. . . instead of making people work for profits. Which, frankly, is a bad way of putting it, for there is no reason to work at all if there is no profit in it. What we mean (after titling this blog in a way we hope will catch your eye and keep you glued to the screen), is that — consistent with Say’s Law of Markets — production and consumption should be in balance.
Thus (so Jean-Baptiste Say’s reasoning went), the aggregate profit in an economy should be exactly equal to aggregate consumption. For example —
A Producer/Consumer (Say assumed that every producer is a consumer, and every consumer is a producer) desires, wants, or needs to consume 100 Pazoozas’ worth of goods and services in a year. In order to do so, P/C must produce 100 Pazoozas’ worth of goods and services, either for his own consumption, or to trade with other P/Cs for the goods and services they produce.
If what P/C produces doesn’t cost him anything, and he sells everything for cash, he only has to produce goods and services to the value of 100 Pazoozas. If, however, what P/C produces costs him 50 Pazoozas to produce, then he needs to sell what he produces for 150 Pazoozas to cover his costs and realize enough profit to meet his living expenses.
And so on, down the line. Thus, if P/C A sells 100 Pazoozas’ worth of stuff that cost him no cash outlay to B, and B uses it to produce something B sells to C for 200 Pazoozas, then C must be able to sell what he produces for 300 Pazoozas in order to make the same profit as A and B, and thereby meet his living expenses.
|Cattle were once currency and the standard of value.|
If the economy in our example consists of only A, B, and C, it is easy to see how everything stays in balance in accordance with Say’s Law:
A’s cost of production is zero, and he buys 100 Pazoozas’ worth of stuff from C to consume, using the 100 Pazoozas he received selling what he produced to B. A’s income and outgo are equal at 100 Pazoozas.
B purchases 100 Pazoozas’ worth of stuff from A to produce stuff, and another 100 Pazoozas’ worth from C to consume, using the 200 Pazoozas he received selling what he produced to C. B’s income and outgo are equal at 200 Pazoozas.
C purchases 200 Pazoozas’ worth of stuff from B to produce stuff, and keeps 100 Pazoozas’ worth of stuff he produced for his own consumption. He pays for the 200 Pazoozas’ worth of stuff he purchased from B with the 100 Pazoozas he received from A, and the 100 Pazoozas he received from B. C’s income and outgo are equal at 300 Pazoozas.
You can keep adding more people and more complicated transactions, but it boils down to Say’s Law of Markets: production equals income, and supply generates its own demand, and demand, its own supply . . . in aggregate, even if the “aggregate” is an economy in which GDP is 600 Pazoozas, as in our example.
Of course, the above example assumes that human labor is the only factor of production. What happens if you add in capital, that is, land and technology?
|Capital increases production.|
Well . . . nothing — if by “nothing” we mean that the basic scenario remains the same. You’re adding one cost, but usually taking away another one (or why would you be using technology in the first place, if it wasn’t more productive than labor?), so that production either increases with the same inputs, or stays the same with fewer inputs.
To illustrate, in the above example C produced the consumer goods he, A, and B required to meet their consumption needs, using the input he purchased from B, that B produced with the input he purchased from A. Now let’s add D, who produces the capital good necessary to make A’s production more efficient:
A purchases 100 Pazoozas’ worth of capital from D, and 100 Pazoozas’ worth of consumer goods from C, paying for both of them by signing a promissory note that he will pay C and D 100 Pazoozas each after he produces 200 Pazoozas’ worth of stuff that he expects to sell to B. A does so, making his production equal his consumption, or his income equal his outgo.
B purchases 200 Pazoozas’ worth of stuff from A, which he turns into 400 Pazoozas’ worth of stuff that he sells to C. B pays A 200 Pazoozas and — doubling his consumption (he just got married because he could now afford to) — pays C 200 Pazoozas. B’s income and outgo are also equal.
A takes the 200 Pazoozas he got from B, and pays C and D each 100 Pazoozas, redeeming his promissory note.
C purchases 400 Pazoozas’ worth of stuff from B, which he turns into 800 Pazoozas’ worth of consumer goods, of which he sells to A, B, and D (all of whom could now afford to get married because of the increase in production resulting from the capital D provided), and keeps 200 Pazoozas’ worth for himself, because he got married and doubled his consumption, too. C’s income and outgo also balance.
D purchases 200 Pazoozas’ worth of consumption goods from C using the 100 Pazoozas he got from A in payment of the capital he sold A earlier, and a promissory note backed by the value of the 100 Pazoozas’ worth of capital he expects to sell to B, to be redeemed when B pays him.
|Henry Dunning Macleod|
Obviously, no economy in the world works in such a simplified manner. There are too few people for one thing, and too few products. A, B, C, and D need a lot more people to buy what they produce, but the example is only intended to illustrate the principle of Say’s Law of Markets: that production equals income, and therefore supply generates its own demand, and demand, its own supply.
Also, it becomes obvious that money and credit are (or should be) “self-regulating.” Money and credit are actually the same thing. As Scottish lawyer, banker, and "maverick economist" Henry Dunning Macleod noted more than a century ago, “Money and Credit are essentially of the same nature; Money being only the highest and most general form of Credit.” (Henry Dunning Macleod, The Theory of Credit. Longmans, Green and Co., 1894, 82.)
Money — and therefore credit — is legally defined as “anything that can be accepted in settlement of a debt.” More specifically, money is “All things transferred in commerce.” When A, B, C, and D produce something for use or sale, they create money. They can either trade what they produce directly (barter money), or — more likely — “pre-trade” using credit, that is, promises to deliver actual goods or a claim on actual goods in the future. The “money” is legitimate either way.
What happens, however, when somebody who doesn’t produce anything starts issuing “money,” that is, starts making promises that he doesn’t have the capacity to keep? We’ll look at that tomorrow.