Given such bizarre approaches to something that begs for the application of a little common sense, no wonder hopes for a true recovery dwindle by the day. As we concluded our discussion of the four pillars of an economically just society, we observe that, despite the obvious benefits to be obtained from a rapid expansion of direct ownership of the means of production, many people — Belloc among them — simply assumed and continue to assume that the task is hopeless, or nearly so. In consequence, they either throw in the towel, or redefine reality in order to try and get what they think they want, an activity in which the current crop of leadership seems to excel.
We can understand Belloc's pessimism, and even appreciate it to some extent. The problem is that Belloc made the same mistake as Chesterton in formulating the principles of distributism. Ironically, this is also the mistake made by the Keynesians, the Monetarists, the Austrians, and virtually every academic and policymaker for the past two hundred years and more. The mistake is twofold: 1) using the wrong definition of money (one that implicitly destroys the direct private property link between money and production), and 2) not recognizing the act of social justice. We have already covered the act of social justice in the posting on the limited economic role for the State. Our concern in this posting is the wrong definition of money and the conclusions that flow from it.
Using the wrong definition of money forces the inevitable — and incorrect — assumption that capital formation can only be financed out of existing accumulations of savings. This assumption is what we can call "the myth of savings," and which Kelso and Adler referred to as "the slavery of savings."
From the wrong definition of money flows all the bad assumptions that have destroyed private property for the great mass of people and convinced them that the only way to advance technologically is to have concentrated ownership of the means of production, whether that ownership is concentrated in a small group of private owners, or (preferably) the State. This, in turn, has further convinced many people that technological progress is evil, or is at least contrary to human nature. That being the case, everything beyond "human scale" must be broken up or destroyed in order to reestablish a more human society — and all because the financing of new or replacement capital is assumed to be tied irrevocably to the slavery of existing accumulations of savings.
This sounds as if the Just Third Way has an animus against savings, or even against humanity. Nothing could be further from the truth. What we oppose is the wrong definition of savings, a definition rooted in the wrong definition of money derived from the British Currency School, a definition that raises almost insurmountable barriers against most people participating in the productive process in any meaningful or material way. As we have already seen, the Currency School's definition of money assumes an absolutist State, and denies essential human dignity by putting people at the service of money, rather than the other way around. In the same way, the Currency School assumes that production is a derivative of money and that "money" consists solely of coin, currency, and demand deposits (M1), which completely reverses the natural order of things in which money is a derivative of production, and M1 is a derivative of money.
It is something of a toss-up whether we address the issue of savings or that of money first. Because savings seems to be better understood — or, at least, there seem to be fewer misconceptions about savings, we will begin with savings, even though the myths about savings are rooted in the wrong definition of money.
Nowhere is the damage done by the wrong definition of money — and thus of savings — more evident than in the belief that capital formation can only be financed by cutting consumption, saving, then investing. This has led to the adoption of what can only be called nonsensical and self-defeating principles by all the major schools of economics, and most of the minor ones as well, especially distributism. Belloc clearly — and unconsciously — presents this contradiction at the beginning of Chapter II of The Restoration of Property. As he declares,
As we approach the problem of the restoration of property there are two main principles to be kept in mind: —The italics are Belloc's. We dealt with principle (ii) at some length in the "Introduction" to this blog series, so we only need to repeat the fact that Belloc got things backwards. You don't correct an injustice by committing an equal and opposite injustice, or, worse, out of revenge exacting more than you consider your due. Instead, you organize with others in social justice and work to eliminate the injustice by removing whatever unnecessary barriers exist to democratic and full participation in the common good. This is obvious once we look at the issue objectively.
(i) The first is that any effort to restore the institution of property (that is, re-establish a good distribution of property in a proletarian society such as ours has become) can only be successful through a deliberate reversal of natural economic tendencies.
(ii) The second is that our effort will fail unless it be accompanied by regulation making for the preservation of private property, so much of it as shall have been restored.
Both these principles are essential to success. (The Restoration of Property, op. cit., 37.)
Principle (i) is a horse of a different color. Believing that we "can only be successful through a deliberate reversal of natural economic tendencies" reveals an orientation directly at odds with reality — so much so that, unless we can get out of the cage this orientation builds around us (with, oftentimes, our enthusiastic consent and support), we will not be able to restore property . . . or anything else, for that matter. Boiled down to its essence, Belloc's statement is an astounding rejection of reality and so contrary to common sense that it almost takes a miracle to overcome.
Why do we say this? The statement, after all, seems innocuous enough. Economics has certain "tendencies" — laws — that in the current condition of society operate in a manner contrary to many people's individual good and the demands of the common good as a whole. The solution sounds equally innocuous: reverse these tendencies, and all will be well.
To his credit, Belloc did not take the "out" that if people would just be personally virtuous and think or believe in the "right" way, all would be well. Belloc specifically rejected the idea that "We must convert England to a right religion before we can make Englishmen free." (The Restoration of Property, op. cit., 62.) As he stated in no uncertain terms: "This obvious and radical attitude, at the risk of paradox, I beg leave to challenge." (Ibid.) Instead, he pointed out that practical corrective measures must be implemented, and the work of "conversion" could go on at the same time. This, however, still leaves the problem of Belloc's belief that reversing economic tendencies could correct the situation. (Ibid., 63.)
The problem is that these "economic tendencies" (of which the laws of supply and demand are usually singled out for special vituperation) are part of the nature of the science of economics itself. They have been observed and proved empirically time and again. Take them away or reverse them (whatever you want to call it), and what is left cannot be called "economics."
That much is obvious. You cannot change the definition of something — that is, change a thing's substantial nature — and still claim that it remains the same thing. To do so is simply to lie to yourself and others. To "reverse" the meaning or operation of the laws of economics is to shift the basis of economics from its own nature to something else, and then claim that you are not doing the very thing you are doing.
It gets worse, however. Economics is a "social science." That means that the nature of the science of economics is firmly established on observed human behavior, which within our limited human perceptions is the only thing we have on which to base our understanding of the natural moral law. This is because human behavior is based on human nature, which in turn is based on the nature of whatever ultimate reality or "first cause" created human nature. As a devout Catholic (some would say "fanatical"), Belloc defined this ultimate reality as the Christian God, and His Nature as the basis for the natural moral law . . . of which the science of economics is an application. Thus, what Belloc claimed must be done in order to succeed is the very thing that can never be done by humanity — nor by God, either, for it would involve God in a contradiction. The one thing God cannot do is contradict or reverse Himself, that is, deny His own Nature.
Correcting Belloc's errors, however, is surprisingly easy once we have the key to unlock the cage into which so many of us have willingly incarcerated ourselves. We find this key in how we understand the natural moral law. Belloc's quarrel with the laws of economics, shared by many devout people of many faiths, is quickly resolved once we realize that the general norms of the natural law are . . . general. Particular applications of the general norms of the natural law, while they necessarily reflect the essential principle involved, can take an infinite number of forms. Some of these forms may have, over time, decayed or become inadequate to meet current needs. Some of them may have been inadequate from the very beginning.
This is because applications of the natural moral law can only take form within the institutional framework of the social order — the common good. When these institutions are flawed or inadequate, humanity's particular applications of the general norms of the natural law within those institutions will necessarily reflect these flaws and inadequacies, and function to the detriment of some or all.
When that happens, the proper course to follow in social justice is not to deny, reject, or "reverse" the general norm of the natural law. Instead, we are to organize with like-minded others, and carry out acts of social justice to restructure the institutions so that the particular applications of the natural law within those institutions can once again function to the benefit of everyone within that institution.
Thus, we cannot, for example, declare that the laws of supply and demand are evil because people are harmed by their current applications, and attempt to deny, reject, or reverse them. Instead, we must examine the situation and determine why the laws of economics are not operating to the benefit of every participant in the common good. We must then take appropriate steps to correct the situation, not try and change reality.
There may, of course, be times when we must set aside the laws of economics, but only temporarily as an expedient in an emergency situation. For example, in a famine, the natural tendency is for the price of food to rise far beyond what people can afford to pay. The solution in social justice would be to arrange matters so that people can produce more food, bringing prices down naturally.
As we saw in our discussion of the characteristics of social justice, however, social justice takes time. In the interim, local authorities, even the State, can, as a temporary expedient, take over care of people's particular goods and impose rationing, price controls, and similar measures to keep people alive until the situation can be rectified. (Unfortunately, the temptation for those in authority is always to continue such measures long after they can be justified, as it gives them incredible power, but that is a different issue.)
It is not, however, all the laws of economics to which Belloc objects. He singles out one in particular as the root cause of the decay of private property as a widespread institution: the necessity of existing accumulations of savings to finance capital formation.
In a supremely ironic twist, however, this "myth of savings" is not a law of economics! The fixed belief of the absolute necessity of existing accumulations of savings is a tenet of the British Currency School, and is based on the Currency School's bad definition of money and credit. This is a definition that, as we have seen, rejects essential human dignity and assumes State absolutism as a necessary and normal thing.
Belloc's argument is straightforward, and reflects the understanding of finance embodied in all the major schools of economics. We will quote it at some length because it gets to the heart of the matter — but keep in mind at all times that it is based on a false principle, that is, the wrong definition of money. Given the wrong definition, however, Belloc draws the logical conclusion (again, the italics are Belloc's):
The larger unit of capital will automatically be accumulated for a lesser proportionate reward than the smaller one. This is an exceedingly important point which the earlier critics of Capitalism overlooked. It is a major cause in the disastrous swelling of large accumulations and corresponding disappearance of small property and economic freedom.The problem is that, insightful as Belloc's analysis may be, it is completely wrong. It assumes as a given, as an iron law of economics, of nature itself, that capital formation is impossible until and unless consumption is reduced — that production derives from money in the form of monetary savings, not that money derives from the present value of existing production or from the present value of a reasonably anticipated future stream of income from production of marketable goods and services. A brief look at the facts reveals the falsity of this basic assumption. We will not attempt to make the case against Belloc's claim — although, admittedly, we are being unfair to Belloc to put it that way; he was simply repeating what the experts told him, and what many people down to the present day believe as firmly as once they did that the sun revolves around the earth.
Capital accumulates for a certain reward. Capital is created by saving out of production for the purposes of future production, and it will not be so accumulated by anyone, the individual owner nor the Communist State, save for some standard of remuneration. A certain measure of this reward sufficient to provide an accumulation of capital, produces what John Stuart Mill called "The Effective Desire of Accumulation," and we cannot do better than adopt this conventional term. Without "an effective desire for accumulation of Capital," either in the private citizen or in the direction of the Communist State, the stores of livelihood, the maintenance of instruments, and (of course) addition thereto will dwindle and fail, and wealth will decline. Men will not forgo a present for a future good save on terms of increment. Whether as individuals, as families or as governments, men will not deprive themselves of the immediate enjoyment of a sum of wealth for the sake of a future sum of wealth, unless the second is larger than the first. . . .
It is an error, as I have just said, to imagine that this factor is only present under Capitalism. It is necessarily present under Communism, or under well-divided property, and indeed in any economic system whatsoever. . . .
Capital is accumulated with the purpose of future production in excess of its present amount, and if such addition were not expected, Capital would not be accumulated at all. (The Restoration of Property, op. cit., 53-5.)
As we have already noted, the theoretical refutation of the claim that capital formation can only be financed out of existing accumulations of savings is found in the work of Adam Smith, Henry Thornton, Jean-Baptiste Say, and John Fullarton, among others. Let the theoreticians argue with them. What we will review — again, very briefly, for our purpose is not to prove the case itself, but to report the proof, which you may then examine for yourself — is the work of Dr. Harold G. Moulton, whose empirical findings conclusively disproved the dogma that the only way to finance capital formation is to cut consumption, save, then invest.
In 1934 and 1935, the Brookings Institution published four books detailing an alternative to the Keynesian New Deal. The New Deal, in the opinion of many, was simply a way of disguising socialism, and was probably ineffective in any event. Even some Keynesians are beginning to admit that the New Deal did not bring the United States out of the Great Depression. It was the increased demand for war material to supply the combatants in the Second World War that achieved that goal, as was also the case in 1915 (The Formation of Capital. Washington, DC: The Brookings Institution, 1935, 65).
Of the four book set, the most important (also the shortest) is the third volume, The Formation of Capital. After recapping the situation described in the two previous volumes, America's Capacity to Produce (1934) and America's Capacity to Consume (1935), Moulton concluded that the Great Depression was not due to any inability to produce, or to consume what was produced. Instead, the problem was financing new production that, in accordance with Say's Law of Markets, would generate the income to consume what was produced. This Moulton formulated as "the economic dilemma":
Belloc — or Keynes — couldn't have said it any better. To accumulate monetary savings requires that the saver be able to afford to cut consumption. Belloc, in fact, explained the same concept in similar terms: "Another way of putting it is to repeat the obvious truth that the margin for saving in the case of poor men is narrow, while that of rich men is wide. It is easier to save $25,000 a year out of $50,000 a year than to save $2500 a year out of $5000 a year. And out of $250 a year no man could save $125 (in England to-day) and keep alive." (The Restoration of Property, op. cit., 55.)THE NATURE OF THE DILEMMA
The dilemma may be summarily stated as follows: In order to accumulate money savings, we must decrease our expenditures for consumption; but in order to expand capital goods profitably, we must increase our expenditures for consumption. . . . Under the modern system of specialized production and exchange the pecuniary savings of individuals are in the main necessarily at the expense of consumption. If an individual with an income of $2,000 elects to save $500 he reduces his potential consumption by one-fourth. Moreover, the aggregate of individuals who make up society must in a given time period restrict aggregate consumption if funds are to be provided, out of savings, for additional capital construction. (Ibid., 28.)
There is, however, something that neither Belloc nor Keynes (nor any other economist adhering to the tenets of the Currency School) considered. That is, if we cut consumption in order to accumulate money savings to finance capital formation, there will be no market for the goods and services we propose to produce! People will have cut consumption in order to save, thereby making new capital an unprofitable venture. The "economic dilemma" is that the very means by which the economists tell us we must finance new capital formation ensures that the capital will not be financed. As Moulton explains,
When the managers of modern business corporations contemplate the expansion of capital goods they are forced to consider whether such capital will be profitable. They must begin to pay interest upon borrowed funds immediately and they must hold out the hope of relatively early dividends on stock investments. . . .To cut to the chase (and cut out several pages of Moulton's careful research and analysis), if we accept the dogma that we must cut consumption in order to finance new or replacement capital formation, every period of intense capital formation would necessarily be preceded by a period in which savings increased in roughly the same amount. . . thereby also removing the incentive for anyone to finance new capital formation!
Now the ability to earn interest or profits on new capital depends directly upon the ability to sell the goods which that new capital will produce, and this depends, in the main, upon an expansion in the aggregate demand of the people for consumption goods. . . . if the aggregate capital supply of a nation is to be steadily increased it is necessary that the demand for consumption goods expand in rough proportion to the increase in the supply of capital. (The Formation of Capital, op. cit., 29.)
Studying the economic history of the United States from 1830 to 1930, with special emphasis on the period from 1865 to 1930, however, Moulton discovered something astounding (at least to adherents of the Currency School). In no case between 1830 to 1930, a century that contained periods of the greatest industrial, agricultural, and commercial expansion in the history of the human race, were cycles of intense capital formation preceded by increased saving. Instead, directly contradicting the Currency School dogmatic assertion, in each and every case instances of intense capital formation were preceded by increased consumption! People were not saving, but dissaving!
The conclusion is inescapable. Financing new capital does not require cutting consumption in order to generate savings. Instead, new capital formation somehow requires that we use our savings to increase consumption, thereby creating the incentive to invest in new capital.
"But . . . but . . . but that's impossible!" the Currency School devotee splutters. "The money has to come from somewhere! And if not from cutting consumption and saving, then where?"
We agree. If we accept the definition of "money" used by the British Currency School, there is no way to finance capital formation except by cutting consumption and accumulating monetary savings before investing. Fortunately however, like Moulton, we do not accept the Currency School's limited and limiting definitions of money and savings. Released from that particular form of slavery, Moulton readily explains the source of the financing:
Funds with which to finance new capital formation may be procured from the expansion of commercial bank loans and investments. In fact, new flotations of securities are not uncommonly financed — for considerable periods of time, pending their absorption by ultimate investors — by means of an expansion of commercial bank credit. (Ibid., 104.)Understanding how expanding commercial bank credit requires that we understand money and its necessary direct private property link to production — which is the subject of the next posting in this series.