Facing facts: The Ideal of Constant Value Of The Currency vs. The Fact of Inflation

Note: The treatments of price changes in CWL 15 are mainly in 1) pp.75-80, 2) 128-44.

Sequence

  • Ideal and practical aspects of the economic process 
  • Ideally money is constant in exchange value 
  • The condition of constancy in exchange value 
  • Characteristics of dummy money in an exchange economy 
  • Promise and trust between two parties
  • The dynamic structure of the productive process and classes of monetary flows 
  • But prices do change.  The changes have causes and intelligibilities and the changes must be interpreted.
  • Concomitance and intensity among flows
  • Real analysis and the everyday use of money 
  • Price tendencies (prescinding from excess or deficient money supply) 
    • The first kind of cause of inflation – ordinary scarcity
    • The second kind of cause of inflation – disproportion between monetary and real consumer income
  • Misconceptions of professional economists as to interest rates and responsibilities
  • Adjusting the rate of saving to the phase of the expansion
  • Further re interpretation of price changes 
  • The basic price-spread ratio

 

Ideal and practical aspects of the economic process

We have recited some aspects of the dynamic economic process:

  • (Dummy) money “must be constant in exchange value.”
  • Prices alone do not explain the economic process. Prices must be interpreted in the light of those significant variables which actually explain the economic process.
  • The economic process of production and exchange always is the current, purely-dynamic process
  • The economic process is an organic whole
  • The process has an exigence for a normative pure cycle of expansion.
  • Equilibrium requires the keeping of pace and balance among interdependent flows of products and money
  • Scarcity is the normal cause of inflation
  • Maladjustment of incomes is the maladaptive cause of inflation
  • Just as the surplus phase of the expansion is anti-egalitarian in tendency, postulating an increasing rate of saving, … so the basic phase of the expansion is egalitarian in tendency; it postulates a continuously decreasing rate of saving [CWL 15, 139]
  • The central adjustment to the respective phases of the process may be formulated as adjustment of I”/(I’ + I”), the ratio of surplus income to total income
  • Interpreters of prices must distinguish between real and relative price increases monetary and absolute changes in prices

 We highlight excerpts applicable to the treatment to follow:

… positive or negative transfers to basic demand (D’-s’I’) and consequent similar transfers to surplus demand (D”-s”I”) belong to the theory of booms and slumps. (CWL 15, 64]

the dummy must be constant in exchange value, …  The alternative to constant value in the dummy is the alternative of inflation and deflation.  Of these famous twins, inflation swindles those with cash to enrich those with property or debts, while deflation swindles those with property or debts to enrich those with cash; [CWL 21, 37-38]

prices tend to move in the same direction as quantities.  Prices rise in a boom, when quantities increase, to fall in a slump, when quantities decrease.  However, the causes of such price variations are of two kinds.  (CWL 15, 130-31)

In Germany in January 1921, a daily newspaper cost 0.30 marks.  Less than 2 years later, in November 1922, the same newspaper cost 70,000,000 marks.  All other prices in the economy rose by similar amounts.  This episode is one of history’s most spectacular examples of inflation, an increase in the overall level of prices in the economy. [Mankiw 2007, 12]

It is now necessary to state the necessary and sufficient condition of constancy or variation in the exchange value of the dummy.  To this end we compare two flows of the circulation: the real flow of property, goods, and services, and the dummy flow being given and taken in exchange for the real flow….Accordingly, the necessary and sufficient condition of constant value in the dummy lies in its concomitant variation with the real flow. (CWL 21, 38-39)

Modern Monetary Policy would be a disaster waiting to happen. In its unchecked extreme of printing money unconstrained by relation to the real flow of goods, and services, it tends toward rampant inflation and torture of the financial system, so as to bring about a) the severe impairment, or destruction of the financial system, and b) social chaos. The longer MMT’s unconstrained printing and irresponsible government borrowing last, the greater would be the intractability of ultimate problems.

real analysis (is) identifying money with what money buys. … And that is the source of the problem in real analysis.  If you want to treat money that doesn’t make a difference, you can have a beautiful liberal monetary theory.  But it doesn’t say the way the thing works. [CWL 21, Editor’s Introduction, xxviii]

Just as the surplus expansion is anti-egalitarian in tendency, postulating an increasing rate of saving, and attaining this effectively by increasing, in the main, the income of those who already spend as much as they care to on basic products, so the basic expansion is egalitarian in tendency; it postulates a continuously decreasing rate of saving, a continuously decreasing proportion of surplus income in total income; and it achieves this result effectively by increasing, in the main, the income of those who have a maximum latent demand for consumer goods and services. [CWL 15, 139]

While we can effect the anti-egalitarian shift with some measure of success, in fact the egalitarian shift (required for the basic expansion) is achieved only through the contractions, the liquidations, the blind stresses and strains of a prolonged depression. (CWL 15, 153-54)

The dynamic economic process has a normative theory, which enlightened participants can honor freely or violate, and, by so violating, debilitate or destroy the process.  Lonergan speaks about the need for concomitance, equilibrium and continuity to avoid “smashing the organism.”  The economic process is an organic whole.  It can proceed only within the limits of equilibrium of the various phases of expansion. Continuity is the maintenance of organization within these limits. To step outside them is, in the extreme, to bring about a general breakdown, i.e. to “smash the organism”.

Now the general theorem of continuity is that this complex machine has a nature that must be respected.  … What is true is this: as soon as a few of these (variables) are determined, the rest become determined within narrower limits, for all form part of an organic whole; to violate this organic interconnection is simply to smash the organism, to create the paradoxical situation of starvation in the midst of plenty, of workers eager for work and capable of finding none, of investors looking for opportunities to invest and being given no outlet, and of everyone’s inability to do what he wishes to do being the cause of everyone’s inability to remedy the situation.  Such is disorganization. . (CWL 21 73-5)

the general equilibrium of the exchange process continues to answer with precision the complex question, Who, among millions of persons, does what, among millions of tasks, in return for which, among millions of rewards?  Nor is the dynamic solution unaccompanied by a continuous stimulus to better efforts and more delicate ingenuity.  For the uniformity of prices means that the least efficient of those actually producing will at least subsist, while every step above the minimum efficiency yields a proportionately greater return. (CWL 21, 34-35)

But, beyond that microeconomic general-equilibrium determination of who, what, and which rewards, there are further equilibria which must be maintained.  Either participants become enlightened or else they lose their freedom of exchange.

Lonergan’s Summary of the Argument states

From the premises and conclusions of this analysis it will the be argued 9) that prices can not be regarded (by academics or the stewards of the economy) as ultimate norms guiding strategic economic decisions, 10) that the function of prices is merely to provide a mechanism for overcoming the divergence of strategically indifferent decisions or preferences, and 11) that, since not all decisions and preferences possess this (strategic) indifference, the exchange economy is confronted with the dilemma either of eliminating itself by suppressing the freedom of exchange or of certain classes of exchanges, or else of effectively augmenting the enlightenment of the enlightened self-interest that guides exchanges. [CWL 15, 5-6]

Inversely, the rising prices of the surplus expansion are not real and relative but only monetary and absolute rising prices; to allow them to stimulate production is to convert the surplus expansion (of the ideal pure cycle) into a (trade cycle of) boom (which must be followed out of systematic necessity by a correlative and devastating slump.)  This I believe is the fundamental lack of adaptation to the productive cycle that our economies have to overcome. [CWL15, 139-140]

Ideally money is constant in exchange value.

if this dummy (money) is to work satisfactorily, if it is to bridge the intervals fairly and adequately, then it must fulfill certain conditions. … The third condition is that the dummy must be constant in exchange value.  [CWL 21, 37-39]

Money is an instrument invented to fulfill a definite task; it is not the ultimate master of the situation.  One has to place first human society which is served by the economic process, and second the economic process which is to be served by money.  Accordingly money has to conform to the objective exigencies of the economic process, and not vice versa. (CWL 21, 101)

The condition of constancy in exchange value:

It is now necessary to state the necessary and sufficient condition of constancy or variation in the exchange value of the dummy.  To this end we compare two flows of the circulation: the real flow of property, goods, and services, and the dummy flow being given and taken in exchange for the real flow….Accordingly, the necessary and sufficient condition of constant value in the dummy lies in its concomitant variation with the real flow….More briefly, if there is concomitance between the two flows, then the proportion in which dummies and goods exchange remains the same.  (there is proper constancy of pricing)  If there is lack of concomitance, then this proportion changes. (there is a deviation from the constancy of pricing)  But exchange value is a proportion.  Therefore, the concomitance of the two flows is the condition of constant exchange value. (CWL 21, 38-39)

Characteristics of dummy money in an exchange economy:

… the divided exchange postulates a dummy that will bridge the intervals, short or long, between contribution to the process and sharing in its products.  Further, if this dummy is to work satisfactorily, if it is to bridge the intervals fairly and adequately, then it must fulfill certain conditions.  The first of these is divisibility … The second condition is homogeneity … The third condition is that the dummy must be constant in exchange value … The fourth condition is that the dummy be universally acceptable within a given area, so that anyone willing to exchange will be willing to surrender property, goods, or services for the dummy.  Whether this fourth condition is distinct from the other three has been a matter of dispute.… [CWL 21, 37-39]

every product of the exchange economy must mate through exchange with some other product, and the ratio in which the two mate is the exchange value. [CWL 21, 34-35]

Promise and trust between two parties:

This money, invented by humans to serve the process, is a promise between two parties to make one another whole.  The use of money requires trust between the two parties.

If barter is replaced by the divided exchange (made possible by the introduction of money), selling here and buying there, the economic process can attain a vastly greater magnitude and intricacy.  [CWL 21, 37-39]

the dummy must be constant in exchange value, so that equal quantities continue to exchange, in the general case, for equal quantities of goods and services.  The alternative to constant value in the dummy is the alternative of inflation and deflation.  Of these famous twins, inflation swindles those with cash to enrich those with property or debts, while deflation swindles those with property or debts to enrich those with cash; in addition to the swindle each of these twins has his own way of torturing the dynamic flows; deflation gives producers a steady stream of losses; inflation yields a steady stream of gains to give production a drug-like stimulus. [CWL 21, 37-38]

the (3) exchange value is the ratio or proportion in which are exchanged the different categories of objects for which men strive because they are useful and scarce… It is now necessary to state the necessary and sufficient condition of constancy or variation in the exchange value of the dummy.  To this end we compare two flows of the circulation: the real flow of property, goods, and services, and the dummy flow being given and taken in exchange for the real flow….Accordingly, the necessary and sufficient condition of constant value in the dummy lies in its concomitant variation with the real flow….More briefly, if there is concomitance between the two flows, then the proportion in which dummies and goods exchange remains the same.  (there is proper constancy of pricing)  If there is lack of concomitance, then this proportion changes.  (there is a deviation from the constancy of pricing)  But exchange value is a proportion.  Therefore, the concomitance of the two flows is the condition of constant exchange value. (CWL 21, 38-39)

The dynamic structure of the productive process and classes of monetary flows:

Money is a dummy invented by humans to serve the economic process of making and exchanging.  In analysis of the process, one must first analyze the structure of the dynamic productive process of making and selling, which money was invented to serve.

Classes of functional monetary flows are derived by a projection or mapping from the classes comprising the structure of the dynamic productive process.  Note in the following paragraph the words “congruent” and “immediate.”

… (Payments of money) stand in a network that is congruent with the technical network of the productive process. …above all, their connection with production is immediate: they …  are, so to speak, the immanent manifestation of the productive process as a process of value. [CWL 21, 114]

But prices do change.  The changes have causes and intelligibilities and the changes must be interpreted.

Lonergan agreed with Schumpeter … that the economist had to know what are the significant variables in the light of which price changes are to be interpreted. According to Lonergan, standard economic theory had successfully achieved none of these desiderata. [CWL 15, Editors’ Introduction liii]

Without enlightenment and an explanatory normative framework, the stewards of the economy – the private sector and the government sector, not the Fed — cannot make the necessary distinctions.  They cannot distinguish real and relative price changes from monetary and absolute price changes; they cannot distinguish basic incomes from surplus incomes; within surplus incomes they cannot distinguish ordinary surplus incomes from for repair, maintenance, and replacement from pure surplus incomes from socially-beneficial investment; and they cannot even understand that wealth is not income.

Previously I have suggested a lack of adaptation in the free economies to the requirements of the pure cycle.  What that lack is can now be stated.  It is an inability to distinguish between the significance of a relative and an absolute rise or fall of monetary prices.  A relative (i.e. “real”) rise or fall is, indeed, a signal for a relatively increased or reduced production (of one product relative to another).  If the product i suffers a greater increment, positive or negative, in price than the product j, then more or less of the product i than of product j is being demanded.  As prices are in themselves relative, insofar as they express demand, so also they must be interpreted relatively with regard to expansion and contraction.  When the prices both of i and j are falling, and i more than j, it may still be true that the production of both should be increasing, though with  production of j increasing more than the production of i.  For the fall of prices may be general and absolute, as such it will result not from a change in demand but from a failure in income distribution to adjust the rate of saving to the phase of the productive process;  to allow such a general maladjustment to convert a basic expansion into a slump is to cut short the expansive cycle of the productive process because one has confused real and relative prices with monetary and absolute prices. Inversely, the rising prices of the surplus expansion are not real and relative but only monetary and absolute rising prices; to allow them to stimulate production is to convert the surplus expansion (of the ideal pure cycle) into a (trade cycle of) boom (which must be followed out of systematic necessity by a correlative and devastating slump.)  This I believe is the fundamental lack of adaptation to the productive cycle that our economies have to overcome. [CWL15, 139-140]

Also,

At the root of the depression lies a misinterpretation of the significance of pure surplus income. In fact it is the monetary equivalent of the new fixed investment of an expansion…..our culture can not be accused of mistaken ideas on pure surplus income as it has been defined…; for on that precise topic it has no ideas whatever… Thus pure surplus income may be identified best by calling it net aggregate savings and viewing them as functionally related to the rate of new fixed investment [CWL 15, 152-53]

Concomitance and Intensity among flows

The long-run continuity and dynamic equilibrium of the dynamic threefold process in the long run requires

  • concomitance in variations of product flows and dummy flows
  • concomitance of intracircuit monetary supply and monetary demand
  • concomitance of intercircuit crossover flows.
  • concomitance of tax receipts and expenditures
  • proper relative intensities of production within the matrices of interdependence of products

Real analysis and the everyday use of money:

real analysis (is) identifying money with what money buys. … And that is the source of the problem in real analysis.  If you want to treat money that doesn’t make a difference, you can have a beautiful liberal monetary theory.  But it doesn’t say the way the thing works. [CWL 21, Editors’ Introduction, xxviii  quoting Lonergan]

We may use the same words and speak of Modern Monetary Theory as “a beautiful liberal monetary theory.”  “But it doesn’t say the way the thing works.”  The necessary concomitance in the current process of Income with Outlays and Expenditures is violated.  A distortive superposed cycle is generated.  A solidly-endowed rentier class is created because  435 Representatives, 100 Senators, and 2 Executives fail to rise above ignorance, egoism and egotism.  The word “beautiful” should be replaced by another b-word.  (See So-Called Modern Monetary Theory does not Qualify as Scientific MacroeconomicsFMD’s Take on Greg Mankiw’s Take on Modern Monetary Theory , Modern Monetary Theory is Backward; It Creates “Illegal” Superposed Circuits )

Modern Monetary Policy would be a disaster waiting to happen. In its unchecked extreme of printing money unconstrained by relation to the real flow of goods, and services, it tends toward rampant inflation and torture of the financial system, so as to bring about a) the impairment or destruction of the financial system, and b) social chaos. The longer MMT’s unconstrained printing and irresponsible borrowing last, the greater would be the intractability of ultimate problems. (FMD)

Modern Monetary Policy would have money enter the system through (D’-s’I’) and (D”-s”I”), which is intrinsically inflationary.  Instead it should enter through (S’-s’O’) and (S”-s”O”)

The channels of Lonergan’s Diagram of Rates of Flow provide a general and universal explanatory framework of the always-current process.  The channels explain– rather than merely describe or postulate – both the dynamic equilibria of the pure cycle and the dynamic disequilibria of the booms and the slumps.  As the economy expands, things can go awry.

More positively, the channels account for booms and slumps, for inflation and deflation, for changed rates of profit, for the attraction found in a favorable balance of trade, the relief given by deficit spending, and the variant provided by multinational corporations and their opposition to the welfare state. [CWL 15, 17]

… positive or negative transfers to basic demand (D’-s”I’) and consequent similar transfers to surplus demand (D”-s”I”) belong to the theory of booms and slumps.  They involve changes in (aggregate basic or aggregate surplus) demand, with entrepreneurs receiving back more (or less) than they paid out in outlay (which includes profits of all kinds).  The immediate effect (of these aberrational monetary transfers) is on the price levels at the final markets, and to these changes (in price), enterprise as a whole responds to release an upward (or downward)  movement of the whole economy.  But the initial increased transfers to demand [that is, excess transfers along (D’-s’I’)  and (D”-s”I”) ] are not simply to be supposed.  For that would be postulating without explaining the boom or slump. [CWL 15, 64]

Money should enter the system as credit money to the supply function, not to the demand function.

 the supposition that circuit acceleration to some extent postulates increments in the quantity of money in the circuits … points to excess transfers to supply, to (S’-s’O’) and (S”-s”O”), as the mode in which increments in quantities of money enter the circuits. [CWL 15,  61] 

 Further, the normal entry and exit of quantities of money to the circuits or from them is by the transfers from the redistributive to the supply functions.  [CWL 15, 64]

 Equations (4a) and (3a) are mathematically similar.  They then give us a simple model of how all exchange money enters and leaves the system as credit money … .  Burley, Evolutionary von Neumann Models, p. 272  

 One cannot identify a reduction of basic income (by savings) with an increase in the supply of money (for investment), – (such a reduction is normally a misdirective drain of the basic circuit, not an increase) – for a reduction of basic income is only one source of such supply; moreover, it is neither the normal nor the principal source of such supply; … principally the increase in the supply of money is due to the expansion of bank credit, which is necessary to provide the positive (S’-s’O’) and (S”-s”O”) needed interval after interval to enable the circuits to keep pace with the expanding productive process. [CWL 15, 142]

Finally, provided (D’-s’I’), (D”-s”I”), G vary only slightly from zero, so that their action is absorbed by stocks of goods at the final markets, they exercise a stimulating effect in favor of positive or negative circuit acceleration; otherwise their action pertains either to superimposed circuits of favorable balances of foreign trade and deficit government spending, or else to the cyclic phenomena of booms and slumps.  (CWL 15, 64-65)

From a broader perspective we expand an excerpt above:

the real issue is the value of the dummy (money in divided exchange rather than barter)… The (1) relative value(of money) is its usefulness….the scarcity of the (useful) dummy is attended to by the technicians (The Central Bank and the banking system) of the technical rules governing its issuance.  (The amount of money must be consistent with the current magnitudes and velocities of exchanges in order to satisfy the requirement of constancy in exchange value.  See below re the necessary and sufficient condition of constancy or variation in the exchange value of the dummy.  ) Whether it issues from the printing press or from the credit structure makes no difference.  The (2) economic value (of money as a means of exchange) lies in the human effort against scarcity… the (3) exchange value is the ratio or proportion in which are exchanged the different categories of objects for which men strive because they are useful and scarce… (CWL 21, 38-39)

Price tendencies (prescinding from excess or deficient money supply) :

We are assuming for the moment that the quantity of money infused by the Central Bank is properly calibrated for the actual magnitudes and frequencies of turnovers; thus, in other words, we prescind from an excess or deficit in the money supply. We are totally uninterested in the mere rapidity with which money changes hands. Also, we request the reader to study in the entirety CWL 15, Section 25, pp. 128-33, Price and Quantity Changes in Accelerating Circuits, where Lonergan distinguishes and pinpoints two causes and explanations of inflation.  Every paragraph in that section is important – especially for those who entertain a naïve belief that prices constitute “ultimate norms guiding strategic economic decisions” and that the Phillips Curve correlation, and the IS-LM and AD-AS static snapshots of supposedly exogenous prices explain how the dynamic process works.  The proper reading must constitute a comprehending. We can quote only parts of that section:

prices tend to move in the same direction as quantities.  Prices rise in a boom, when quantities increase, to fall in a slump, when quantities decrease.  However, the causes of such price variations are of two kinds.  (CWL 15, 130-31)

First Kind of Cause of Inflation – Ordinary Scarcity:

There is the normal causation of increasing or decreasing scarcity.  As rates of production increase, competitive demands for labor and for materials, as well as for general services such as power, transportation, credit, and so on, increase. Inversely, as rates of production decline, demand falls off.  On this head, one would expect price levels to mount increasingly as the expansion developed, that is, imperceptibly in the early period, in more marked fashion once expansion becomes generalized, and in a purely inflationary manner if the maximum rates of production possible were attained yet credit continued to be expanded.  Thus, so far from canceling the requirement that E’ (E’ = P’Q’) vary with Q’ and E” (E” = P”Q”) with Q”, one may expect price levels to reinforce and augment such variation, though in different degrees as the pressure on general markets is slight, notable, or fatuous. (CWL 15, 130-31)

Second Kind of Cause of Inflation – Disproportion Between Monetary and Real Consumer Income:

Rates of incomes must be adjusted for variations in acceleration’s production ratios dQ’/Q’ and dQ”/Q”, the terms whose comparison specifies the a) proportionate, b) surplus, and c) basic phases of a long-term expansion within which types of income must vary to effect dynamic equilibrium and within which selling prices tend to rise and fall.

The present point is a very simple point.  Just as the surplus expansion is anti-egalitarian in tendency, postulating an increasing rate of saving, and attaining this effectively by increasing, in the main, the income of those who already spend as much as they care to on basic products, so the basic expansion is egalitarian in tendency; it postulates a continuously decreasing rate of saving, a continuously decreasing proportion of surplus income in total income; and it achieves this result effectively by increasing, in the main, the income of those who have a maximum latent demand for consumer goods and services. [CWL 15, 139]

But,

While we can effect the anti-egalitarian shift with some measure of success, in fact the egalitarian shift (required for the basic expansion) is achieved only through the contractions, the liquidations, the blind stresses and strains of a prolonged depression. (CWL 15, 153-54)

See Why And How The Basic Expansion Fails To Be Implemented

Lonergan distinguishes between so-called “normal profit”, which is needed for repair, maintenance, and replacement of existing productive capacity, and profit as so-called “pure surplus income,” which is to be spent for investment in properly beneficial widening and deepening of new and/or better capital equipment.

Instead of moralizing about profit, Lonergan’s analysis of the natural intelligibility of the pure cycle reveals how profit as ‘constant and normal’ is related to profit as ‘pure surplus income,’ which is a social dividend.  It is intrinsic to the intelligibility of capitalist process that there be an exigence for the ‘anti-egalitarian’requirements of the major surplus expansion to yield eventually to the ‘egalitarian’ requirements of the major basic expansion. (CWL 15, Editors’ Introduction, lxv)

Now it is true that our culture cannot be accused of mistaken ideas on pure surplus income as it has been defined in this essay; for on that precise topic it has no ideas whatever. … there exists, in the mentality of our culture, no ideas, and in the procedures of our economies, no mechanisms, whatever directed to smoothly and equitably bringing about the reversal of net aggregate savings to zero as the basic expansion proceeds. (CWL 15, 153)

Inflation (of the second kind) may result from a disruption between accelerations in the monetary circuit vs. in real production, especially in the basic final market.  There may occur (i.e. be effected) an inflation resulting from an increasingly excessive amount of monetary income moving to the basic final market; and there would follow a rise in prices from maldistribution of incomes; this inflation would be quite different in kind from the normal rise of prices resulting from increasing scarcity.  This maladjustment of the pricing, the distribution of incomes constituting a purchasing power, is really the system’s spontaneous formal attempt to adjust by inflation the purchasing power which should already have been adjusted by magnitude of flow.  The system is struggling to reduce, by means of inflation, purchasing power in the basic circuit so as to keep the ratio of the accelerations of basic and surplus incomes and expenditures at the level appropriate to the relative accelerations of basic and surplus production.

There would be, for instance, a radical maladjustment between circuit and productive acceleration if, when surplus rates of production were increasing more rapidly than basic, basic rates of income were increasing more rapidly than surplus.  Then interval after interval, an increasingly excessive amount of monetary income would be moving to the basic final market, and there would follow a rise in prices quite different in kind from the normal rise resulting from increasing scarcity.  Such a rise would not be an ordinary scarcity but at once a consequence and, as will appear, a corrective of disproportion between monetary and real consumer income.  ¶ Not only is it true that this second type of price variation is different from the first, but also one must give it a different kind of attention.  When prices rise because of real scarcity, one may speak of a requirement for variation in E’ and E” over and above the variation postulated by dQ’/Q’ and dQ”/Q”.  But when prices rise or fall because the distribution of income has not anticipated these requirements correctly, then price variation is not a postulate for variation in E’ and E” but rather a spontaneous effort at adjusting what should already have been adjusted.  Accordingly, such adjustment variations in prices will be … considered more in detail in the next section (entitled The Cycle of Basic Income). (CWL 15, 131)

Present concern will be for the type of adjustment that the successive phases of the pure cycle postulate. (CWL 15, 131)

The central adjustment is variation in the rate of saving.  This rate may be defined, conveniently for present purposes, as the ratio of surplus income to total income.  Assuming that the rate of saving will not differ appreciably because income is derived from basic or surplus outlay, we may denote this rate by the symbol w, so that

w = I”/I’ + I”  (CWL 15, 131-32)

Note that Lonergan, like Newton in Mechanics, recognizes the necessity of dealing in the intelligibility of accelerations.

Thus, the rate of saving, symbolized by w = I”/I’ + I”, must be adjusted for variation of the accelerations dQ’/Q’ and dQ”/Q”.

Misconceptions of professional economists as to interest rates and responsibilities:

The interest rate is the price of the use of money.  From one point of view a general interest rate equals a general growth rate, that growth rate which can be shared in tranches among equity investors and secured lenders; and a particular interest rate will be the rate for a particular combination of duration, reward, and risk,  From whatever point of view and from whatever assessment of risk and reward, the interest rate is a price.  And, theoretically, manipulation (by government intervention) of the price of money is no more or less sacred than intervention in the price of, say, steel or food.  Though prices of different elements may be estimated differently by financial analysts, and though manipulating one element rather than another would have a different effect within a matrix of interdependencies, it remains that the interest rate is only one price among many prices. One particular intervention might be easier to effect and administrate, but any artificial change is an artificial change of one price element which is solidary with all the others in the vast and intricate dynamic process.  The internal interest rate is neither an external silver bullet nor an external magic wand.

Academia, government, journalism, and staff at the U.S. Treasury, the Bureau of Economic Analysis, the Federal Reserve Bank, and the Congressional Budget Office suffer from a misconception and misunderstanding about the intelligibility of interest rates and about the effectiveness of the manipulation of interest rates.  All fail to understand that economic problems are most often caused by the deformational activities of the ignorant private and fiscal sectors; and that the problems are to be corrected through adjustments in the channels of the Rates of Flow by an enlightened private sector and fiscal sector, not by the Fed.  The private and government sectors must administrate the intracircuit pace and inter circuit balance of the dynamic process of which these sectors’ flows are constituent.  They must understand the science and the norms of the dynamic process, and they must cooperate and coordinate so as to effect the normative relativities of speed and balance of monetary and productive flows.  Also, we must affirm, it is secondarily possible for the Fed also to mess things up by relying upon a misconception of the intelligibility of the interest rate and by the ineffectiveness, if not the actual counterproductivity, of artificial manipulations.  And, we must also admit, the only reason the Fed is mandated by an ignorant Congress to control inflation and unemployment is that the private and fiscal sectors, who are primarily responsible, have failed to control inflation and unemployment themselves. (See Practical Precepts For Free People … )

Adjustment of incomes is prior to and more effective than adjusting interest rates.

Similarly a lowering of interest rates may encourage the expansion of basic industry; but it also will encourage the expansion of well-intentioned but not well-thought-out innovations, the number of bankruptcies, etc.  What is needed is the egalitarian shift in incomes, that will compensate for the previous and shorter anti-egalitarian shift, and will produce the things that people really need and can learn to purchase without the help of self-seeking advertisers.   [CWL 15, 141 ftnt 198]

The Fed’s only mandates should be to monitor the process and to supply the proper amount of money for expeditious transacting, not to push on a rope trying to repair what the private and government sectors have messed up.

Again: … money is an instrument invented to fulfill a definite task; it is not the ultimate master of the situation.  One has to place first human society which is served by the economic process, and second the economic process which is to be served by money.  Accordingly money has to conform to the objective exigencies of the economic process, and not vice versa. (CWL 21, 101)

…the control of the money supply, interest rates, and taxation by the government ought itself to be governed by a correct understanding of the economic process.  Arbitrary government actions damage free enterprise rightly understood.  And the bureaucratic form of state authority makes the damage an ongoing affair. (Lawrence, Fred, “Money, Institutions, and the Human Good”, pp. 175-97; in Liddy, Richard M. ed. The Lonergan Review, Vol. II No. 1 – Spring 2010, Copyright 2009, The Bernard Lonergan Institute, Seton Hall University, South Orange, New Jersey [Liddy, 2010])

Adjusting the rate of saving to the phase of the expansion:

Though we quote often CWL 15’s pages128-34 re proper adjustment of savings vs. consumption, we encourage the reader to pause now and to read those pages slowly and in their full context.

The purpose of this section is to inquire into the manner in which the rate of saving w is adjusted to the phases of the pure cycle of the productive process.  Traditional theory looked to shifting interest rates to provide suitable adjustment.  In the main we shall be concerned with factors that are prior to changing interest rates and more effective.  [CWL 15, 133]

I’ = Σwiniyi   (35) [CWL 15, 134]  and

dI’ = Σ(widni + nidwi)yi (36) [CWL 15, 134]

Evidently, then, suitable migrations are a means of providing adjustments in the community’s rate of saving.  To increase the rate of saving (for expansionary investment), increase the income of the rich. … to decrease the rate of saving (to expand consumption and fully utilize new capital), increase the income of the poor. … The foregoing is the fundamental mode of adjusting the rate of saving to the phases of the productive cycle.  It reveals that the surplus expansion is anti-egalitarian, inasmuch as that expansion postulates that increments in income go to high incomes.  But it also reveals the basic expansion to be egalitarian, for that expansion postulates that increments go to low incomes [CWL 15, 135-37]

Further re interpretation of price changes:

See the following entries on the website

(Byrne, Patrick) Now one is likely to regard economic dysfunctions as rooted more profoundly in a lack of moral conversion rather than a lack of intellectual conversion.  On that topic, Lonergan more recently wrote:

The difficulty emerges in the second step, the basic expansion.  In equity (the basic expansion following the surplus expansion) should be directed to raising the standard of living of the whole society.  It does not.  And the reason why it does not is not the reason on which simple-minded moralists insist.  They blame greed.  But the prime cause is ignorance.  The dynamics of surplus and basic expansion, surplus and basic incomes are not understood, not formulated, not taught. When people do not understand what is happening and why, they cannot be expected to act intelligently.  When intelligence is a blank, the first law of nature takes over: self-preservation.  It is not primarily greed but frantic efforts at self-preservation that turn the recession into a depression, and the depression into a crash. [CWL 15, 82]

If one’s intellectual climate inclines one, as the modern intellectual climate does, to assume that it is unscientific to speak of a “natural goal,” and to hold that contingent fact can yield no knowledge of ethical criteria, one will not seek either the general theoretical ideas Lonergan has set forth in his essay, nor the great many further practical ideas which will help the willing subject know how to responsibly dispose of his or her income.  The success of Lonergan’s analysis will depend in great measure upon intellectual openness to his worldview. [Byrne, Patrick, “Economic Transformations: The Role of Conversions and Culture in the Transformation of Economics”; in [Lamb, 1981]

Instead of moralizing about profit, Lonergan’s analysis of the natural intelligibility of the pure cycle reveals how profit as ‘constant and normal’ is related to profit as ‘pure surplus income,’ which is a social dividend.  It is intrinsic to the intelligibility of capitalist process that there be an exigence for the ‘anti-egalitarian’requirements of the major surplus expansion to yield eventually to the ‘egalitarian’ requirements of the major basic expansion. (CWL 15, Editors’ Introduction, lxv)

Inversely, the rising prices of the surplus expansion are not real and relative but only monetary and absolute rising prices; to allow them to stimulate production is to convert the surplus expansion into a boom (which must be followed out of systematic necessity by a correlative and devastating slump).  This I believe is the fundamental lack of adaptation to the productive cycle that our economies have to overcome.  The problem, however, has many ramifications of which the most important is the relativity of the significance of profits (“pure surplus income”).  To this we now turn.  [CWL15, 139-140]

… just as there is an upward price spiral to blunt the edge of the mechanism when the rate of saving is increasing, so there is a downward spiral to have the same effect when the rate of saving should be decreasing. [CWL 15, 138-39]

Fred Lawrence re interpreting prices

(In the basic expansion, assuming improved efficiencies and lower (average) corporate operating costs) … There is the same automatic mechanism as before.  Prices fall.  This has the double effect of increasing the purchasing power of income and bringing about an egalitarian shift in the distribution of monetary income. The increase in purchasing power is obvious.  On the other hand, the egalitarian shift in the distribution of income is, in the main, a merely theoretical possibility.  The fall of prices, unless quantities increase proportionately and with equal rapidity, brings about a great reduction in total rates of payment.  Receipts fall, outlay falls, income falls.  The incidence of the fall of income is, in the first instance, upon the entrepreneurial class, and so in the main it is a reduction of surplus income.  Thus we have the same scissors action as before: purchasing power of income increases, and the proportion of basic to surplus income increases; the rate of saving is adjusted to the rates of production as soon as the price level falls sufficiently.  But just as there is an upward price spiral to blunt the edge of the mechanism when the rate of saving is increasing, so there is a downward spiral to have the same effect when the rate of saving should be decreasingFalling prices tend to be regarded as a signal that expansion has proceeded too far, that contraction must be the order of the day.  Output is reduced; the income of the lower brackets is reduced; the adjustment of the rate of saving fails to take place; prices fall further; the same misinterpretation arises, and prices fall again.  Eventually, however, the downward spiral achieves the desired effect; surplus income is reduced to the required proportion of total income; and the prices cease to fall. [CWL 15, 138-39]

The Basic Price-spread Ratio:

The capital expansion requires more money to accommodate scarcity and to keep up with expanding production and leisure.  Surplus expansion rests partly upon expansion of credit.

(In a capital expansion,) unless the quantity of money in circulation expands as rapidly as prices rise and, as well, as rapidly as the productive expansion of quantities requires, there will result a contraction of the process: then, instead of adjusting the rate of saving to the requirements of the productive cycle, the productive cycle is arrested to find adjustment to the rate of saving.(CWL 15, 135-37)

The following regards expansion in phases and the interpretation of its effect on the Basic Price-Spread Ratio. pp. 156-62:

P/p = a’ + a”p”Q”/p’Q’   (CWL 15, 156-62) (45)

i.e.,   J = a’ + a”R   (CWL 15, 156-62) (45)

so,  dJ = da + a”dR + Rda”   (CWL 15, 156-62) (47)

Now in any expansion it is inevitable that quantities under production run ahead of quantities sold.  Current production is with reference to future sales, and if there is an expansion, then future sales are going to be greater than current sales.  But in the free economies the acceleration factors are not held down to the minimum that results from this consideration.  During the surplus expansion the basic price-spread ratio J will increase from an increase of R, of a”, and also of a’The advance of the price-spread ratio will work out through a rise of the basic price level, and selling prices generally will mount.  Now, when prices are rising and due to rise further, the thing to be done is to buy now when prices are low and sell later when they are high.  There results a large amount of liquid investment.  Each producer orders more materials, more semifinished goods, more finished goods, than he would otherwise.  Moreover, he makes this speculative addition to a future demand estimated upon current orders received, so that the further back in the production series any producer is, the greater [will be] the speculative element contained in the objective evidence of current orders received, the more rosy the estimate of future demand, and the greater the speculative element he adds to this estimate when he places orders with a producer still further back in the series. Thus an initial rise in prices sets going a speculative expansion that makes the acceleration factors quite notable, expands the price spread still more, and stimulates a pace of further acceleration that it will be quite impossible to maintain.  Etc. [CWL 15, 160]

Textbook snapshot macroeconomics misconceives prices as an exogenous efficient cause of subsequent endogenous adjustments.  Textbook macroeconomics does not explain the economic process.  In marked contrast, Functional Macroeconomic Dynamics is a Field Theory; it explains prices internally among themselves and interprets prices in the light of the relations of the pretio-quantital velocitous, mutually conditioning, mutually defining flows which explain the objective, dynamic process.

Lonergan is alone in using this difference in economic activities to specify the significant variables in his dynamic analysis… no one else considers the functional distinctions between different kinds of productive rhythms prior to, and more fundamental than, … price levels and patterns, … interest and profits, and so forth….only Lonergan analyzes booms and slumps in terms of how their (explanatory) velocities, accelerations, and decelerations are or are not equilibrated in relation to the events, movements, and changes in two distinct monetary circuits of production and exchange as considered both in themselves (with circulatory, sequential dependence) and in relation to each other by means of crossover payments. [CWL 15, Editors’ Introduction, lxii]

… money is an instrument invented to fulfill a definite task; it is not the ultimate master of the situation.  One has to place first human society which is served by the economic process, and second the economic process which is to be served by money.  Accordingly money has to conform to the objective exigencies of the economic process, and not vice versa. (CWL 21, 101)