3. The Macroeconomic Framework

Cf. Hayek (1941, Chap.​ 5).

The population resource base is assumed to be measured in terms of hours of “common” labor, as exemplified (say) in the mythical island economy in the Prologue of 8-h days spent mining bread. In a modern economy, this might be measured in terms of the skills of a typical high-school graduate. Labor skills beyond the basic skills are treated as human capital and included in produced means of production.

It might seem that consumption in excess of income should be treated as negative savings and netted into saving. This is not done because the bulk of consumption in excess of income represents the funding of retirement consumption, and how retirement consumption is financed has important macroeconomic implications. These questions will be discussed in Chap.​ 12.

For present purposes, government saving and investment will be subsumed in business saving and investment.

Throughout this book, saving (singular) will refer to saving out of current income, whereas savings (plural) will refer to the accumulation of past saving.

Money that is created by the discounting at the central bank of IOUs purchased by banks in the commercial paper market will be discussed in Chap.​ 4.

Money creation for the finance of consumption will be ignored for the moment.

It will be noted that consumption is connected to both Goods and Claims in the box labeled Fluid Capital. This reflects the fact that consumption annihilates claims as well as goods.

It is important to emphasize that quasi-rents as defined in this book are gross of any capital charges. The costs, which are subtracted from revenues to arrive at quasi-rents, represent only the literal out-of-pocket expenditures that are incurred in production. In not including capital “user costs” as part of production cost, I am of course departing from both Keynes (in the General Theory) and conventional usage. As discussed in Chap.​ 2, capital charges in this book represent accounting charges against quasi-rents, which transforms the fluid capital originally embedded in produced means of production back into fluid capital.

Taxes obviously must also be paid out of the quasi-rents.

Cf. Keynes’s (1937b) “finance” motive for holding money.

“Active” demanders refer to those desiring to invest in newly produced means of production, current producers, and those consuming in excess of their income. Reservation demanders, in contrast, represent “passive” demanders.

In a purely bank-money economy, the holding of money as an asset would seem to create a problem in that it is obviously impossible for all of the loans, which created the money in the first place to be repaid. What has to happen in this situation is that a part of the original loans – specifically, the amount that is being held as an asset – must be “rolled over.” For banks to be willing to do this, there must be prospects of an increased stream of revenue (valued in current prices), foreseen by businesses and accepted as valid by banks. Otherwise, banks would not be willing to increase the total amount of loans. Thus, it follows that, in a purely “inside-money” economy, an asset demand for money can only be accommodated if the economy is expanding. This conclusion will be discussed in more detail in Chap.​ 7.

See Mirowski (1989, Chaps.​ 5 and 6).

See Hahn (1975).

Whether money is a component of aggregate wealth will be dealt with in Chap.​ 7.

That the total value of tangible wealth is constrained by the value (in current prices) of the stock of fluid capital has important implications for possible excess monetization of the stock of fluid capital. The usual type of commercial loan may be secured by claims to produced means of production, but the claims involved are really claims against current production. So long as the amount of purchasing power that is created does not exceed the current value of the stock of fluid capital, inflation cannot be a problem (except to the extent that expectations may be in error). However, if the value of tangible wealth is monetized as well as the current production that these assets produce, there is great danger that too much purchasing power will be created. The implications of this will be discussed in Chap.​ 7 and at length in Chaps.​ 15 and 16.

Valuation is always a forward-looking process. The current valuation of an asset bears a necessary relationship neither to the original cost of the asset, nor to the myros recovery charges that may already have been charged against past quasi-rents. The expectations that drive valuations can (and do) change so that an equity that seemed attractively priced yesterday need not be so today. Also, the myros recovery charged against quasi-rents in general bear little (if any) connection to an asset’s current prospects for generating quasi-rents. An asset can continue to generate quasi-rents long past the time that its original construction costs have been returned (via myros recovery charges) to the pool of fluid capital. The asset is still part of the economy’s produced means of production and has a value even though it may be carried on the books of the owning firm at zero.

In Chap.​ 12, we analyze such objects as examples of position goods.

Pigou (1943, 1947), in his papers on the classical stationary state, included Old Masters with fiat money as giving rise to a wealth (or real-balance) effect in the event of a continuously falling price level. For reasons already noted, there can be no real-balance effect for fiat money (including gold and silver) and neither can there be a real-balance effect for Old Masters. For, as we have just seen, the valuation of Old Masters, as with the valuation of all assets, depends upon the pool of fluid capital valued in current prices. As prices fall, so too will the value of the pool of fluid capital evaluated in current prices. Real-balance effects will be discussed in more detail in Chap.​ 7.

This is yet another way of seeing that the pool of fluid capital valued in current prices imposes an upper bound on the aggregate value of assets in an economy.

The same principles apply to the valuation of all futures and forward contracts, options, warrants, swaps, etc.

Keynes, it will be recalled, defined aggregate supply and aggregate demand in terms of aggregate employment and aggregate expenditure. Aggregate demand, for Keynes, represented the amount of expenditure that producers expected to receive from employing a particular amount of labor, whereas aggregate supply represented the amount of expenditure that producers had to receive in order for that amount of labor to in fact be employed. Equilibrium was then assumed to occur at the point where aggregate demand and aggregate supply are equal. In contrast with Keynes, aggregate demand and supply in current-day macroeconomics is usually defined in terms of the level of aggregate real output and the general price level. The general price level did not figure in Keynes’s definitions because of his assumption that the price level was unaffected by output changes at less than full employment.

It will be shown in Chap.​ 7 that equilibrium of aggregate demand and aggregate supply and stability of the general price level are equivalent conditions.