The Ineptitudes in Central Bank Operations

 

This entry should be read in conjunction with the reading of The Road Up is the Road Down; The Mechanism of Rising or Falling Prices.

Recently the Executive and Legislative Branches, through the agencies of the Treasurer and the Federal Reserve Board, have flooded the economic system with free money.  Much of the resulting surfeit of new money is detached from any productive contribution.  This free, intrinsically inflation-constituting money has had to sit or go somewhere and constitute an effect in circulations of the basic circuit, the surplus circuit, and the secondary market for stocks, bonds, housing, etc.  Thus, in order to understand the present inflationary situation, an explanatory “Essay in Circulation Analysis” is a present need.

Please keep in mind that Lonergan, in his purely theoretical essay, does not treat specifically the actual recent flooding of the money supply, and the associated ultra-low interest rates, in the two operative circuits and in the Redistributive Function.  But one can easily glean from his treatments the inflationary implications of this actual flooding and the manner of its correction.  Herein, as opportunity allows we graft onto his orthodox treatment comments regarding recent quantitative flooding.  We trust the reader to discern what are graftings and what are the underlying matters under discussion at that point.

Lonergan’s treatment of the normative equilibrated process and the possible divergences and disequilibria are in Section 15, “Circuit Acceleration”; he uses three distinct assumptions for clarification:

  1. The quantity of money in each circuit remains constant, interval by interval, over an indefinite series of intervals (CWL 15, 56 ff.)
  2. G is zero; (D’-s’I’) and (D”-s”I”) are each equal and opposite, i.e. zero; and transfers to surplus supply (S”-s”O”) or to basic supply (S’-s’O’) or to both may be positive (CWL 15, 60 ff.)
  3. What happens when the transfers to demand (D’-s’I’) and (D”-s”I”) are positive or negative or the crossover difference, G, is not zero? (CWL 15, 6e ff.)

There is now much discussion among so-called pundits about the Fed attempting to correct the recent and prospective rate of inflation by a) raising interest rates in 2022, and b)  increasing the bond market’s supply, while reducing its monetary demand through what is described as “quantitative tightening” or “balance-sheet reduction”.  None of the opining commentators appears to have an adequate understanding of the following three issues.

Rising interest rates have distinctly different effects on

  1. consumer borrowing
  2. long-term borrowing for capital products
  3. borrowing to finance turnover magnitude.

The ineptitude of the procedure (of manipulating interest rates) arises not only from its inadequacy to effect a redistribution of income of the magnitude required but also  from its effects upon the demand for money. (CWL 15, 143-44)

A general operation (through open-market operations or helicopter money) upon the supply of money seems to be a rather roundabout and inept procedure to correct an error in distribution. [CWL15, 143]

Our treatment has three sections:

.I. The ineptitude of manipulating interest rates

.II. The ineptitude of flooding the money supply and torturing the monetary circulations

.III. The quantities and velocities of rates of payment are to be correlated with the quantities and velocities of flows of goods and services; the normative money supply and how new money should enter the circuits

 

.I. The ineptitude of manipulating interest rates

For continuity and the avoidance of disequilibruma constituted by excessive or insufficient demand, the rate of saving for investment vs sepnding for consumption must be adjusted to the requirements of the individual phases of the pure cycle of expansion.

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)

The traditional doctrine of thrift and enterprise looked to the supply of and demand for money to adjust interest rates and the adjusted rates to adjust the rate of saving to the requirements of the productive process.  But it can be argued that a) this view was not sufficiently nuanced in its estimate of the requirements of the productive process, b) that it missed the magnitude of the problem, and c) that it tended to lump together quite different requirements. … [CWL 15, 140, ftnt. 197]

Implicit in the condition of dynamic equilibrium that the crossovers balance, that is, G = c”O” – i’O’  = 0 (CWL 15, 49-50), is that incomes saved for investment, I”, and incomes for consumption I’ vary concomitantly according to the requirements of the phase of the pure cycle of expansion.

… the acceleration of the productive process, if it is to succeed and not be destroyed by circulation maladjustments, postulates that in a proportionate expansion the rate of saving be constant, that in a surplus expansion it increase, that in a basic expansion it decrease.  The implications of this postulate will concern us in subsequent sections on the cycle of basic income, the cycle of pure surplus income, and the cycle of price spreads. (CWL 15, 133)

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)

The obverse of the rate of saving (I” = E”) for investment is the rate of spending (I’ = E’) for one’s standard of living (consumption).  So we may paraphrase the above:

The central adjustment is variation in the rate of expending.  This rate may be defined, conveniently for present purposes, as the ratio of basic income to total income.  Assuming that the rate of expending will not differ appreciably because income is derived from basic or surplus outlay, we may denote this rate by the symbol 1-w, so that

1-w = I’/I’ + I”  (CWL 15, 131-32)

Evidently, then, suitable migrations (of workers among income strata) are a means of providing adjustments in the community’s rate of saving.  To increase the rate of saving, increase the income of the rich  … To decrease the rate of saving, 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. [CWL 15, 133-134]

In Section 26 of CWL 15, entitled “The Cycle of Basic Income”, Lonergan’s special concern is the distribution of income essential to the proper management of an economic expansion.  He addresses specifically – in the context of an equilibrated, normative, pure cycle of economic expansion, not in the context of correcting the effect of an already disequilibrated money flood – the subjects of money supply, capacity utilization, interest rates, and inflation.  He has much to say about a) the ineptitude of forcing a change in the interest rate alone to mitigate a maldistribution of income, b) the ineptitude of a general operation upon the supply of money, c) the necessity of the normative distribution of certain functional types of income during an expansion, and (same subject) d) the normativity of the variations by phase in the rate of saving for investment vs. the rate of spending for consumption as the economic process proceeds through the nuanced phases of an expansion.

When there is a disequilibrated distribution of income, a) the manipulation of the federal funds rate, b) the open-market targeting of certain term interest rates, and c) a general operation on the money supply are inept.

A general operation upon the supply of money seems to be a rather roundabout and inept procedure to correct an error in distribution. [CWL15, 143]

Rising interest rates have distinctly different effects on 1) consumer borrowing, 2) long-term borrowing for long-term capital projects, and 3) short-term borrowing to finance short-term turnover magnitudes.

The ineptitude of the procedure arises not only from its inadequacy to effect a redistribution of income of the magnitude required but also  from its effects upon the demand for money. … The effect of rising interest rates on consumer borrowing will be excellent as far as it goes; for it cannot but reduce consumer borrowing; on the other hand, one may doubt if such reduction is very significant, for an inability to calculate is a normal condition of consumer borrowing, and rising interest rates hardly exert a great influence on people who do not calculate.  The effect of rising interest rates on the demand for surplus (point-to-line ) capital projects is great: one may say that the initiation of further long-term expansion is blocked; to increase the interest rate from 5% to 6% increases by 10% the annual charge (FTNT.  That is, increases in the annual charge by approximately 10%.  The precise increase would be 8.557% if payments were made monthly; 8.651% if payments were made annually.) upon a piece of capital equipment paid for over 20 years.  Thus rising interest rates end further initiation of long-term expansion; on the other hand, expansion already initiated, especially notably advanced, will continue inasmuch an increased burden of future costs is preferred to the net loss of deserting the new or additional enterprise. The effect of rising interest rates on turnover magnitudes depends upon the turnover frequency of the enterprise.  If the frequency is once every two years, 1% increase in the rate of interest is a 2% increase in costs; if the frequency is once every month, 1% increase in the rate of interest is 1/12 of 1% increase in costs.  Effects of the latter order are negligible when prices are rising.  Indeed, then even a 2% increase might be disregarded; but the combination of the 2% increase in costs with the uncertainty of what prices will be in two years’ time is a rather powerful deterrent.  The effect on turnover magnitudes, accordingly, is great when the turnover frequency is low, but negligible when the frequency is high. … (CWL 15, 143-44)

… , the following conclusions seem justified.  When the rate of saving is insufficient, increasing interest rates effect an adjustment.  This adjustment is not an adjustment of the rate of saving to the productive process but of the productive process to the rate of saving; for small increments in interest rates tend to eliminate all long-term elements in the expansion; and such small increments necessarily precede the preposterously large increments needed to effect the required negative values of dwi.  Finally, the adjustment is delayed, and it does not deserve the name of adjustment.  It is delayed because the influence of increasing interest rates on short-term enterprise is small.  It does not deserve the name ‘adjustment’ because its effect is not to keep the rate of saving and the productive process in harmony as the expansion continues but simply to end the expansion by eliminating its long-term elements. (CWL 15, 143-44)

The monetary channels contain monetary transfers:

More positively, the channels account for booms and slumps, for inflation and deflation,. [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.  [CWL 15, 64].

… 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]

Traditional theory remains current mistaken theory.

Traditional theory looked to shifting interest rates to provide suitable adjustment of the rate of saving W to the phases of the pure cycle.  In the main we shall be concerned with factors that are prior to changing interest rates and more effective.  [CWL 15, 133]

… it can be argued that a) this view (of correction by manipulating rates) was not sufficiently nuanced in its estimate of the requirements of the productive process, b) that it missed the magnitude of the problem, and c) that it tended to lump together quite different requirements. … [CWL 15, 140, ftnt. 197]

The difficulty with (traditional) theory is that a.) it lumps together a number of quite different things and b.) it overlooks the order of magnitude of the fundamental problem… [CWL 15,  141-144]

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]

Though the adequate human adaptation to the demands of the process is a shift of incomes, instead the inadequate strategy of variations of interest rates is “felt” to be the answer.  The Fed is charged by an ignorant Congress to produce a correction with a double-edged, counterproductive tool.

(Functional Macroeconomic Dynamics’) account (of the monetary distributions scientifically distinguished as basic and surplus incomes) springs from a (scientific) characterization of possible types of productive rhythms which lead (in turn) to the (scientific) specification of the adequate human adaptation to the (intrinsically cyclical) demands of the process, and also to (an identification and) determination of inadequate strategies of adaptation such as variations of interest rates, varieties of taxation and monetary policy.  [McShane, 1980, 125]

Re a) the nuance:  The economic process is nuanced by phases with different requirements of income distribution. The process, as a process, advances, and its requirements for nuanced adjustments in income distribution change.  Again,

The difficulty with (traditional) theory is that a.) it lumps together a number of quite different things and b.) it overlooks the order of magnitude of the fundamental problem… [CWL 15,  141-144]

The requirements of an expanding productive process are that pure surplus income has to keep increasing in the surplus phase of an expansion, that it has to keep decreasing in the basic phase of the expansion, and that it vanishes when the cost of replacements and maintenance absorbs the whole of surplus. [CWL 15, 140, ftnt. 197]

Re b) the magnitude:

(in a surplus expansion,) it would take enormous interest rates backed by all propaganda techniques at our disposal to effect the negative values of dwi (w here symbolizes the propensity to consume of an income stratum i) that are required interval after interval as the surplus expansion proceeds; what is needed is something in the order of ‘incentives to save’ that is as rapid and as effective as the reduction of purchasing power by rising prices. … [CWL 15,  141-144]

Re c) the lumping together and treating a double edge as a single edge:  Higher interest rates increase savings to a minor extent, but they damp large, long-term investment to a major extent.

The ineptitude of the procedure arises not only from its inadequacy to effect a redistribution of income of the magnitude required  … the effect of raising interest rates to encourage savings (for investment) is not to keep the rate of saving and the productive process in harmony as the expansion continues but simply (and counterproductively) to end the expansion by eliminating (by discouragingly higher charged interest costs) its long-term elements. [CWL 15,  141-144]

The Fed along with its proponents, critics, and advisors from academia are stuck in the illusion that the interest rate is a single-effect, external magic lever to be operated from outside the system.  In reality, the normative interest-rate relation is implicitly contained in – i.e. internal to – the normative functional flows.  Any manipulation of the normative functional flows induced by manipulation of short-term interest rates or by open-market operations will be double-edged, producing some definite, but not-precisely-predictable, asymmetric double effect in the non-systematic manifold of economic events.

Contractual interest is charged in conjunction with one of five classifications of demand for money.

  1. To support an initial or transitional outlay for the production of capital goods (including outlays for repair and maintenance of existing capital goods): i.e. to support surplus supply of capital goods by transfers through (S”-s”O”)
  2. To support an initial or transitional outlay in production of consumer goods: i.e. to support basic supply of consumer goods by transfers through (S’-s’O’)
  3. To support the financing of an expenditure for capital goods: i.e. to support surplus demand for capital goods by transfers through (D”-s”I”)
  4. To support the financing of a purchase of consumer goods: i.e. to support basic demand for consumer goods by transfers through (D’-s’I’)
  5. To finance gambling or an exchange of title to ownership of static wealth within the secondary market of the redistributive function: a redistributive transaction by transfers into, and getting stuck in, the Redistributive Function

In the third place, it will be best to consider financial operations, that is any exchange in which a sum of money is paid for a sum of money to be received. Now either the two sums of money are equal, or else one is greater than the other.  If the two are equal, the transaction is purely redistributive.  If one is greater than the other, then, generally speaking, the difference is the payment for a service of some specific type; rendering such service is as much a part of current production as rendering any other service, while the payment will be divided up, perhaps among different entrepreneurial units, and commonly the initial payments of wages, salaries, rents, dividends, reserve funds, and so forth.  In other words, financial operations are partly redistributive payments and partlypayments for services rendered; thus in banking, payments of principal are redistributive, but payments of interest are operative, with interest paid to the banks as a final operative payment (for their services) and interest paid by the banks to depositors an initial operative payment; again, in insurance the payment of policies is redistributive, but the payment of premiums on policies is partly redistributive and partly operative; it is redistributive to the extent it balances the payment of policies; and it is (a final operative payment) to the extent it pays insurance companies for their services.  (CWL 15, 44-45)

Payments of principal and interest by the borrower Smith to the lender Jones-Bank circulate in the same channels as any other payments for goods and services.  There is no mystery here.  The receipts of Jones-Bank go to pay the Jones-Bank’s obligations.  The Jones-Bank, which exists as an ongoing unit of enterprise performing a certain service, will use its receipts of interest to cover:

  • Initial payments of wages and salaries to the bank’s employees
  • Transitional payments to the bank’s suppliers of pens, pencils, computers, space, etc
  • Transfer payments to depositors (and any other class of lenders to the bank)
  • Initial payments of dividends to owners
  • Transitional payments to cap;ital-goods producers for repair and maintenance curing the depreciation of capital equipment
  • Initial and transitional payments for expansion of the bank’s premises and operations

The normative interest rate is to be understood theoretically as an internal relation rather than an exogenous, efficient-causal lever.

 We must distinguish between a) an intrinsic and normative interest rate approximating the real growth rate of expansion, and b) a secondary market interest rate determined by either the sloshing of excess money within and between secondary stocks and bonds or by a drought of money.  The normative current interest rate is a determinate internal relation among current functional flows. It is a mathematized relation rather than a flow itself.  It should not be misunderstood and construed as a magic lever external to the equilibrated or disequilibrated operative economic process.  While it’s manipulation (i.e. price-fixing) is one of the few tools of the Central Bank, this manipulation is no more theoretically valid than any other type of price fixing.  The responsibility for righting a disequilibrated economic process lies, instead, with the actual culprits – government and private enterprise – through implementation into operation of appropriate fiscal and private-enterprise policies effecting the normative pure cycle of expansion and full employment.

We define the normative, equilibrated interest rate as the rate of financial return equal to the rate of increase in the value of the stock of useful capital and consumer goods.  Thus the real interest factor (1 + i) approximates the real growth factor (1 + g); and the growth rate, g, and the interest rate, i,  are an internal relation among the technical coefficients of the real current rates of changes of the labor, land, and capital in the productive process.  It is not the rate determined willy nilly in the secondary markets by a more or less flooded money supply.  The real interest and growth rate are the rate for which the process has the potential and a performance exigence; and departures from this exigence constitute a divergence bringing automatic, systemic correctives to work.  Thus, if the system is flooded with money effecting exceedingly low market interest rates, inflation will spontaneously constitute an “automatic corrective” to cure the economic pathology.

In Peter Burley and Laszlo Csapo, Money Information in Lonergan-von Neumann Systems, Economic Systems Research, vol. 4, No. 2, 1992 pp.139ff, Burley and Csapo comment:

One could rework the calculations of this paper replacing the c by s>c, where s-c would correspond to goods and money taken outside our equilibrium relative price and production model via an exogenous interest rate ‘ claimed by the banker-producer combination….Then the endogenous growth and interest rate…falls to

r=i={k(k’-d’-1)-s[(k’-d’-1)l+dl’]}/{k+s[(k’-d’-2)+(1+d)l}

This would become negative if c corresponded to the stationary state values of r=i=0.  The relative price and activity vectors would then become

yi=Y[k’-d’-1-i, l’s(1+i)](1=i)H-t

xi=X(k’-d’-1-r, d+r)(1=r)t

This ongoing growth in unemployment would seem important to note in a world of high interest debt problems….it would seem important for analysis to be clear about the growing cost of an ongoing extraction of surpluses when living standards of employed workers are downward rigid.   Peter Burley and Laszlo Csapo, Money Information in Lonergan-von Neumann Systems, Economic Systems Research, vol. 4, No. 2, 1992 pp.139ff

Burton Malkiel, Expectations, Bond Prices, and the Term Structure of Interest Rates, Quarterly Journal of Economics Vol. LXXVI (May 1962) pp. 197-218 (Cambridge, Mass.: Harvard University Press):

P = C/(1+i) + C/(1+i)2 + …+ C/(1+i)N + F/(1+i)N

Summing the geometric progression and simplifying, we obtain

P = C/i[1 – 1/(1+i)N] + F/(1+i)

or,

P = C/i  +  (F – c/i)/(1+i)N

Theorem 1: Bond Prices move inversely to bond yields.

dP/di < 0

Theorem 2: For a given change in yield from the nominal yield, changes in bond prices are greater, the longer is the term to maturity.

d[P(i) – P(i0)]/dN

Theorem 3: The percentage price change in Theorem 2 increase at a diminishing rate as N increases.

D2P/dN2

Theorem 4: Price movements resulting from equal absolute (or, what is the same, from equal proportionate) increases and decreases in yield are asymmetric; i.e. a decrease in yields raises bond prices more than the same increase in yields lowers prices.

It is sufficient to show that d2P/di2 > 0

Theorem 5: The higher is the coupon carried by the bond, the smaller will be the percentage price fluctuation for a given change in yield except for one-year securities and consols.

We wish to prove d[(dP/di)x((i/P)]/dC > 0 for all finite N ≥ 2

Click here for the general topic of Interest Rates and Payments, then click here for the fourth bullet, Interest Payments and Their Circulation.

One’s challenge is to explain rather than simply suppose.  See, in Key Notions, Science and Explanation and Postulating vs. Explaining in Macroeconomics

 

.II. The ineptitude of flooding the money supply and torturing the monetary circulations

New money is to be correlated with expanded production.  An increase in the money supply is printed or electronically credited to satisfy the requirement that the magnitudes and frequencies of payments are concomitant with the higher magnitudes and frequencies constituting expanded production.

…, 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 through (S’ – s’O’) and (S” – s”O”).  [CWL 15, 64]

the supposition (is) that circuit acceleration to some extent postulates increments in the quantities of money in circulation … Further it points to excess transfers to supply, to S-sO and S-sO as the mode in which increments in quantities of money enter the circuits (CWL 15, 61)

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)

if we put the appropriate w and α terms over on the left side of our (name the equation) equation, then we would have a dynamic income analysis. Burley, Evolutionary von Neumann Models, p. 271

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]

But the Treasury and the Central Bank have exceeded the normative limits of expansion of the money supply.  They have flooded the system with money unconnected to any productive contribution.  This stimulus, in response to the covid pandemic, has consisted of flows of unearned, unproductive money to basic demand through the horizontal D’ channel rather than flows of earned productive money through the vertical S’ channel.

Let’s assume initially that, prior to these injections by the Fed or Treasury, the economic process has been stable.  An economic four-phase expansion, characterized by a rise and tapering onto a level of greater bounty, has been completed.  The surplus and basic phases of the expansion have been successfully implemented.  The process has kept reproducing itself at the same level interval after interval. This process consisting of productive and correlated monetary flows is characterized by continuity from interval to interval and by equilibrium between the solidary basic and surplus circuits; production operations are being conducted efficiently at the optimal percent of productive capacity; there is currently an absence of innovation and there exists no opportunity for monetary gain on widening-investment; all incomes are being spent for consumption and maintenance; surplus income for expansionary investment is zero;  full employment reigns and compensations in the incomes strata are fair and acceptable to all; the population is stable; reserves for retirement and insurance needs equal withdrawals for these needs; stocks, bonds, and real estate are properly priced relative to their correspondent production vis a vis consumer goods and services; there is just the right amount of money circulating in the system to support expeditious transacting; prices are stable because products/services and their correlated payments are flowing proportionately interval after interval; the banking system has nothing to do except renew working-capital loans at interest rates just covering the banks’ expenses; in current foreign trade and in international payments there is neither a surplus nor a deficit; the foreign-exchange rate is stable; the federal,  state, and local governments are efficient, not at all wasteful, and comfortably executing a balanced budget, i.e. tax inflows equal payments outflows. Everything seems to be working and managed well.  But, suddenly, participants get restless and want more; there is much complaining about “stagnation;” and bureaucrats earnestly desire, and will do just about anything the citizenry demands in return for the fame and glory of election, appointment, and confirmation by the voting public.

Now this type of surplus is not confined to warlike concerns.  Once the possibility of an unbalanced budget is established, the precedent can be invoked to persuade politicians to carry on other wars: wars on illiteracy, on poverty, on ill health, on unemployment, on insecurity.  Where the profit motive does not prove efficacious, the state must intervene. … the increasing volume of transactions requires a larger money supply, and the central bank can be persuaded to meet the demand. … 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. … Its mechanism is rather strikingly similar to that of the favorable balance of foreign trade. The debt once owed by colonies to richer countries now is replaced by the national debt. … now the long overdue basic expansion is doled out to one’s fellow countrymen under the haughty name of welfare. [CWL 15, 85-86]

…, 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 through (S’ – s’O’) and (S” – s”O”).  [CWL 15, 64]

… 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]

Again,

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]

The Executive and Legislative Branches have effected a systematic divergence from the norms of the process.  The spontaneous automatic correction of this independent variation is inflation.  Inflation swindles those holding cash and receivables and having fixed incomes, i.e. no pricing power relative to their incomes; while benefiting those holding payables and enjoying pricing power as to incomes, whether in the form of wage or salary or in the form of vending revenues.

A condition of circuit acceleration was seen in Section 15 to include the keeping in step of basic outlay, basic income, and basic expenditure, and on the other hand, the keeping in step of surplus outlay, surplus income, and surplus expenditure.  Any of these rates may begin to vary independently of the others, and adjustment of the others may lag.  But any systematic divergence brings automatic correctives to work.  The concomitance of outlay and expenditure follows from the interaction of supply and demand.  The concomitance of income with outlay and expenditure is identical with the adjustment of the rate of saving to the requirements of the productive process. [CWL 15, 144]

Ideally, the dummy money would be constant in exchange value. (See Facing Facts …), but flooding the system with “ production-unjustified” spending money is intrinsically inflationary and constitutes a swindle.

… 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]

Insert Burley’s interest factor equals growth factor

… 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]

But, again,

… 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]

In a pure cycle of expansion, the early stage of a surplus expansion will involve an expanded money supply, part of which will seek an as yet unavailable increased amount of basic goods and services.  This excess basic demand of the early stage of a surplus expansion will be inflationary; the benefit of this inflation will thus accrue, in part, to entrepreneurs, and will result in some savings for reinvestment.  Thus, while expansion of the transfers from the Redistributive Function directly to entrepreneurs is the normal source of investment money for expansion, there will be an initial period in which savings from the basic expansion will also be a source.

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]

… the acceleration of the productive process, if it is to succeed and not be destroyed by circulation maladjustments, postulates that in a proportionate expansion the rate of saving be constant, that in a surplus expansion it increase, that in a basic expansion it decrease.  The implications of this postulate will concern us in subsequent sections on the cycle of basic income, the cycle of pure surplus income, and the cycle of price spreads. (CWL 15, 133)

Lonergan argued that previous depressions could be understood in terms of a tendency by producer-banker combinations with price-fixing powers to hang onto KN accumulation profit cum interest rates rather than raise wages, even after the economy was tooled up to the requirements of the new stationary state.  He argued that at this stage anticipations need to recognize that the KN accumulation boom is over.    Peter Burley and Laszlo Csapo, Money Information in Lonergan-von Neumann Systems, Economic Systems Research, vol. 4, No. 2, 1992 p.139

The Treasurer and Chairman of the Central Bank must make themselves unpopular.  When the proper action for the Fed to take – e.g. add to or withdraw money in the system only in conformity to the requirements of the magnitudes and frequencies of current transactions – the Fed must, rather than bow to Congress, make itself unpopular to the Legislative and Executive branches and force both branches to obey the principles and laws of scientific macroeconomics and, so, effect a balanced budget.  The Fed must not effect either or both of a harmful money supply or a harmful price of money (interest rate) just to please those seeking reelection and glory.  The Fed must be independent rather than in obeisance.  It must announce to ignorants in the government that the mandate for full employment should be directed to the private and government sectors, not to the issuer of dummy money and wise regulator of the banking system.

We refer the reader to CWL 15, Section 20 “Misadventures”,  where Lonergan addresses aspects of the subject of ineffective basic demand arising from the failure of a) academe to understand and communicate economic science, and b) the enlightened private and government sectors to effect a balanced budget, for which the economic process has an exigence.  The private and government sectors must implement the basic expansion.  Lonergan treats a “series of palliatives that, in one way or another, divert attention away from the ineffective demand for basic goods and services and, at times, mitigate it.”  In “Misadventures” he briefly critiques – from a strictly, strictly, strictly economic point of view of normatively-balanced flows in a well-managed economy – the economic similarity in

Now this type of surplus is not confined to warlike concerns.  Once the possibility of an unbalanced budget is established, the precedent can be invoked to persuade politicians to carry on other wars: wars on illiteracy, on poverty, on ill health, on unemployment, on insecurity.  Where the profit motive does not prove efficacious, the state must intervene. … the increasing volume of transactions requires a larger money supply, and the central bank can be persuaded to meet the demand. … 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. … Its mechanism is rather strikingly similar to that of the favorable balance of foreign trade. The debt once owed by colonies to richer countries now is replaced by the national debt. … now the long overdue basic expansion is doled out to one’s fellow countrymen under the haughty name of welfare. [CWL 15, 85-86]

The flows are implicitly-defined among themselves.  And, as an important exercise, those should be traced  by the reader, pencil in hand, in “The Diagram of Macroeconomic Field Theory.” Note that there is neither representation nor even mention of external efficient causes such as neoclassical, Keynesian, DSGE’s “generative force” of exogenously determined prices.  Macroeconomic Field theory is an immanentism of a unitary system.

  1. R’ = E’     (CWL 15, 54)
  2. R” = E”      (CWL 15, 54)
  3. I’ = O’ +M’      (CWL 15, 54)
  4. I” = O” +M”     (CWL 15, 54)
  5. G = c”O” –i’O’   (CWL 15, 54)
  6. G = c”O” –i’O’ = 0     the condition of dynamic equilibrium   (CWL 16, 50)
  7. M’ = (S’ – s’O’) + (D’ – s’I’) + G   (CWL 15, 54)
  8. M” = (S” – s”O”) + (D” – s”I”) – G   (CWL 15, 54)
  9. (S’-s’O’) = ΔT’ + (O’ – R’) + ΔR’   (CWL 16, 67)
  10. (S”- s”O”) = ΔT” + (O” – R”) + ΔR”   (CWL 16, 67)

Thus for example, assuming G = 0, and in keeping with both the principle of concomitance (flows keeping pace) and the functional role of credit to bridge brief time gaps, we have for  the relations of functional flows among themselves in the basic circuit:

  1. R’ = E’ = I’ = O’ +M’
  2. Thus, per 7 above, R’ = E’ = I’ = O’ +[S’ – s’O’] + [D’ – s’I’]
  3. Thus, per 9 above and 2 immediately above, R’ = E’ = I’ = O’ + [ΔT’ + (O’ – R’) + ΔR’] + [D’ – s’I’]

.III. The quantities and velocities of rates of payment are to be correlated with the quantities and velocities of flows of goods and services; the normative money supply and how new money should enter the circuits

Four key ideas in this Section III are as follows:

  1. the quantities and velocities of flows of money are correlated with the quantities and frequencies of flows of goods and services
  2. it is easier to expand the economic process through higher quantities of products and their payments than through the frequencies of the products and their payments
  3. additional money for expansion should enter through (S’-s’O’) and (S”-s”O”) into the supply function
  4. additional money entering through the demand functions, through (D’-s’I’) and (D”-s”I”), pertains usually to the theory of booms and slumps

Click here for the Correlation of the Need for Money with the Magnitudes and Frequencies of Turnovers.  Click here for the topic of The Norms Guiding the Creation  of Money,  Click here for the topic of The Norms Guiding the Flows of Money,

Economists speak of the money supply available for transactions by reference to the Federal Reserve’s M1, and M2 which are the summations of liquid pools of money:

M1                                                                                                    M2

Coins and currency in circulation                               Coins and currency in circulation

Checkable deposits                                                       Checkable deposits

Traveler’s checks                                                            Traveler’s check

   Savings deposits

   Money Market funds

    Certificates of deposit

     Other time deposits

M2’s  Money-Market funds include short-term Treasuries, some of which offer potentially instant liquidity, but – because of the impossibility of measurement – do not include secondary-market equities; these, for the most part, are very liquid and might be regarded by owners as an available liquid resource, allowing for the two or three-day settlement period.

Where there exists excess liquidity in the system, it may work its way into artificially high levels of activity and of value, and it may sit pathologically idle in the secondary markets serving only to inflate values therein. But such excesses are not recognized as disequilibrated artificial boons, but rather would be considered by owners to be legitimate earnings and wealth.

The Diagram of Rates of Flow accounts for inflation and deflation.

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]

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)

Table of Further Contents

  1. The dynamic economic process involves a correlation between the quantities and velocities of rates of payment and the quantities and velocities of flows of goods and services
  2. The circuit velocity of money is determined by its correlation with the flows of goods and services
  3. The real growth of the productive process depends upon the growth of its correlated dummy money
  4. We have to deal with quantities of money congruent with the values emerging in the always-current, purely-dynamic productive process and with the velocities of money congruent with the velocities of the productive process
  5. First, Lonergan asks if the productive process can accelerate when the quantities of money in the circuits are unchanged
  6. Second, Lonergan supposes increasing quantities of money in the operative circuits due to positive values of (S’-s’O’) and (S”-s”O”) are correlative to acceleration of the process
  7. Third, Lonergan discerns that increased quantities of money entering through (D’-s’I’) and (D”-s”I”) belong to the theory of booms and slumps.
  8. The possibility of a slightly stimulating effect
  9. The normal entrance of money for expanding transactions is through the supply function rather than through the demand function
  10. Excess money flowing into demand through (D’-s’I’) and (D”-s”I”) sooner or later gets absorbed in prices and is the explanation of inflation
  11. An unbalanced budget sets a dangerous precedent.Check out the effect of irresponsible printing of money in Weimar Germany or irresponsible printing of money and electronically-crediting money in Argentina or, worse, recently in Zimbabwe.
  12. A microeconomic analysis of the macroeconomic phenomenon of increasing the supply of money
  13. Conclusion

 

.1. The dynamic economic process involves a correlation between the quantities and velocities of rates of payment and the quantities and velocities of flows of goods and services

 Now every unit of enterprise involves a turnover magnitude and a turnover frequency.  The statement would be merely a truism if it meant no more than that the rates of payment received and made by the unit of enterprise involved quantities and velocities of money.  But the statement is not a truism, for it involves a correlation between the quantities and velocities of rates of payment and the quantities and velocities of goods and services. (CWL 15, 57)

The existence of this correlation may be seen readily enough. … the quantity alternative in the rates of payment is conjoined with the quantity alternative in the rate of production, and the frequency alternative in the rate of payment is conjoined with the frequency alternative in the rate of production.  The two cases of quantity-velocity are not only parallel but also correlated. [CWL 15, 57]

Stable pricing requires concomitant variation of  the real flow and the dummy flow.

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)

.2. The circuit velocity of money is determined by its correlation with the flows of goods and services

The textbooks speak of the “velocity of money” formulated as PQ = MV; thus, M = PQ/V, and V = PQ/M.  But that formulation begs two questions regarding the adequacy or surfeit of the money supply: 1) how does that M compare with M1 and M2?  2) How does it not mention transitional payments? 3) … ?  The textbooks miss the internal subtleties involved in the whole process.

the work for money to do is to move, say, wheat from the western plains to the householder’s table, and increasing the number of owners that intervene in the process gives no more than a phenomenal increase in the velocity of money. … the velocity of money in the main circuits is tied to the velocity with which goods are produced and sold. …the velocity of money in the main circuits coincides with the velocity, the time interval, between the initiation of production and the moment of final sale. [CWL 21, 61-62]

The circuit velocity of money is the rapidity with which money performs a circuit of work.   Conversely, the aggregate value of the full plus partial circuits of work performed in any interval constitutes the velocity of money.

A change in the rapidity with which money changes hands is in itself impotent to effect a circuit acceleration; what is needed is a change in the circuit velocity of money, in the rapidity with which money performs a circuit of work moving, say, from expenditure through receipts, outlay, income back to expenditure.  This difference is important.  For, while the rapidity with which money changes hands is a highly indeterminate concept, the rapidity with which it performs a circuit of work may be correlated exactly with the turnover frequency of commerce and industry.  [CWL 15, 56]

.3. The real growth of the productive process depends upon the growth of its correlated dummy money

The theoretical growth rate of the economic process is understood as the rate of increase in the ongoing production of the stock of useful capital and consumer goods.  The ownership-control of the means of increasing production lies initially in the units of enterprise effecting the increase.  The overall ownership may be subdivided into tranches of ownership bearing less or more of the risk of ownership.  A lending bank, through the constructive ownership of rights to a claim on collateral assets, may initially own  a risk-free tranche of the increase in value, while an equity investor will own a riskier, but possibly more rewarding, tranche of the increase in value.

.4. We have to deal with quantities of money congruent with the values emerging in the always-current, purely-dynamic productive process and with the velocities of money congruent with the velocities of the productive process

Payments for mere transfers of title in secondary stock and bond markets are not operative payments; mere transfers of title are not constituents of the productive process.  Money may be diverted to the non-operative secondary markets – represented in the Diagram of Rates of Flow as contained in the Redistributive Function – to purchase previously-issued, “second-hand” stocks and bonds and to sit without productive motive serving only to inflate prices in the secondary markets. This diversion, in and of itself,  would drain money into idleness and constitute a non-normative bifurcation of purchasing power in the two operative circuits, and thereby, be a problem of equity. (Click here)

We have to deal not with the quantity and velocity of money in all and any payments but only with the quantity and velocity in operative payments.  But operative payments have been defined as standing in a network congruent with the network of the productive process; it follows that we have to deal with quantities of money congruent with the values emerging in the productive process, and with the velocities of money congruent with the velocities of the productive process.  In fact, we shall be able to deal with the more precise ideas of turnover size and turnover frequency instead of ill-defined ideas of quantity and velocity of money. [CWL 21, 135]

… the term “productive process” is to be used broadly. … it is the totality of activities bridging the gap between the potentialities of nature, whether physical, chemical, vegetable, animal, or human nature, and, on the other hand, the actuality of a standard of living. … in every case there is one effect: the potentialities of nature become a standard of living.  And in every case this effect is attained in the same way: it is attained not once and for all but only in a continuous succession of activities, by a rhythmic repetition of constant or mobile routines, by a process. ¶ The productive process is, then, the aggregate of activities proceeding from the potentialities of nature and terminating in a standard of living.   Always it is the current process. (CWL 15, 19-20)

the current process is always a rate of activity, that this rate differs from the potentialities of nature, from which it proceeds, and that it differs from its finished products, which, ex hypothesi, are no longer in process but already produced. … Goods that have been completed are not goods in process; services that have been rendered are not services being rendered.  Again, goods in process are not the natural resources from which they are derived; and services being rendered are not the natural potentialities from which they are derived.  There can be resources and potentialities without the goods or services being derived from them; and while they are in the process of being derived, the goods are not yet produced and the services are not yet rendered.  ¶ Thus the process is a purely dynamic entity. (CWL 15, 21)

Thus the productive process is a purely dynamic entity.  We began by saying how broadly the term was to be taken.  But it is also necessary to insist how narrowly.  It is not wealth, but wealth in process. … It is none of its own effects, if by effects are understood what has been completed.  It is neither the existence nor the use of durable consumer goods, of clothing, houses, furnishings, domestic utensils, personal belongings, or indeed any item of private or public property that can be listed as a consumer good and has passed beyond the process to become an element of the community’s standard of living.  On the other hand, with regard to producer goods a distinction has to be drawn: they are in the process as a means of production; they are in the process in the sense that labor is in the process or that management is in the process, namely, their use forms part of the process; but once they are completed they are no longer under process, any more than labor or management is under process and being produced. … factories and machinery, railways and power units, warehouses and offices are in the productive process only while being produced; once they are produced, they themselves have passed beyond the process to enter the category of static wealth, even though their use remains a factor of production.(CWL 15, 21-22)

Lonergan continually emphasized that his circulation analysis is primarily concerned with rates; quantities are relegated to secondary importance.  Indeed, it is the set of problems associated with changes of rates – with dynamic accelerations in the economy – that was his central concern. … See Insight 21-23/46-47, and expecially 25/49-50.  (CWL 15, 21, ftnt 23)

.5. First, Lonergan asks if the productive process can accelerate when the quantities of money in the circuits are unchanged

Acceleration of the productive process by increased turnover frequencies is difficult to effect.  Acceleration is achieved primarily through greater magnitudes.

… , under the limitation we are considering, namely, unchanged quantities of money in the circuits, the acceleration possible from these increased frequencies is limited by the irregularity of their incidence.  Unless all the units (of enterprise) in the series simultaneously increase frequency from reduced turnover periods, there cannot be a general acceleration due exclusively to increased frequency; the units with increased frequency have to reduce their turnover magnitudes to allow other units in the series without increased frequency to accelerate by increased turnover magnitudes.  [CWL 15, 59]

The introduction of more, or more efficient units of production is not to be expected to take place in random fashion: the supply of a single product depends upon the activities of many units …;  on the other hand, increased demand does not concentrate upon some one product but divides over several products, so that if there is increased demand for one, there will be an increased demand for many; and as the increased demand for one justifies development in a series of productive units, so the increased demand for many justifies development in a series of series of units. [CWL 15, 35-6]

Suppose a shipbuilder to have four ships under construction at once, and to finish a ship every two hundred days.  Let demand be doubled.  Then the builder may put eight ships under construction at once or he may study Henry Kaiser’s methods and learn to complete a ship in one hundred days. … If he has only four ships under construction but completes a ship in one hundred days, the magnitude of his payments received amounts to the value of four ships, but their frequency is doubled since these payments take place every hundred days instead of every to hundred days. … Now, if in each unit of enterprise the magnitude and frequency of payments depend on the magnitude and frequency of turnovers, it follows that with respect to the aggregate of basic units and again with respect to the aggregate of surplus units we have quantities and circuit velocities of money determined by turnover magnitudes and frequencies. … the question before us, then, is the possibility of changes in turnover frequency when there are no changes in the aggregate quantities of money available in the circuits. (CWL 15, 58-9)

Again for emphasis,

Further, under the limitation we are considering, namely, unchanged quantities of money in the circuits, the acceleration possible from these increased frequencies is limited by the irregularity of their incidence.  Unless all the units (of enterprise) in the series simultaneously increase frequency from reduced turnover periods, there cannot be a general acceleration due exclusively to increased frequency; the units with increased frequency have to reduce their turnover magnitudes to allow other units in the series without increased frequency to accelerate by increased turnover magnitudes.  [CWL 15, 59]

.6. Second, Lonergan supposes increasing quantities of money in the circuits due to additional money being channeled to the supply functions; i.e. positive values of (S’-s’O’) and (S”-s”O”) are correlative to acceleration of the process

Now on the supposition of increasing quantities of money in the circuits due to positive values of (S’-s’O’) and (S”-s”O”), there follows an acceleration of turnover magnitudes proportionate to the magnitude of  (S’-s’O’) and (S”-s”O”), and to this may be added any acceleration of turnover frequency that occurs. [CWL 15, 61-3]

once long-term acceleration is underway, rates of production increase increasingly; their graphs are concave upward; but the curvature moves from being flatter to being rounder as the acceleration is generalized from one section to another throughout the productive process.  During this period of generalization, rates of production are not merely increasing in geometrical progression but moving from less to more rapid geometrical progressions. … This situation, however, is bound to be temporary; its existence is the lag between the generalized long-term acceleration of the surplus stage and that of the basic stage.  When that is overcome, dQ’/Q’ moves again to a peak and remains there; and by the same token, dQ”/Q” will begin to decline. CWL 15, 126

(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

.7. Third, increased quantities of money through (D’-s’I’) and (D”-s”I”) belong to the theory of booms and slumps.

 … there now arises the question, What happens when the transfers to demand (through (D’-s’I’) and, (D”-s”I”) are positive (or negative) or the crossover difference is not zero? [CWL 15, 63)

… the general theory of circuit acceleration is that it takes place in a constrained and limited way when quantities of money in the circuits are constant, but without let or hindrance (but not necessarily a runaway) when quantities of money are variable. (CWL 15, 64-65)

The foregoing account of circuit acceleration has been based on the diagram of transfers between monetary functions.  It has been simply macroeconomic, and so needs to be supplemented with a microeconomic analysis that will clarify certain details of the general picture. (CWL 15 65)

.8. The possibility of a slightly stimulating effect

Finally, provided (D’-s’I’), (D”-s”I”), and 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)

 .9. Thus, the normal entrance of money for expanding transactions is through the supply function rather than through the demand function

 The normal entrance of money for expanding transactions is through the supply function rather than through the demand function; that is to say,  compensation is normatively justified by, and awarded for, productive contribution.

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. … The effect of excess transfers from ther Redistributive Function to the supply function, is (S’ – s’O’) and (S”- s”O”) is twofold.  Primarily it is a matter of aggregate increments in monetary circulating capital. [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

The reduction of basic income is not the normal nor the principal source of the supply of money for investment.  Money in the basic circuit should normally stay in the basic circuit to sustain the basic circuit.

One cannot identify a reduction of basic income (which is often a misdirective drain of the basic circuit, not an increase) with an increase in the supply of money (for investment), –- 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]

A rate of saving in the surplus circuit, interval after interval, may sustain an equal rate of investment, but an increase in investment requires an increase of credit money in the surplus circuit.

It is a common saying that savings equals investment.  On the present showing it would be more accurate to say that the crossovers should balance, that a sustained lack of balance portends ruin, … The advantage of such greater accuracy is that it does not suggest an immediate correlation between savings and investment.  Provided the crossovers balance, surplus income equals surplus supply. [CWL 15, 70]

.10. Excess money flowing into demand through (D’-s’I’) and (D”-s”I”) sooner or later gets absorbed in prices and constitutes the explanation of inflation

Unless the Fed actually reduces the money supply by selling government or government-backed bonds back into the secondary market or by not renewing those bonds at maturity (quantitative tightening), the recent flood of free money will remain in the system to be sooner or later absorbed by inflation in the operative circuits or in the Redistributive Function. (Click here and here)

.11. An unbalanced budget sets a dangerous precedent.  Check out the effect of irresponsibly printing or electronically-crediting money in Argentina or, worse, Weimar Germany and, recently, Zimbabwe.

…  Once the possibility of an unbalanced budget is established, the precedent can be invoked to persuade politicians to carry on other “wars”: wars on illiteracy, on poverty, on ill health, on unemployment, on insecurity.  Where the profit motive does not prove efficacious, the state must intervene. … the increasing volume of transactions requires a larger money supply, and the Central Bank can be persuaded to meet the demand. … 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. … Its mechanism is rather strikingly similar to that of the favorable balance of foreign trade. The debt once owed by colonies to richer countries now is replaced by the national debt. … now the long overdue basic expansion is doled out to one’s fellow countrymen under the haughty name of welfare. [CWL 15, 85-86]

.12. A microeconomic analysis of the macroeconomic phenomenon of change in the money supply.

The foregoing account of circuit acceleration has been based on the diagram of transfers between monetary functions.  It has been simply macroeconomic, and so needs to be supplemented with a microeconomic analysis that will clarify certain details of the general picture. (CWL 15, 65)

On the assumption that all units of enterprise begin turnover 1 simultaneously and end turnover n simultaneously, it is possible to construct a simple mathematical model of circuit acceleration. (CWL 15 65)

Further, since, in the aggregate, transitional payments made are identical with transitional payments received, one has

0 = ΣΣ (Tij – tij)

so that all summations may be eliminated and one may write

(S’ – s’O’) = ΔT’ + (O’ – R’) + ΔR’

and by changing primes (‘) to double primes (“), one has a parallel equation for the surplus circuit. (CWL 15, 67)

Thus excess transfers to or from supply, (S’ – s’O’), tend to equal the sum of the increments of aggregate turnover magnitudes in final payments and in transitional payments.  Of these two, the increment in transitional payments will be the larger, since for each sale at the final market there commonly is a sale at a number of transitional markets.

This states that with respect to any contemporaneous set of turnovers, j, the aggregate of quantities of money sijrequired for transitional basic payments (from entrepreneurs to prior entrepreneurs) is equal to the aggregate of quantities required for initial basic payments rij multiplied by some factor vi.  This factor vi will vary in the case of each entrepreneur according to the number of times his contribution to the productive process during one of his turnovers, namely (outlays to employees) rij, is found to be(come) the property of some (subsequent) entrepreneur on its way to final sales.  Thus, if the ith entrepreneur is a wholesaler with the same turnover as the retailers to whom he sells, vi is unity.  If the wholesaler’s turnover period is twice that of the retailers to whom he sells, vi is one-half. Universally, entrepreneurs at any instant are carrying some multiple of each rij (of prior entrepreneurs in the production series); they are carrying that multiple because they have made transitional payments for it and have not yet recovered their payments; and the aggregate of quantities of money required for transitional payments at any time is equal to the aggregate of quantities required for initial payments multiplied by that elusive multiple vi. [CWL 21, 169-70]

.13. Conclusion

Now on the supposition of increasing quantities of money in the circuits due to positive values of (S’-s’O’) and (S”-s”O”), there follows an acceleration of turnover magnitudes proportionate to the magnitude of  (S’-s’O’) and (S”-s”O”), and to this may be added any acceleration of turnover frequency that occurs. [CWL 15, 61-3]

… the general theory of circuit acceleration is that it takes place in a constrained and limited way when quantities of money in the circuits are constant, but without let or hindrance when quantities of money are variable. (CWL 15, 64-65)

Finally, provided (D’-s’I’), (D”-s”I”),  and 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)