Keynes held that the economy can suffer extended periods of high unemployment because of deficient aggregate spending. A contraction in spending results in businesses having excess inventories and reduced revenues. Businesses respond by cutting back and decreasing their demand for labor. Due to “sticky wages,” this results in a large decrease in employment and incomes for workers. The problem comes full circle and self-aggravating because workers as a whole must restrict their spending due to their reduced incomes.
For Keynes, the solution is found in the government, which can increase the money supply and engage in deficit spending. Monetary and fiscal policies are aimed at stimulating (indirectly) and replacing (directly) aggregate spending, respectively. Instead of focusing on these destructive prescriptions, I want to take a closer look at the central placement of aggregate spending in his analysis.
Establishment economists toe Keynes’s line even today. Consider this highly-cited American Economic Review article from 2022:
The fact that some goods are no longer available has two effects on consumer choice. First, it makes it less attractive to spend overall and induces consumers to postpone spending to the future. These income losses can depress spending in the rest of the economy. …we only need to replace enough income to sustain the pre-pandemic level of spending in the sectors still active. The usual multiplier emerges because the initial stimulus increases incomes, which are then partly spent on all goods; this higher spending creates still higher incomes and so on.
Rothbard offered the latticework analogy. According to him, what holds it all together is the price system and economic calculation:
…the price system, and the profit-and-loss incentives of the market, guide capital investment and production into the proper paths. The intricate latticework can mesh and “clear” all markets so that there are no sudden, unforeseen, and inexplicable shortages and surpluses anywhere in the production system.
One thing is not present in this way of looking at the economy: aggregate spending.
Yes, they still think that spending is the be-all-end-all of the economy without considering production. If you are only working with aggregate spending, then there are many ways to finagle the statistics. The state can goose them by spending money to dig a hole, bury some notes and have people dig them up, but does this do anything for the economy and wealth of the people or even satisfy any wants? Could this be the main incentive for the state to use Keynesian economics?