Keynes - The General Theory - Chapter IX

Section I: Having dispensed with the "objective" factors, Keynes moves onto the subjective factors which determine the propensity to consume. He lists eight objects "which lead individuals to refrain from spending out of their incomes":

(i) To build up a reserve against unforeseen contingencies;

(ii) To provide for an anticipated future relation between the income and the needs of the individual or his family different from that which exists in the present, as, for example, in relation to old age, family education, or the maintenance of dependents;

(iii) To enjoy interest and appreciation, i.e. because a larger real consumption at a later date is preferred to a smaller immediate consumption;

(iv) To enjoy a gradually increasing expenditure, since it gratifies a common instinct to look forward to a gradually improving standard of life rather than the contrary, even though the capacity for enjoyment may be diminishing;

(v) To enjoy a sense of independence and the power to do things, though without a clear idea or definite intention of specific action;

(vi) To secure a masse de manoeuvre to carry out speculative or business projects;

(vii) To bequeath a fortune;

(viii) To satisfy pure miserliness, i.e. unreasonable but insistent inhibitions against acts of expenditure as such.

There are two things to note here. First, the list is essentially arbitrary. We could very easily come up with other reasons a man may not spend his money, or we could combine some of the reasons Keynes gives to reduce his list from eight to a more manageable number. Second, Keynes leaves off an important reason, namely that the currency is deflating; by refraining from spending, the consumer hopes to get a better deal in the near future. It's very clear that Keynes frowns upon this sort of behavior, but there are a variety of reasons a man may refrain from spending, many of them quite rational.

He also offers some reasons industry accumulates savings, but I don't see how this this list is of much importance, so I'll skip over it.

However, a bit further down we find this tidbit:

Corresponding to these motives which favour the withholding of a part of income from consumption, there are also operative at times motives which lead to an excess of consumption over income. Several of the motives towards positive saving catalogued above as affecting individuals have their intended counterpart in negative saving at a later date, as, for example, with saving to provide for family needs or old age. Unemployment relief financed by borrowing is best regarded as negative saving.

We can see here an adumbration of Keynes's solution to the unemployment problem. But it's worth noting that while consumption can be greater than income, it can only do so at the cost of savings. When the government cuts checks for the unemployed, if the money came via taxation, the taxpayers are financing this consumption; if the money came via printing by the central bank, anyone who uses the currency finances this consumption through the degradation of the currency brought about by inflation.

In a credit based economy, it may seem as if we can increase consumption beyond income, but this is only apparent. We'll cover this in further detail when we discuss the "multiplier", but the key point is that consumption requires production. It does not matter how much money is doled out for the purposes of consumption, if there have been no goods produced for the consumers to purchase. But more on this later.

Section II: Keynes has not yet given us his definition or theory of interest. This will be covered later in the book. But he does offer us this explanation:

The influence of changes in the rate of interest on the amount actually saved is of paramount importance, but is in the opposite direction to that usually supposed. For even if the attraction of the larger future income to be earned from a higher rate of interest has the effect of diminishing the propensity to consume, nevertheless we can be certain that a rise in the rate of interest will have the effect of reducing the amount actually saved. For aggregate saving is governed by aggregate investment; a rise in the rate of interest (unless it is offset by a corresponding change in the demand-schedule for investment) will diminish investment; hence a rise in the rate of interest must have the effect of reducing incomes to a level at which saving is decreased in the same measure as investment. Since incomes will decrease by a greater absolute amount than investment, it is, indeed, true that, when the rate of interest rises, the rate of consumption will decrease. But this does not mean that there will be a wider margin for saving. On the contrary, saving and spending will both decrease.

Based on this theory, a reduction in the rate of interest would increase both saving and spending, much to the benefit of the economy as a whole. There is a good deal of empirical evidence which suggests that this is absurd, but let us take a theoretical view of interest to determine if Keynes is wrong.

In a free market, the interest rate is determined through borrowers and lenders. The former wish for this rate to be low, while the latter desire that this rate be high. If an economy has many savers, the borrower will have little trouble attaining a low interest rate, as the lenders will compete amongst themselves to secure an interest payment. Contrariwise, if the economy has many borrowers, the savers will be able to attain a higher rate of interest, as the borrowers will have to compete amongst themselves to secure a loan. Thus an increase in savings tends to lower the interest rate, while a decrease in savings tends to raise it, precisely the opposite of what Keynes claims.

Of course, a low interest rate is a signal that now would be a good time to secure a loan; this has the tendency to create borrowers, thereby increasing the interest rate. While the interest rate will naturally fluctuate through the coordination of borrowers and lenders, this doesn't discount the manner in which incentives direct the interest rate.

Since this chapter was short, I will try to put up a post on the next chapter later this weekend.