Recently, a debate erupted between Austrians and Keynesians on Daniel Kuehn’s blog, and then later elsewhere, concerning matters that I, in my naivete, had long thought were settled. Sadly, it appears that once again, Henry Hazlitt’s supposed chapter by chapter ‘refutation‘ of TGT has been dredged up from the gutters of history, along with assertions about Keynes’ alleged totalitarianism.
I will start by briefly addressing some comments on Robert Vienneau’s previous exposition of Hazlitt’s book. There seems to be some confusion among the commenters who criticise Vienneau. It is quite clear that Hazlitt does not understand the concept of the marginalist supply curve, which posits that workers trade off leisure for work. Here he mistakenly asserts:
The ‘supply schedule’ of workers is fixed by the wage-rate that workers are willing to take. This is not determined, for the individual worker, by the ‘disutility’ of the employment – at least not if ‘disutility’ is used in its common-sense meaning.
He blatantly confuses the equilibrium between demand and supply with the curves themselves, an incredibly elementary mistake. Vienneau is correct to say that:
Obviously, then, the equality of the wage and the marginal productivity of labor is not enough to determine either wages or employment.
The marginalist theory require us to know both the wage rate and the hours worked to determine employment. Do these people really expect us to take Hazlitt seriously when he can’t even describe the marginalist theory of employment?
Anyway, let’s move on to another section – hopefully everyone can agree that Liquidity Preference is central to Keynes’ theory, so I will focus on Hazlitt’s criticisms of this. Here is Keynes:
Thus the rate of interest at any time, being the reward for parting with liquidity, is a measure of the unwillingness of those who possess money to part with their liquid control over it.
Hazlitt begins with a typically snarky comment:
The economic system is not a Sunday school; its primary function is not to hand out rewards and punishments.
How petty. Keynes’ use of the word ‘reward’ is irrelevant in this case; he’s merely saying that interest is an incentive to get people to part with liquidity. Hazlitt is latching onto something quite meaningless here. Let’s continue:
If you wish to sell me tomatoes, for example, you will have to offer them at a sufficiently low price to “reward” me for “parting with liquidity”—that is, parting with cash. Thus the price of tomatoes would have to be explained as the amount necessary to overcome the buyer’s “liquidity-preference” or “cash preference.”
Keynes is obviously saying that cash has a role as a store of value as well as a medium of exchange. If it is not currently being used for the latter then it will be stored; should it be stored, a certain rate of interest will be necessary to make the buyer part with their liquidity and buy a bond or deposit it in a bank. Hazlitt completely fails to distinguish between the two uses and offers up a false equivalence based on this misunderstanding.
Hazlitt then appears to agree with Keynes for a while:
[People] hold cash (beyond the needs of the transactions-motive) because they distrust the prices of investments or of durable consumption goods; they believe that the prices of investments and/or of durable consumption goods are going to fall, and they do not wish to be caught with these investments or durable goods on their hands.
Here Hazlitt isn’t actually criticising Keynes at all, but simply restating his theory of the speculative motive. He tries to paint this as a disagreement by splitting hairs over the word ‘speculative’ – which is fairly typical of the blunderbuss contrarianism you will find throughout his book – but it’s quite clear that this is simply a restatement of Keynes.
Hazlitt goes on:
If Keynes’s theory were right, then short-term interest rates would be highest precisely at the bottom of a depression, because they would have to be especially high then to overcome the individual’s reluctance to part with cash—to “reward” him for “parting with liquidity.” But it is precisely in a depression, when everything is dragging bottom, that short-term interest rates are lowest.
That interest rates move pro-cyclically is no sufficient to disprove the LP theory of interest, as it is not the only factor determining the interest rate – in a boom demand rises and this pushes up interest rates; the latter happens in a depression. This is entirely compatible with Keynes’ economics and does not mean LP effects are absent or unimportant.
It is worth noting at this point that Keynes was mostly concerned with long term rates, which are what businesses actually use when making investment decisions. To this end, Hazlitt resumes agreeing with Keynes:
It is true that in a depression many long-term bonds tend to sell at low capital figures (and therefore bear a high nominal interest yield), but this is entirely due, not to cash preference as such, but to diminished confidence in the continuation of the interest on these bonds and the safety of the principal.
Right, in other words: their preference for cash or liquidity over more uncertain bonds. Which is what Keynes said.
As a brief note on Keynes totalitarianism: this seems to be based on Keynes mentioning several times that certain policies – both flexible wages (of which he disapproved) and various exchange rate mechanisms & capital controls, as well as active fiscal & monetary policy (of which he approved) – are more easily applied under totalitarian conditions. These observations are quite clearly true - any economic policy, implemented word for word, is easier to apply under totalitarian conditions. This does not mean that totalitarianism is desirable, and you will not find Keynes saying anything of the sort. Furthermore, even if he did say such things, this is irrelevant to his economics.
There are good criticisms of Keynes to be made, but you will not find them with the likes of Hazlitt and Rothbard, who were quite clearly motivated by an overarching desire to ‘own’ Keynes, rather than debate. Rothbard actually wrote an entire book attacking Keynes as a person, which really is all you need to know about what he had to say. These people were not scholars, and their work is best consigned to the dustbin of history.
Addendum: Daniel Kuehn strengthens the argument about Keynes’ preface to the German edition of TGT.