Is investment spending “spending,” or isn’t it? Steve Roth (@ Wealth Economics) J.M. Keynes’ brief Preface to the French edition of General Theory is sometimes held up as the most concise, cogent, and coherent expression of his economic understandings. It achieves that, but in doing so it also reveals a core incoherence in that thinking. An obligatory nod here to the importance of many pieces of Keynes’ thinking, notably the rather magisterial dismantling of a fundamental error in the thinking of the “English Political Economy” or “classical” “orthodoxy.” In the third paragraph of the Preface he explains that his orthodox predecessors have been engaged in a massive error of composition. .…important mistakes have been made through
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Is investment spending “spending,” or isn’t it?
Steve Roth (@ Wealth Economics)
J.M. Keynes’ brief Preface to the French edition of General Theory is sometimes held up as the most concise, cogent, and coherent expression of his economic understandings. It achieves that, but in doing so it also reveals a core incoherence in that thinking.
An obligatory nod here to the importance of many pieces of Keynes’ thinking, notably the rather magisterial dismantling of a fundamental error in the thinking of the “English Political Economy” or “classical” “orthodoxy.” In the third paragraph of the Preface he explains that his orthodox predecessors have been engaged in a massive error of composition.
.…important mistakes have been made through extending to the system as a whole conclusions which have been correctly arrived at in respect of a part of it taken in isolation.
It’s an error which sadly remains quite ubiquitous to this day.
It’s in paragraph four that Keynes reveals his own troublesome contradiction. Start with an unabrogatable truth: One unit’s spending is another unit’s income. Spending is transferring assets from one unit’s account to another’s (in return for newly produced goods).
Spending = Income
Keynes agrees and expands, here with two necessary, implicit, and omitted words added:
…the consumption spending and investment spending of one individual is the source of the incomes of other individuals
Spending = Consumption spending + Investment spending
This is all good. Standard stuff. But then in the very same sentence we get (emphasis added):
“the disposition of individuals to spend and invest” and “the readiness of individuals to spend and invest”
Suddenly, only consumption spending counts as spending? Investment spending isn’t spending anymore. Is it or isn’t it?
If we’re using the economics and accounting technical term of art, investment spending quite patently is spending, by definition and so by accounting identity. It’s spending to create or purchase long-lived (productive) goods, that will not be (fully) consumed within the accounting period. (Those goods are not actually “consumed” by humans, but through accounting depreciation/write-offs estimating and recording decay, wear and tear, obsolescence, etc.)
Keynes seems to be making a total freshman error here. He’s confusing investment spending with vernacular “investment”: swapping M2 assets for ETF assets or whatever. Portfolio churn. Unlike investment spending, this “investment” is just a one-for-one swap of already-existing assets between asset holders; it creates no new goods or account assets, for the individuals or collectively. By contrast, investment spending causes production of new long-lived goods, and via accounting mechanisms, creation of new balance-sheet assets.
In any case, the sentence is self-contradictory — impossible for a careful reader to understand. It delivers not light and clarity, but confusion. If you go through General Theory with this spending contradiction in mind, you’ll find that confusion is pretty pervasive. And it extends to a dismayingly large portion of economics and finance writing and thinking ever since.
The ultimate irony here: Keynes’ freshman error is of the very same type as the error of composition that he so tellingly dismantles.