by Murray Rothbard
(Contents by Publication Date)
The Keynesians have been caught short again. In the early and the late 1970s, the wind was taken out of their sails by the arrival of inflationary recession, a phenomenon which they not only failed to predict, but whose very existence violates the fundamental tenets of the Keynesian system. Since then, the Keynesians have lost their old invincible arrogance, though they still constitute a large part of the economics profession.
In the last few years, the Keynesians have been assuring us with more than a touch of their old hauteur, that inflation would not and could not arrive soon, despite the fact that "tight-money" hero Paul Volcker had been consistently pouring in money at double-digit rates. Chiding hard-money advocates, the Keynesians declared that, despite the monetary inflation, American industry still suffered from "excess" or "idle" capacity, functioning at an overall rate of something like 80%. Thus, they pointed out, expanded monetary demand could not result in inflation.
As we all know, despite Keynesian assurances that inflation could not reignite, it did despite the idle capacity, leaving them with something else to puzzle over. Inflation rose from approximately 1% in 1986 to 6%, interest rates the next year rose again, the falling dollar raised import prices, and gold prices went up. Once again, the hard-money economists and investment advisors have proved far sounder than the Establishment-blessed Keynesians.
Along with that the best way to explain where the Keynesians went wrong is to turn against them their own common reply to their critics: that anti- Keynesians, who worry about the waste of inflation or government programs, are "assuming full employment" of resources. Eliminate this assumption, they say, and Keynesianism becomes correct in the through-the-looking glass world of unemployment and idle resources. But the charge should be turned around, and the Keynesians should be asked: why should there be unemployment (of labor or of machinery) at all? Unemployment is not a given that descends from heaven. Of course, it often exists, but what can account for it?
The Keynesians themselves create the problem by leaving out the price system. The hallmark of crackpot economics is an analysis that somehow leaves out prices, and talks only about such aggregates as income, spending, and employment.
We know from "microeconomic" analysis that if there is a "surplus" of something on the market, if something cannot be sold, the only reason is that its price is somehow being kept too high. The way to cure a surplus or unemployment of anything, is to lower the asking price, whether it be wage rates for labor, prices of machinery or plant, or of the inventory of a retailer.
In short, as Professor William H. Hutt pointed out brilliantly in the 1930s, when his message was lost amid the fervor of the Keynesian Revolution: idleness or unemployment of a resource can only occur because the owner of that resource is deliberately withholding it from the market and refusing to sell it at the offered price. In a profound sense, therefore, all unemployment and idleness is voluntary.
Why should a resource owner deliberately withhold it from the market? Usually, because he is holding out for a higher price, or wage rate. In a free and unhampered market economy, the owners will find out their error soon enough, and when they get tired of making no returns from their labor or machinery or products, they will lower their asking price sufficiently to sell them.
In the case of machinery and other capital goods, of course, the owners might have made a severe malinvestment, often due to artificial booms created by bank credit and central banks. In that case, the lower market-clearing price for the machinery or plant might be so low as to not be worth the laborer's giving up his leisure--but then the unemployment is purely voluntary and the worker holds out permanently for a higher wage.
A worse problem is that, since the 1930s, government and its privileged unions have intervened massively in the labor market to keep wage rates above the market-clearing wage, thereby insuring ever higher unemployment among workers with the lowest skills and productivity. Government interference, in the form of minimum wage laws and compulsory unionism, creates compulsory unemployment, while welfare payments and unemployment "insurance" subsidize unemployment and make sure that it will be permanently high. We can have as much unemployment as we pay for.
It follows from this analysis that monetary inflation and greater spending will not necessarily reduce unemployment or idle capacity. It will only do so if workers or machine owners are induced to think that they are getting a higher return and at least some of their holdout demands are being met. And this can only be accomplished if the price paid for the resource (the wage rate or the price of machinery) goes up. In other words, greater supply or use of capacity will only be called forth by wage and price increases, i.e., by price inflation.
As usual, the Keynesians have the entire causal process bollixed up. And so, as the facts now poignantly demonstrate, we can and do have inflation along with idle resources.