In conclusion … the foregoing theory is moderately conservative

1. In conclusion … the foregoing theory is moderately conservative The State will have to exercise a guiding influence on the propensity to consume partly through its scheme of taxation, partly by fixing the rate of interest, and partly … in other ways. … [it is] unlikely that the influence of banking policy on the rate of interest will be sufficient by itself to determine an optimum rate of investment. [T]herefore, a somewhat comprehensive socialisation of investment will prove the only means of securing an approximation to full employment. … beyond this no obvious case is made for a system of State Socialism … If the State is able to determine the aggregate amount of resources devoted to [investment] and the basic rate of reward to those who own [capital], it will have accomplished all that is necessary. …if our central controls [establish] full employment as nearly as is practicable, …then there is no objection to the classical analysis of the manner in which private self-interest will determine what in particular is produced, in what proportions the factors of production will be combined to produce it, and how the value of the final product will be distributed …

2. 1926:Economic Journal, Only constant returns compatible with perfect competition. 1951-73: Collected Works of Ricardo 1960: Production of Commodities by Means of Commodities: Prelude to a Critique of Economic Theory Piero Sraffa 1898 - 1983 Joan Robinson 1903 - 1983 Keynes’ Circus James Meade 1907 - 1995 E. A. G. Robinson 1897 - 1994 "I have my heart to the left and my brain to the right." Richard F. Kahn 1905 - 1989 Co-author of General Theory?

3. Michal Kalecki: A Parallel Development of the General Theory? • Engineering education, Warsaw Poly • Polish business cycle institute • Sweden (1935), England (1936 – 1945) • International Labor Organization; United Nations New York (till 1955) • Warsaw professor • Keynes: A deviationist from Marshall • Kalecki: A deviationist from Marx • Macroeconomics of class conflict • “When workers spend what they earn, capitalists earn what they spend” Proba teorii koniunktury (An essay on the theory of the business cycle), Warsaw: 1933 • I  Y (a multiplier process)  Profit  S = I • As in General Theory, investment spending drives the macroeconomy … and generates fluctuations Michael Kalecki 1899 - 1970

4. Kalecki’s Economics • Capitalist share (1 - α) determined by monopoly power • Capitalist Profit depends on Capitalist Spending Profit = Capitalist Spending = c0 + mpc x Profit + I  Profit = (c0 + I)/(1 – mpc) • Capitalists earn what they spend • Recall widow’s cruse from Keynes’ Treatise on Money • When capitalists’ mpc = 0 and workers’ mps = 0, economy’s mps = (1 – α) and investment multiplier = ΔY/ΔI = 1 / (1 – α) • Investment is own undoing: I = m x Profit – m x K • As capital stock increases, borrowers and lenders risks increase • If the entrepreneur is not cautious enough in his investment activity, it is the creditor who imposes on his calculation the burden of increasing risk…Anticipation of Minsky • The tragedy of investment is that it causes crises because it is useful…it is not the theory [Kalecki’s] that is paradoxical but its subject—the capitalist system. • Attack on Pigou (real balance) effect • Falling wages and prices  “catastrophic increase” in debt burden  “wholesale bankruptcy and a confidence crisis.” • Recall Fisher’s debt-deflation theory of depression  anticipation of Minsky • G must offset vagaries and secular decline of I

5. Kalecki’s Economics • G must offset vagaries and secular decline of I but… • Big business opposes full employment (stimulus) programs: • Dislike of government intervention on principle • Dislike of public investment and subsidized consumption “You shall earn your bread in sweat” • Dislike of full employment • Disciplinary role of “the sack” • Political business cycle: countercyclical G reversed at peak • Military Keynesianism half-acceptable • No such thing as the long-run independent of its short periods  A dynamic macroeconomics

6. Keynes’ General Theory • What did he say? • Different things at different times • On tariffs On saving • What did he mean? • Y = C + I • C = C(Y) …Propensity to consume  passive response to income • I = I(i) …Marginal efficiency of capital + animal spirits  instability • S = I …spending multiplier … Income adjusts, not wages and prices • L = L(Y,i) … Liquidity preference function • interest rate determined in money market, not Scredit = Dcredit , not Ssaving = Dinvestment …the transition from a lower to a higher scale of activity involves an increased demand for liquid resources which cannot be met without a rise in the rate of interest, unless the banks are ready to lend more cash…If there is no change in the liquidity position, the public can save ex ante and ex post and ex anything until they are blue in the face without alleviating the problem in the least. The “Ex Ante” Theory of the Rate of Interest, Economic Jrnl, 1937. … In the world of the classical economy, … why should anyone outside an insane asylum wish to use money as a store of wealth? …The possession of actual money lulls our disquietude; and the premium which we require to make us part with money is the measure of the degree of our disquietude. The General Theory of Employment, QJE, 1937.

7. Keynes on Uncertainty • By “uncertain” knowledge, let me explain, I do not mean merely to distinguish what is known for certain from what is only probable. The game of roulette is not subject, in this sense, to uncertainty…Or, the expectation of life is only slightly uncertain. Even the weather is only moderately uncertain. The sense in which I am using the term is that in which the prospect of a European war is uncertain, or the price of copper and the rate of interest twenty years hence, or the obsolescence of a new invention, or the position of wealth-owners in the social system in 1970. About these matters there is no scientific basis to form any calculable probability whatever. We simply do not know. Nevertheless, the necessity for action and for decision compels us … to do our best to overlook this inconvenient fact and behave exactly as we should if we had behind us a good Benthamite calculation of a series of prospective advantages and dis advantages, each multiplied by its appropriate probability, waiting to be summed. • The General Theory of Employment, QJE, 1937.

8. The Neoclassical – Keynesian SynthesisShort – run  Keynesian UnemploymentLong – run  Classical Full Employment Mr. Keynes and the Classics: A suggested simplification, Econometrica, 1937 Goods Market: I = S Money Market: L = M  ISLM macromodel • Macro- equilibrium • Policy tool Sir John Hicks 1904 - 1989 i LM IS Y

9. Confidence and Effective Demand in Keynes’ Economics UNCERTAINTY Rush to liquidity in a crisis only reduces prices of securities  iUP “Quasi – rents” Yields/Profits Interest Rate Price of Capital Asset, Pk (What it’s worth) vs. Price of Investment, PI (What it costs to build) Investment Spending Multiplier Effective Demand, Output and Employment

10. Stabilizing an Unstable Economy • Financial Instability Hypothesis: • Hedge finance • Speculative finance • Ponzi finance Two types of risk affect the volume of investment. …The first is the entrepreneur's or borrower's risk and arises out of doubts in his own mind as to the probability of his actually earning the prospective yield for which he hopes. If a man is venturing his own money, this is the only risk which is relevant. …But where a system of borrowing and lending exists, a second type of risk is relevant which we may call the lender's risk. GT, Chapter 11. Hyman Minsky 1919 - 1996 Student of Simons/Schumpeter • A Minsky Cycle • Displacement (invention, easy money) • Boom…successful speculation • Euphoria…financial innovation • Profit taking • Panic PK Borrower’s Risk Price of capital assets Lender’s Risk PI When expectations are disappointed, investment collapses … but debts remain Internal funds Io I1 Investment

11. Mehrling on Minsky • How to infer financial conditions: • Speculative financing requires periodic refinance So Increased financial fragility  Increased difficulty rolling over loans  Increased demand for bank loans…But banks finance “speculatively”  Problems of bank refinancing • Evolution of financial fragility: • Post WWII, Treasury bills ruled  refinancing “automatic” [the Accord] • Banks drew down their T-bill holdings  Money market financing • But Fed not responsible for money market • Fed policy of “brinksmanship”—lender of last resort only in crisis • Increased volatility of short-term rates Higher s-t rates  refinancing by pledging ever greater future cash amounts. So refinance increases fragility rather than restores robustness. Natural thrust toward fragility is amplified, not dampened, by financial system. Refinance becomes impossible for some overextended units  crisis erupts. They default  upsetting efforts of others to refinance. OR they attempt to “make position by selling position”  fire sale  Undermine collateral support for the existing debt structure.

12. Mehrling on Minsky • Periods of tight liquidity  short rates rise (incentive for stretching liquidity) • Value of today’s cash flows rises relative to cash flows in the future. • Demand price of capital assets (Pk) falls • Supply price of investment goods (Pi) rises (interest is a cost of production). • The incentive to invest is reduced. • The greater danger: • collapse of investment spending • reduced aggregate income • cash flows elsewhere in the economy fall short of expected levels • hedge finance units  speculative units • speculative units  Ponzi units, • the fragility of the system increases. • An investment slump might amplify the financial problems of a few units and bring the whole system down in a cascade of debt deflation.