For those who are just tuning in, this is the ninth part in my commentary on Keynes’ General Theory. I should get around to putting the links together on a page, but for now you can find the earlier ones with the sidebar. It starts here.
Just what I needed – a short chapter. Here Keynes considers why people save, and how changes in people’s motivations have an independent effect on the macroeconomic – though as he likes to remind us, the effect may be perverse at the level of society as a whole once the invisible hand is done with it. In fact this chapter is set up like Mandeville’s Fable of the Bees, and is quite funny.
Keynes lists eight motives for saving, which correspond to the virtues of Precaution, Foresight, Calculation, Improvement, Independence, Enterprise, Pride and Avarice. These virtues war within the human breast with the sins of Enjoyment, Shortsightedness, Generosity, Miscalculation, Ostentation and Extravagance.
More prosaic are the motives for saving of governments and businesses: enterprise (saving for future investment), liquidity (for emergencies), improvement (to accumulate income returns from financial assets) and prudence (to be conservative in accounting for depreciation). Then there are the counterpart motives for deficit spending or dis-saving, such as unemployment relief.
Keynes introduces all this only to say it is not that relevant to the determination of consumption in the short-term. The reason is that these factors are based on social and cultural structures that only change slowly, so we can take them as given for the short-run. This has been a process of elimination – Keynes wants to establish that in the short-run consumption depends mainly on the level of income, and not on changes in the propensity to consume out of any given income. Changes in the interest rate have little influence on the propensity to consume.
This is a direct attack on the (neo)classical view that the interest rate brings savings and investment into equilibrium. Keynes argues that the interest rate is of “paramount importance” in determining consumption, but through its effects on the level of income, not on the propensity to consume. [p. 110] And the effects will be the opposite of what the classical theory predicts: a rise in the interest rate will actually lower the amount of savings.
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. [pp. 110-11]
And it is from this vantage point that he delivers the king hit to virtue:
The more virtuous we are, the more determinedly thrifty, the more obstinately orthodox in our national and personal finance, the more our incomes will have to fall when interest rises relatively to the marginal efficiency of capital. Obstinacy can bring only a penalty and no reward. [p. 111]
But, then he gives a big afterthought: if the economy is at full employment, and the interest rate is used to keep the economy at full employment, the rate of capital accumulation depends positively on the savings rate. Saving is good again, assuming we want faster economic growth. Keynes’ only complaint with the classicals is that they assume full employment. That takes a lot of the edge off all the sardonicism.