Over Production and Under Consumption

Over-production and Under-consumption

Modern economists have pointed out that the real thinking upon the topic of business cycles was done originally by the non­professional or the unorthodox economists. It is true that Say's work was an attempt to refute the charges made against current practices by Malthus and Sismondi. The classical economists of the 19th century investigated chiefly the phases of economics which hold in the long run or apply to the normal or natural state. The "rhythmic rise and fall of business activity" received little atten­tion. The search for additional explanation of the business cycle leads away from classical economic theory and into the domain of its critics. Robert Malthus, whose niche among the world's great thinkers is due to his ideas on population, was also a truly great economist. Malthus was the first to admit that crises might arise from conditions inherent in the capitalistic system. His ideas on the causes of crisis can be stated briefly. Production he be­lieved depended upon the continuation of effective demand. This effective demand was one which established a price high enough to allow a producer to pay all expenses of production and still provide a profit. But he pointed out that the value of products was always more than the sum paid for the labor necessary to produce them. Hence the body of laborers themselves could never represent a demand big enough to enable the producer to obtain a profit. The additional demand for goods must of necessity come from another source. The capitalists themselves could not be depended upon to provide the necessary demand since they were more interested in saving than in spending. Consequently, the demand must come from what Malthus called unproductive con­sumption. As unproductive consumers Malthus enumerated landlords, menial servants, statesmen, soldiers, judges, lawyers, physicians, and clergymen. If, however, the rate of capital ac-cumulation in a very progressive country was rapid, and if the non-productive classes were encouraged to save rather than consume, effective demand would fall and industry would come to a standstill.

Malthus was the forerunner of many who believed that crises and depressions were the result of under-consumption. In the light of later economic thought, Malthus might at first glance be classed among the revolutionary economists. He was no doubt one of the first to note the inconsistencies and contradictions in capitalism, but he noted its flaws with regret, for the ability of capitalism to produce was fully known to him. The salvation of capitalism as Malthus saw it was the encouragement of unpro­ductive consumption. Whether his support of such a program was merely the detached and objective suggestion of a scientist who saw no other alternative, or whether his close connection with the unproductive classes led him to the sentimental support of their interests one will never know. By his own act, however, he identified himself with the forces of reaction rather than with the liberal and progressive groups that gave dynamic leadership to economic thought for the century to come.
The implications of Malthus' exposition were taken up and elaborated by a highly competent continental writer, J. C. L. Simonde de Sismondi.

The ideas of Sismondi on business cycles illustrate how a slight change in perspective can identify a man of thought with the future rather than with the past. Sismondi, whom we have re­ferred to several times before, was an Italian Swiss who began as a close follower of Adam Smith's economic ideas. These ideas he reviewed for European readers in his first work entitled De la Richesse commerciale. Following the publication of the work, Sismondi spent several years in historical research dealing espe­cially with medieval Italian cities. After nearly 15 years of separation from active work on economic subjects he was asked to write an article on political economy for the Edinburgh Encyclopaedia. The period intervening between his first work on economics and the encyclopedia article had been one of great economic changes. The Napoleonic Wars had resulted in several crises. When Sismondi began to write his article he found that the generally accepted principles about which he had planned to write no longer stood the test of reality. In rearranging his ideas to fit conditions as they existed, he found that he had actually arrived at conclusions which diverged from the accepted thought. These ideas he set down in his Nouveaux Principes d'£conomie poli­tique published in 1819.

Sismondi's new ideas of political economy arose from his efforts to explain why it was that in a nation where relatively complete freedom of economic enterprise existed there continued to exist individuals who did not have enough money to buy what they needed to consume. In brief the explanation of crises was over­production and under-consumption. The analysis which Sis­mondi made of this situation involved four distinct conditions. In the first place knowledge of the market is imperfect. The na­ture of the market is really an unknown quantity to the producer. He has no exact information as to the taste, purchasing power, and quantities demanded. He depends upon price in relation to cost of production to dictate whether he should produce more or less. A high price in relation to production costs encourages greater production because of the desire to increase profits. But one producer has no means of knowing how much other entre­preneurs are increasing production. Consequently, over-produc­tion of certain commodities is always in evidence.

Sismondi suggests in the second place as a contributing factor the unequal distribution of income. While wage-earners' incomes are constantly depressed to the level of subsistence the surplus purchasing power gravitates into the hands of the wealthy. The reason for this maldistribution is that the ownership of private property includes the power to demand a part of the value pro­duced by labor; and the severe competition among workmen for jobs results in subsistence wages. The wealthy, having sufficient income for necessities, can use their surplus only for luxuries, but for psychological reasons foreign luxuries are more attractive than those produced at home. Thus domestic production is forced to find foreign markets. This is difficult. New luxury industries are slow in starting because of foreign competition, hence workmen are dismissed, surplus stocks accumulate, and a crisis results.

Thirdly, since the purchasing power available to purchase consumer's goods is equal to last year's income, any increase in production will result in a surplus of commodities. This is true because the income of last year is less than the value of the goods produced in the present year. Hence increases in machinery are frequently responsible for gluts upon the market.

Finally, production under a capitalist economy is determined by the amount of capital available for investment rather than consumers' needs. In a prosperous period the accumulation of surplus funds in the hands of the wealthy is frequently turned to the production of goods for which there is no existing market. The result is the building up of inventories which ultimately cause a curtailment of production, unemployment, and crisis.

Sismondi described clearly weaknesses of the economic system which classical economists were likely to overlook. He failed, however, to give an explanation for these weaknesses which could find a place in the system of economic ideas prevalent at the time. His unorthodox conclusions and explanations formed an im­portant point of departure for later socialist thought, and the realism of his observations had an important bearing upon the thinking of later classical economists even though they rejected his ideas. No one can take from him the honor, however, of being the first to present a systematic treatment of business cycles.

The interest which Sismondi exhibited in business cycles did not end with their description. His humanitarian principles led naturally to proposals which would eliminate the evils of business crisis and poverty. He suggested state intervention to regulate production and restrict the use of inventions in the interest of a more stable economy in which production and purchasing power would be kept approximately equal. Since inequalities in income were due principally to the separation of the wage-earners from property, Sismondi suggested a restoration of paternalism in in­dustry and the return of the independent artisan. Until such a reunion of the worker and property could be achieved Sismondi believed that poverty and human suffering should be modified by laws permitting workers to organize, protecting women and children in industry, limiting hours, and guaranteeing workers against the hazards of unemployment, illness, and old age.

About the same time Robert Owen in England was writing on the trade cycle, expressing ideas similar to those of Sismondi. Like Sismondi, his interest in business cycles was aroused by the depressions following the Napoleonic Wars. In his Report to the Committee of the Association for the Relief of the Manufacturing Poor, published in 1817, he stated that the introduction of ma­chinery caused production to exceed the revenues of the world available to purchase these productions. He was quick to see that while some persons became wealthy as a result of machine pro­duction, wealth was so poorly distributed that the increases in production could not find a market. "The markets of the world are created solely by the remuneration allowed for the industry of the working classes, and those markets are more or less ex­tended and profitable in proportion as these classes are well or ill remunerated for their labor," he maintained. "But," he con­tinued, "the existing arrangements of society will not permit the laborer to be remunerated for his industry, and in consequence all markets fail." {Report to the County of Lanark, p. 252-253).

The effort to describe and explain economic crisis was ignored by the classical economists, but Rodbertus, a German economist of the middle 19th century, elaborated and clarified the ideas of the trade cycle-advanced by Sismondi and Owen. Many of Rod­bertus' ideas were French in origin; and although research into the background of his work does not show an acquaintance with Sismondi, one must assume, because of the similarity in many of their thoughts, that Rodbertus had some knowledge of Sismondi's work. Rodbertus' explanation of crisis begins with his conception of distribution.

Although in theory land, labor, and capital re­ceive a return corresponding to their respective services as esti­mated by the market, actually capitalists and landlords are able to manipulate exchange so as to take from labor part of its legiti­mate share.

Moreover, the present economic system recognizes the right of owners to a share of income although they have con­tributed nothing toward production. The loss of income by the wage-earners to landlords and capitalists is a permanent factor in the economic system and the loss increases rather than de­creases as time goes on, ultimately returning to labor only enough income to provide subsistence. In spite of the declining income of the workers, capitalists continue to expand production to meet the total demand represented by the income distributed. But since much of the income goes to those who either save or spend only for luxuries over-production follows sooner or later. During a period of depression the surpluses are disposed of and equilibrium between supply and demand is established.

Like Sismondi, Rodbertus felt an obligation not only to de­scribe the business cycle and identify its causes, but also to suggest remedies. As one might imagine from his theories of distribution, he proposed that means of production should be owned socially. Unearned income should be eliminated. Income should be dis­tributed in proportion to the labor of each. These objectives were to be achieved gradually by the establishment of a socialistic state under a benevolent monarchy.

In his explanation of the evolution of capitalism into socialism Karl Marx ascribed a major role to economic crises. He was one of the first authorities to point out the fact that crises recurred periodically in capitalistic society, and perhaps without adequate proof he contended that crises were becoming more severe. Das Kapitai, Marx's chief work—which explains in terms of economic processes his conception of the inevitable transition from capitalism to socialism—devotes several hundred pages to economic crises.

The Marxian analysis begins with the assumption made by classical economists that the normal state of the market is a state of equilibrium in which the supply of goods just equals the con­sumer demand for them. Anything which disrupts either supply or demand, therefore, disturbs the equilibrium of the market. In a crisis, immense quantities of unsold articles accumulate, while thousands of people go without basic necessities. An economic crisis, which is essentially a disturbance in equilibrium where sup­ply outruns the demand for commodities in general, is peculiar to capitalistic economy. It could not exist in a society where each man produced for his own needs. When division of labor and specialization are introduced, the balance between supply and de­mand becomes delicate and a rupture of the equilibrium is pos­sible. However, in the Middle Ages when each community was self-sufficient and the market for goods steady and well defined, no crises occurred save those which could be traced to external causes. Under capitalism crises are the result of the nature of capitalism itself.

What then are the significant aspects of capitalism which cause crises? According to Marx there are two. First, production ceases to be governed by the needs of the consumer; it is now controlled by the needs of production. Because of the interdependence of specialized labor in a factory, an employer sees to it that his entire labor force is utilized, but this may result in a productive capacity above the market needs. Nevertheless, because of the interde­pendence of all workers and the necessity of mamtaining the maximum efficiency, no workmen can be discharged. Instead the producer endeavors to create a market for his surplus. Although originally designed to satisfy more fully consumers' needs, size and the intricate nature of production now determine how much will be produced. Thus over-production is not only possible, it is usually present, for adaptation to the size of consumer demand is well-nigh impossible.

In addition to the impossibility of balancing production and consumption in such a complex system, because production now determines its own ends, the inequalities' of income distribution add to the difficulties of maintaining equilibrium. Since the em­ployer is able to exact surplus value from his workmen in the form of extra production which he places on the market for sale, it is obvious that the wage-earners alone cannot buy back the commodities they produced. The capitalist, instead of spending the surplus money which he receives on added consumption of the product, uses some of it upon luxury commodities and uses most of it to purchase additional machinery (constant capital) which enables him to produce more goods and to exact a still greater amount of surplus value. And since, regardless of the laborer's power of production, he is paid only a subsistence wage, a market surplus appears which cannot be sold at a profit or even at cost. The paradox of idle manpower and idle capital is the great paradox of capitalist crisis, and it is only by resolving the paradox that crisis turns to economic revival. This is accom­plished by two movements. The first is the elimination of the sur­plus capital. Some of it disappears through business failures and the physical destruction of plant and equipment; the rest disap­pears through shrinkage in value. The second is the reduction of wages to a point where it is again profitable to produce. The number of the unemployed competing for jobs sooner or later reduces wages to the required level.

The inevitable consequences of this process are crises of in­creasing severity. On the one hand unemployment increases, and the wage-earners, growing in number, are impoverished. On the other hand, the mounting surpluses of unsold goods lead to bank­ruptcy of the smaller business; large corporations increase in size; ownership becomes merely a claim on surplus value without direct control or responsibility; and concentration of power in the hands of a few owners finally results. It is at this point that the wage-earners become conscious of the inability of capitalism, in spite of its huge accumulation of the means of production, to provide and distribute the needed commodities, and the transition from capitalism takes place.

The explanations of crises given by Malthus, Sismondi, Rod-bertus, and Marx laid the general pattern of all under-con-sumption explanations. Until the latter part of the 19th century these were the only systematic treatments of the subject. Since then theories of the business cycle have come from the pens of economists in ever-increasing numbers. To discuss these ideas in chronological sequence would be confusing. A more intelligible method is to group the various ideas according to their principal emphasis. Such a process sorts out the theories into groups which stress the following factors as causes of business cycles: under­consumption, money and banking operations, over-investment, psychological and emotional factors, the weather.

John A. Hobson was one of the first of the modern authors to champion the idea of under-consumption. He believed that in modern society the incomes of the wealthy rise more rapidly than their expenditures, which leads naturally to greater saving. When invested in productive enterprise this new saving increases the supply of goods, and it also increases the incomes of the investors. Ultimately markets become glutted with goods that cannot be sold at a profit, because too much of the potential purchasing power has been saved. The upswing comes when prices fall suf­ficiently to clear the market of goods. Saving and spending once again balance, and profitable investment slowly returns. But soon the process begins again, resulting in a new crisis. The immediate cause of the crisis is over-saving; fundamentally it is caused by the great disparities of income between rich and poor which make saving automatic for the wealthy.

Present-day Socialists and many others subscribe to the fore­going explanation, giving more or less attention to the processes underlying the unequal distribution of wealth. In recent years it has been called variously by such names as over-saving and— more popularly—lack of purchasing power. Although this idea has been the intellectual justification for much of the "New Deal," orthodox economists have been slow to accept it. One of them has said: this idea "can be dismissed off-hand as wholly unfounded." To the general public the purchasing power or un­der-consumption explanation of crises seems to make the most sense.

There are several other interpretations of under-consumption as a cause of business cycles. Under-consumption may mean that purchasing power is lost. With the disappearance of money from the economic system the value of money rises. This deflationary process causes a fall in the price level and sets in motion the recession phase of the business cycle.

Under-consumption may also mean over-saving. This is the most generally accepted meaning of the term and is implicit in all the previous descriptions, especially in the ideas of Hobson. The essence of the argument is that savings lead to a decrease in demand for consumers' goods and an increase in production. The natural result is a fall in prices and a decline in business activity.

Not all authorities believe that under-consumption is a cause of depressions. Criticisms, however, are usually due in part to ad­herence to another explanation of the business cycle. While the over-saving idea does not seem to accord with the facts of invest­ment, these alternative views of under-consumption which are worth consideration are claims that prosperity turns to recession when the full power of production made possible by the increased saving in the early part of the revival is finally brought into operation. Thus not over-saving or under-consumption but an over-supply of consumers' goods causes the recession. Another explanation claims that wages fail to rise swiftly enough during the boom period, causing excessive profits. A dangerous credit inflation follows which ultimately collapses when wages finally reach their normal relation to profits, and raise costs of pro­duction.