Why and How the Basic Expansion Fails to be Implemented

In the ideal pure cycle, the long-term expansion proceeds from a static phase through a proportionate-expansion phase , then through a surplus-expansion phase, then through a basic-expansion phase, and finally into a higher static phase of greater abundance.

At (the beginning of a basic expansion) an economic system is confronted with an intrinsic test. Its success will be established if it can complete the major basic expansion and – without mishap, without inflation, without unemployment, without a break in confidence –  make its way serenely into the haven of the stationary state.  I mean of course, not the stationary state of mere backwardness, not the stationary state of stagnation when a disastrous crash follows on an earlier apparent triumph, but the stationary state that preserves all the gains of the preceding major expansions.  It is (then) content to produce their gains at a constant rate.  Its duration may be short or long, for in each case it must wait until such time as further new developments are grasped by human intelligence and eventually become practically conceived possibilities. [CWL 15, 80]

In equity (the basic expansion) should be directed to raising the standard of living of the whole society.  It (often) 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 production, surplus and basic expansion, surplus and basic incomes are not understood, not formulated, not taught…..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]

The equilibria of a properly functioning economy are not understood.  Over and above the static equilibria of supply and demand treated in microeconomics there are superseding dynamic macroeconomic equilibria that the authors of textbooks have failed to grasp.  So, it is the responsibility of professors, consultants, and economists at the Bureau of Economic analysis and the Federal Reserve Bank, to overcome their own deficient understanding and contribute the explanations and information sufficient to dispel the ignorance of others.

Schumpeter acknowledged that dynamic analysis called for a new light on equilibrium.  Such new light arises when, over and above, the equilibria  of supply and demand with respect to goods and services, there are recognized further equilibria that have to be maintained…..Moreover, such macroequilibria are more fundamental than the microequilibria assembled by Walras.  The former are the conditions of a properly functioning economy [CWL 15, 92]

From the premises and conclusions of this analysis it then will be argued (9) that prices can not be regarded 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 that, since not all decisions and preferences possess this 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]

The proper functioning of economic expansion includes the implementation of its basic-expansion phase.

The ideal pure cycle suffers no contractions or layoffs.  In this pure cycle the basic expansion succeeds the surplus expansion in an orderly fashion.  The economic process “makes its way serenely into the haven of the stationary state.”  It expands “without mishap, without inflation, without unemployment, without a break in confidence.”  So, if these unfortunate events are not inevitable, why have they so often occurred?  What do we fail to understand?  What do we do wrong?  Is the problem “the cut-off of the basic expansion?”  Does the basic expansion get truncated rather than fully implemented?  Can this problem be explained as an increase in the flow of basic products without a proportionate increase in the flow of incomes to purchase these products?  Is there a lack of concomitance of one flow with another?

The key problem of the modern economy … that problem is the cut-off of the basic expansion due primarily to the discouragement, for basic businesses, of shrinking prices.  Basic outlay, basic income, basic receipts should keep pace, a climbing pace, with climbing basic production.  But that keeping-pace has conditions which are impossible to fulfill with the present mindset of business and economics.  [McShane 2017, 69]

Changing the present mindset involves a massive cultural shift.  The present mindset mistakenly calls for the continual growth of surplus-stage incomes, when in fact the economic process is not generating these incomes.  The present mindset fails to understand that pure surplus income may increase geometrically in the initial stage of a long-term expansion, but must give way to the basic expansion, systematically decline, and finally revert to zero as the expansion is completed.

… figuring out the details of this massive cultural shift regarding wages is not going to be easy, and implementing it in this century is to be a psychic climate-change … [McShane 2017, iii]

Recall what Lonergan said about the misunderstanding and misinterpretation of pure surplus income:

At the root of the depression lies a misinterpretation of the significance of pure surplus income (as the monetary correlative of a surplus expansion). 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………However the phenomena referred to by …”pure surplus income” are well known. Entrepreneurs are quite aware that there are times of prosperity in which even a fool can make a profit and other mysterious times in which the brilliant and the prudent may be driven to the wall………. 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]

We are aware that the greater abundance of basic goods is made possible by the invention, production, installation, and operation of new and better capital equipment and by the development of new skills and techniques; and we are aware that the monetary correlate of any expansion would be pure surplus income (unaccounted for when it is buried and undetected as a component of wages and salaries, and dividends).  But this pure surplus income would systematically rise as the surplus expansion is in its initial stages and fall to zero as the surplus expansion tapers off; and when surplus income systematically begins its inevitable decline as the surplus expansion tapers and the process turns to a basic expansion, then increasing basic income is required for recipients to purchase the increasing abundance made possible by the new capital equipment.  People who would consume more must be paid more.  The flow of basic incomes must keep pace with the flow of a greater abundance of basic products. Yet ignorance leads managers, seeking to satisfy the conventional criterion of ever-increasing profits, to reduce basic incomes by layoffs and contractions following the mirage of greater real profit that the economy is not producing.  Managers do the opposite of what the science of Functional Macroeconomic Dynamics calls for.  By layoffs and contractions they violate the precepts yielded by normative, scientific macroeconomics.

We may paraphrase what Lonergan said about pure surplus income with a statement about basic income.

At the root of the depression lies a misinterpretation of the significance of basic income. In fact it is the monetary equivalent of the expanding consumption proper to the basic-expansion phase of a long-term expansion…..our culture can not be accused of mistaken ideas on basic income as it has been defined…; for on that precise topic it has no adequate understanding whatever…  However the phenomena referred to by inadequate basic demand are well known.  Selling prices and profits fall.  There follows a vicious cycle of contractions, layoffs, reduced demand, reduced profits, contractions, layoffs, reduced demand, reduced profits, etc until the position of even the least vulnerable is undermined.  Entrepreneurs are quite aware that there are times in which it is difficult to continue to grow the company, increase corporate income, and enjoy higher stock valuation; and the brilliant and the prudent may be driven to the wall ……….Thus basic income may be identified best by calling it the basis (monetary correlate) of basic demand and viewing it as the functional monetary element required for the implementation of the basic-expansion phase of a long-term expansion and for the avoidance of a painful downward spiral.

The first difficulty is psychological.  The basic and static phases are a sombre world for men brought up on the strong drink of expansion.  They have to be cured of their appetite for making more and more money so that they may have more money to invest and so make more money and have more money to invest. They have to be fitted out with a mentality that will aim at and be content with a stable going concern and a stable standard of living. It is not so easy to effect this change, for as the Wise Man saith, the number of fools is infinite. [CWL 21, 98]]

On page 114 of CWL 15, Lonergan lists possibilities based upon the relation between the current basic acceleration and the current surplus acceleration.

Now, in the normative pure cycle whose elements (but not whose normative sequence) are in Row II, the surplus expansion of plant, equipment, techniques, and skills is normatively succeeded by a basic expansion, wherein a) the ultimate fruits of the surplus expansion are income-affordable and purchased in full, and b) plant and equipment are fully used rather than idled or sold as scrap and written off as elements of wealth; thus contraction and layoffs are avoided.

The idea of an expansion is not a future contraction. [CWL 21, 104]

However, the basic expansion fails to be implemented.  The schemes do not function properly?  There is a spiral downward, an eddy or a vortex, a frantic effort at self preservation which only makes things worse.  There is much economic disorder.  Where has the good of order gone?  Where is the intelligible pattern of relationships that we have named the good of order?

Clearly schemes of recurrence exist and function.  No less clearly, their functioning is not inevitable.  A population can decline, dwindle, vanish. A vast technological expansion, robbed of its technicians, would become a monument more intricate but no more useful than the pyramids.  An economy can falter, though resources and capital equipment abound, though skill cries for its opportunity and desire (cries) for skill’s product, though labour asks for work and industry is eager to employ it; then one can prime the pumps and make X occur; but because the schemes are not functioning properly, X fails to recur.  As the economy, so too the polity can fall apart. …in a twilight of straitened but gracious living men await the catalytic trifle that will reveal to a surprised world the end of a once brilliant day. [CWL 3, 209-210/235]

In civil community there has to be acknowledged a further component, which we propose to name the good of order. … economic break-down and political decay … are the breakdown and decay of the good of order, the failure of schemes of recurrence to function.  Man’s practical intelligence devises arrangements for human living; and in the measure that such arrangements are understood and accepted, there necessarily results the intelligible pattern of relationships that we have named the good of order. [CWL 3, 213-214/239]

The proper implementation of the basic expansion is identically the absence of a slump, recession, etc.  It must be guided by the principle and precept of higher and higher working capital becoming outlaid as wages to purchase the greater bounty made available by an expansion of capital.  Just as, per the immanent intelligibility of the process, higher surplus incomes are systematically necessary in a surplus expansion, so higher basic incomes are systematically necessary in a basic expansion.  Precepts change from phase to phase.  No single precept – such as always save and invest – is universally applicable.

The Industrial Revolution brought forth the precepts of thrift and enterprise; thrift so that money would not be spent at the primary final market but accumulated for the secondary final market; enterprise so that it would not merely be accumulated but also spent by investment. … unless the (basic) phase is guided by the principles of higher and higher wages and is aided by the consumer credits of installment buying, then the (basic) phase remains a mere pipe dream. [CWL 21, 67-68]

The method of implementation of higher incomes is given in CWL 15, 134-35; but, unfortunately, the dominant guiding precept of misguided corporate governance is, “Focus only on satisfying the criterion of ever increasing net income and ever higher enterprise value.”  And when, as the process transitions from the surplus expansion to the basic expansion, basic selling prices are falling because the lower income strata are not receiving enough more basic income to purchase the greater quantity of basic products,

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]

Burley and Csapo find the seeds of recession sown in excess lending and investing and in overestimated macroeconomic growth rates and macroeconomic interest rates.  In order to explain the entrepreneurial group’s subsequent self-cannibalizing contractions, liquidations, and layoffs, they connect the mistakenly-higher estimated interest rates and corporate internal rates of return, agreed to by the overly-sanguine banker-producer combinations, to the overestimated growth rates of corporate activities.  They cite as one type of bollixing of the basic expansion the banker-producer combination expecting to maintain the increasing income of the surplus-expansion phase when that income is really going in the opposite direction and is declining to zero during the basic and static phases.

One could rework the calculations … replacing the c by s>c, where s-c corresponds to goods and money taken outside the equilibrium production model via an exogenous interest rate claimed by the banker-producer combination….Then the endogenous growth and interest rate…falls per the formula below. [Burley and Csapo, 1992-1, 139-40]

This (interest rate) would become negative if c corresponded to the stationary state values of r=i=0. [Burley and Csapo, 1992-1, 139-40]

Insert formula for growth and interest rate from Burley and Csapo 1992, p. 140

“The relative price and activity vectors would then become”

Insert 2 formulae for price and activity vectors from Burley and Csapo 1992, p. 140

Economists and corporate executives must distinguish the desire for conventional corporate profit-and-loss profit as a motive versus as a criterion.

From the viewpoint of intelligence, the satisfactions allotted to individuals are to be measured by the ingenuity and diligence of each in contributing to the satisfactions of all; from the same high viewpoint the desires of each are to be regarded quite coolly as the motive power that keeps the social system functioning. [CWL 3, 214/240]

when profit shifts from being a motive to being a criterion, however, then the inevitable and reasonable tapering off to zero of profits as pure surplus income goes against mistaken expectations.  This may induce measures akin to panic on the part of capitalists, who drain the basic circuit in order to keep surplus profits and incomes accelerating – which is one of the ways the pure cycle is transformed into the booms and slumps that economies usually experience.  Something like the same mistaken reasoning based on profit as a criterion and not only a motive underpins the reaction of labor unions to the tremendous increases in profits and income in the earlier phases of the surplus expansion (CWL 15, 138)  Insofar as their demands for higher wages are out of season, they represent one group’s misguided attempt to claim for itself what is actually the social dividend of a society-wide aggregate.  This would be another way of misreading the demands of the pure cycle (CWL 15, 128-129) [CWL15, Editors’ Introduction lxvi]

There is nothing as practical as good theory – as contrasted with everyday common sense.  Commonsense bias pays attention only to things as related to us.  It does not explain the economic process in formalisms of terms related to one another. Common sense only feels, feels like, desires, fears, envies, resents, glories, exults, and has optimistic or pessimistic hunches, which they characterize as “sure things.”  Common sense does not understand and explain.  Common sense does not delve in theory.

The socialist version of commonsense bias wields the ‘haughty name of welfare’ (CWL 15, 86) and sets up an irrational weighting of entitlements that spawns a permanent underclass.  And so bias has in one way or another kept both capitalist and socialist outlooks from achieving a correct understanding of profit as a ‘social dividend.’ … According to Lonergan, profit as coopted by bias systematically excludes an intelligible account of the ‘social dividend’ which would be the reasonable return on entrepreneurial activity that ramifies throughout the entire society (MD:ECA 133-44, 144-56).  For in the measure that it is unbiased, being an entrepreneur means taking initiative in improving the social and cultural order of a society in its provision of goods and services by transforming and exploiting the means of production. Accordingly, profit as the flow of an economy’s resources for the sake of a major transformation and expansion of capital goods would be ’pure surplus income.’ [CWL 15, Editors’ Introduction lxiv]

Section 20 of CWL 15, pp. 82-86 treats some ways to escape temporarily the systematic necessity for entrepreneurs to be content with a stable going concern and a stable standard of living and to calibrate basic outlays-incomes to the potential for the bounty of basic products.  Rather than meet the necessity head on, (see CWL 15, 80-82, Mistaken Expectations) there is possible an end run around the requirement through

  • A favorable balance of trade
  • Unbalanced budgets as a counterpart to wartime profits
  • Wars on illiteracy, poverty, ill health, unemployment, insecurity with a counterpart in unbalanced budgets

Note that Lonergan blamed the failure to implement the basic expansion on ignorance rather than greed.  These end runs make it possible to avoid the implementation, at least temporarily, by people of ignorance of bad will.  However, a deliberate avoidance would be conditioned by understanding the end run. We doubt that that understanding exists. So, the avoidance remains a matter of ignorance rather than greed.

The lack of good-theory-well-applied results in bad decisions and to lingering economic problems.  In the throes of inadequate basic incomes and unemployment, our political system mistakenly places the responsibility for correcting high unemployment, inadequate incomes and inadequate demand squarely on the shoulders of the Fed and the welfare system.  Instead of the private system investing with restraint and effecting the anti-egalitarian and egalitarian shifts in income as the systematics of the current phase demands, the government mistakenly imagines the solution as the manipulation of interest rates and the provision of welfare disconnected from productive contribution.

But it appears to be less evident that a vicious circle of ever more demands for a larger money supply with no increase in real income is inflationary. In any case, there has emerged in fact if not in name the welfare state. [CWL 15, 85]

rentiers are recruited from the ranks of the unemployed. [from memory]

The manipulation of interest rates is not the answer to high unemployment and inadequate demand. (Click here)

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

Prior and more fundamental and effective is the implementation of the basic-expansion phase by an egalitarian shift of income. (URL to interest payments and rates.)