today, on domestic oil, on much of transportation, on milk, on gas, and for hundreds of other goods and services. So far as these prices are below what they would be in a free market, they discourage production and encourage consumption.
Many sorts of government controls discourage production without themselves encouraging consumption. Government monopolies discourage production. The monopoly which the United States Postal Service has over the delivery of first class mail, for example, prevents others from entering the field and providing the service. The virtual monopoly which governments have of schooling discourages others from entering that field. Indeed, all government licensure and franchising discourages production. "Licensure," Milton Friedman has said, "is a special case of a much more general and exceedingly widespread phenomenon, namely, edicts that individuals may not engage in particular economic activities except under conditions laid down by a constituted authority of the state."7 Such activities are usually justified on the grounds that they protect the public by maintaining standards, but whether they do or not, by restricting entry they discourage production.
Government regulation of industry, whatever its aim, discourages production. Quality controls, environmental controls, safety regulations, prescriptions for labeling, and so on are just so many difficulties in the way of producing goods. Government prescribed record keeping and reporting to government are discouraging to production. They raise the cost of producing and keep from the market myriads of products.
Generally speaking, governments in the United States do not avowedly aim to discourage production today. For a while in the 1930s, and to a lesser extent in the 1940s and 1950s, there was a conscious effort to limit production. Nowadays, however, production, per se, is not the avowed object of government control. It is even usually admitted, perhaps reluctantly, to be a good thing. But the government does often avowedly encourage consumption and by so doing proclaims that consumption, in effect, creates its own supply and leads to prosperity.
J. B. Say wrote precisely to the point. He said "that the encouragement of mere consumption is no benefit to commerce; for the difficulty lies in supplying the means, not in stimulating the desire of consumption; and we have seen that production alone, furnishes those means. . . . For the same reason that the creation of a new product is the opening of a new market for other products, the consumption or destruction of a product is the stoppage of a vent for them."8 He goes on to point out, of course, that the consumption of a product is not an evil, for it is the end for which the production was done. But then, neither does the consumption itself contribute one whit to any further commerce.
It is an evil, however, he said, when consumption begins to exceed production. What then happens: "the demand gradually declines, the value of the product is less than the charges of its production; no productive exertion is properly rewarded; profits and wages decrease; the employment of capital becomes less advantageous and more hazardous; it is consumed piecemeal . . . because the sources of profit are dried up. The labouring classes experience a want of work; families before in tolerable circumstances, are more cramped and confined; and those before in difficulties are left altogether destitute."9
That is an apt description of what is happening in the United States today, though it was written nearly two hundred years ago. We are inclined to ascribe our difficulties today to inflation. Undoubtedly, inflation is an important part of our difficulty, but it is not at the root of the trouble. Our trouble stems from acting as if consumption creates its own supply, from turning Say’s Law upside down. We have been encouraging consumption and discouraging production. Every effort in that direction contributes to the breadth and depth of a Permanent Depression. When restrictions on production have proceeded far enough Permanent Depression emerges as the kind of depression we recognize from the past. Except, the underlying Permanent Depression may have been transmuted into a visible permanent depression.
Say’s Law points away from Permanent Depression. It points toward, if not Permanent Prosperity, at least to as great prosperity as is possible for man. What is government’s proper role in this prosperity? John Stuart Mill put it this way: "The legislator has to look solely to two points: that no obstacle shall exist to prevent those who have the means of producing, from employing those means as they find most for their interest; and that those who have not at present the means of producing, to the extent of their desire to consume, shall have every facility afforded to their acquiring the means, that, becoming producers, they may be enabled to consume."10 In short, government should remove its obstacles to production and take what measures are appropriate to it to facilitate production. Then, all may consume at will, and as they will, what they have produced themselves, or acquired from others with their production.
‘For a more complete statement of its implications, see Henry Hazlitt, The Failure of the New Economics (New Rochelle, N.Y.: Arlington House, 1973), pp. 35-37.
2J. B. Say, "Of the Demand or Market for Products" in Henry Hazlitt, ed., The Critics of Keynesian Economics (New Rochelle, N.Y.: Arlington House, 1977), p. 15.
sJohn Stuart Mill, "On the Influence of Consumption on Production" in ibid., pp. 41-42. *Ibid., p. 44.
5Svetozar Pejovich and David Klingaman, eds., Individual Freedom: Selected Works of William H. Hutt (Westport, Conn.: Greenwood Press, 1975), p. 141.
6No one is relieved by Say’s Law from applying intelligence to production, of course. It is necessary to determine what is wanted and to go about producing it efficiently if production is to become effective demand and profitable. Wilton Friedman, Capitalism and Freedom (Chicago: University of Chicago Press, 1962), p. 138.
‘Say, op. cit., pp. 20-21.
°Ibid., p. 22.
"Mill, op. cit., p. 26.