~ le loi des debouches
In 1803, Jean-Baptiste Say (1767-1832), member of les Idéologues,* published his landmark Traité d'économie politique.** In the Traité, which was proscribed by Napoleon within a year of being published, Say attempted to wed the two predominant theories as to how industrial, agricultural, and commercial production is managed socially: Condillac's perception that demand is created by use, and Smith's theory that cost is dictated by supply. The resulting theory of supply and demand would set the stage for modern economics, though Say's insights would be slandered or ignored by his successors. It was devised to respond specifically to one theory of "market failure:" the myth of overproduction.
The scope and line of Say's argument is nicely summarized by Ludwig von Mises, in his article on Keynes's alleged refutation of the law that aggregate supply creates aggregate demand. Mises says ("Lord Keynes and Say's Law," reprinted in Planning for Freedom):
Now it is important to realize that what is called Say's Law was in the first instance designed as a refutation of doctrines popularly held in the ages preceding the development of economics as a branch of human knowledge. It was not an integral part of the new science of economics as taught by the Classical economists. It was rather a preliminary — the exposure and removal of garbled and untenable ideas which dimmed people's minds and were a serious obstacle to a reasonable analysis of conditions.
Whenever business turned bad, the average merchant had two explanations at hand: the evil was caused by a scarcity of money and by general overproduction. Adam Smith, in a famous passage in "The Wealth of Nations," exploded the first of these myths. Say devoted himself predominantly to a thorough refutation of the second.
The abbreviation of his law, that "supply creates its own demand," seems superficially to mean that if I create something, people will want it. Obviously, this is not true. If I manufacture six billion black velvet paintings of Elvis, demand for this kitsch will not increase. In any event, Say never said "Supply creates its own demand" – this gloss was formulated by James Mill in 1808. Say's law does not mean that an increase in the supply of any given good will increase the demand for that good; rather, Say's law is that the general production of commodities and services tends to increase the demand for commodities and services in general. It works like this.
Since the time of Adam Smith, it was realized that people did not, ultimately, buy goods with money. Money was only the medium of exchange; it was not a final term of the exchange. In order to acquire the money they use to pay for goods in the first place, people must first sell their labour or skills for money – they have to buy the money with their labour or skills or management insight before they can buy goods with their money. The money they get for their industry is determined by the market prices of their produce – by the value that consumers give to their contribution. Since no one can spend more money than he has, no one can ever acquire as his own more value than he adds to the general economy.
The corollary to this insight is Say's Law, which says that since we can never spend more than we contribute, the more we contribute, the more we can acquire. Supply determines demand. Production, as we shall see below, makes the commodities and services produced cheaper, freeing up resources (capital, natural resources) for spending on other goods as well.
Furthermore, Say's Law predicts that huge surpluses or shortages can only arise from natural or political catastrophes, not from economic causes or "market pressures" or even simple bad planning on the part of private managers, and if people are free to continue disposing of their goods and services as they see fit, these shortages and surpluses will be temporary. If there are certain goods which are not being sold, or not being sold as much as we might wish, it is because somewhere else in the economy, there is some other good which is not being produced or some service which is not being offered which would compensate for the cost of this undersold good. Relative underproduction, a lack of supply, of one good is the result of relative overproduction, a lack of demand, of another. Efficient use of goods across the economy, ideal demand, requires capital development to exploit them – ideal supply.
Notice that "demand" is not the same thing as "consumption" in the sense of a depletion of supply. An increase of supply (production) fuels an increase in demand; demand in this case can be consumption (depletion), but mostly it will be spending of another sort – namely, investment in new processes of production, which depletes part of the supply to produce more supply (or more useful supply). When the same amount (or more) of the good in question is being exchanged than there was before, and (because the good is cheaper and there is money left over) the exchange of other goods also increases, we can say that demand, in general, has increased because of the supply.
In Say's own words (from Treatise on Political Economy, Book 1, Chapter 15, paragraph 8:
It is worthwhile to remark, that a product is no sooner created, than it, from that instant, affords a market for other products to the full extent of its own value. When the producer has put the finishing hand to his product, he is most anxious to sell it immediately, lest its value should diminish in his hands. Nor is he less anxious to dispose of the money he may get for it; for the value of money is also perishable. But the only way of getting rid of money is in the purchase of some product or other. Thus, the mere circumstance of the creation of one product immediately opens a vent for other products.
In a letter to Thomas Malthus, Say summarized his argument as follows:
All those who, since Adam Smith, have turned their attention to Political Economy, agree that in reality we do not buy articles of consumption with money, the circulating medium with which we pay for them. We must in the first instance have bought this money itself by the sale of our produce.
To a proprietor of a mine, the silver money is a produce with which he buys what he has occasion for. To all those through whose hands this silver afterwards passes, it is only the price of the produce which they themselves have raised by means of their property in land, their capitals, or their industry. In selling them they in the first place exchange them for money, and afterwards they exchange the money for articles of consumption. It is therefore really and absolutely with their produce that they make their purchases: therefore it is impossible for them to purchase any articles whatever, to a greater amount than those they have produced, either by themselves or through the means of their capital or their land.
From these premises I have drawn a conclusion which appears to me evident, but the consequences of which appear to have alarmed you. I had said – As no one can purchase the produce of another except with his own produce, as the amount for which we can buy is equal to that which we can produce, the more we can produce the more we can purchase. From whence proceeds this other conclusion, which you refuse to admit – That if certain commodities do not sell, it is because others are not produced, and that it is the raising produce alone which opens a market for the sale of produce.
Say's loi des debouches ("law of markets") operates because of savings and investment. When the price of a commodity or service falls too low, many of the people who had formerly produced it will no longer bother doing so, whereas if the price rises higher, people will naturally be drawn to investing their money and time in starting up a business that provides that product or service.
If a price falls (ie., if there is a surplus), fewer investors and entrepreneurs will bother pursuing that line of production; they're not going to be able to make as much money off it anymore, because they won't be able to sell their products at as high a price as they used to. As a result, the supply or rate of supply for that product diminishes, and so the rate at which the price falls will also slow down. The price will stabilize – though only temporarily, as we'll see. Money that had formerly gone toward producing the now-abundant good will instead be put toward producing goods that can be sold for more money, ie., those which are currently more scarce; but this increases the supply, thus causing the price of that good or service to decrease. If a surplus happens for natural reasons (like the discovery of a new ore deposit), this will relieve the pressure of investors in that sector, permitting them to invest in other, more costly sectors; if a dearth happens for natural reasons (like a drought), investment will be diverted from those lines of production that were formerly worth more but are now less pressing relative to the scarcity.
Notice the tendency here: There is a tendency to drive down the price of scarce and expensive goods, but no corresponding tendency for the price of more common goods to rise, except under the mitigating circumstances of a natural disaster or depletion of a finite natural resource (or a war, or any other extra-market destructive or privative force). This means that investment will keep switching from the production of the relatively more common product to the production of the relatively less common product, until that relationship is reversed (ie., what was formerly the less common good has received so much attention from manufacturers that it's now more common than what used to be the more common good), at which point the investment trends switch again. Production stimulates expenditure; "supply creates demand."
This results in a constant production of wealth accompanied by a constant diminution of prices. Important goods and services keep getting cheaper and cheaper. Immediately necessary products like food, clothing, and shelter become easier to get, easier to keep, easier to use and easier to maintain; more luxurious goods and services become available to an increasingly large sector of the population. There is more to give away, so people get more for their time and their labour. Savings increase, and investments increase, spurring the process on even further. Poverty is increasingly alleviated, and in the long term, real squalor may be eliminated altogether.†
This means that the market tends to bring about a general increase in the material standard of living by maintaining production and lowering prices in times of peace and bounty, and by mitigating the worst effects of war and hardship in less favourable times.
The single most important thing that must be said today about the law of the market is this: the effectiveness of the law depends entirely on the extent to which private discretion of control over scarce goods, especially land and the mechanical means of production, is instituted as custom or law. Say's Law depends on this institution to work; in effect, it describes the effect of this institution. It doesn't make any sense to look at the state of the world today and say "Well obviously, this law is a crock, because the poor are getting poorer, natural resources are being depleted, and the environment is being wrecked" – it doesn't make any sense because no modern society operates strictly according to the cultural institution that Say's Law requires to be effective.
Say's two hundred year old insight into the operation of markets is an elegant little piece of reasoning, which has been subject to much obfuscation by both its proponents and its adversaries, in an attempt to ignore the clear policy recommendation that is corollary to the law. It's not consumption of material wealth that makes us rich, but rather its production; therefore the best way to improve the material standard of living for the citizens of a nation is not to "stimulate spending," nor to "stimulate savings," as either will create a dearth. The former shrinks savings and consequently the investor's ability to engage in a sustained pursuit of lines of production that will lower prices in the long term. The latter discourages current spending on all lines of production in general. The pet projects upon which princes build their popularity, are not nearly as beneficial to the population at large as having the princes not do anything in the first place.
* Les Idéologues were a school of French radical intellectuals, who championed the ideals of the Enlightenment along with a liberal republican social program.
** The full title was: Traité d'économie politique, ou simple exposition de la manière dont se forment, se distribuent, et se composent les richesses (Treatise on Political Economy, or A Simple Exposition On the Manner By Which Wealth Is Formed, Distributed, and Consumed)
† polemic:
legbagede says But isn't one of the reasons production of goods & services gets cheaper & cheaper because they keep getting shifted to regions with poorer & poorer folks to produce them? First Mexico, now Southeast Asia, next Africa?
Yes and no.
It's important to remember why labour is cheaper in the developing world than it is for Euro-Saxon Civilization at large: the material standard of living is comparatively lower.
This wasn't always the case. Once upon a time, over two hundred years ago, the economic conditions of Europe and North America were comparable to those of Latin America, the Middle East, Asia, and Sub-Saharan Africa (both as they were at the time, and as they are today). We were also "developing;" in fact, nobody was really "developed" two hundred years and fifty ago.
Our standard of living improved because we challenged corrupt, leeching government institutions (like guilds), and tried our best not to fight any wars. From the fall of Napoleon until the First World War, Europe and North America experienced an unprecedented era of peace and freedom; there were wars (like the US Civil War, and the Boer War) but they were fewer than today, and they were not associated with government intervention in industry of the scope we would see in the twentieth century.
During that era of relative peace we worked, and as we worked, Say's Law went into effect, lowering prices for our material goods and giving us more and more. This was called the "Industrial Revolution."
For a variety of political and cultural reasons that are partially the fault of Westerners and partially not the fault of Westerners, the rest of the world failed to implement liberal ("capitalist") policies. They continued to be wracked by political corruption, societal stagnation, and war. That means that as we moved forward, they stayed at the same level of development; so in terms of taking advantage of Say's Law and other economic insights to improve our material circumstances, we've got a head start of a couple of hundred years. What makes us "modernized" is not our factories or our technology, but our way of organizing ourselves; but most of the developing world's "modernization" programs have been run by self-serving or partisan dictators, unwilling to sanction the institutions required to take advantage of Say's Law (like private ownership of capital and the natural and mechanical means of production). These dictators have been both domestic to those countries, and foreign: the standards of "modernization" to which the Third World was held by the US, through US puppets like the IMF and the WTO, would cause a public outcry if anyone suggested that the US play by the same rules. (The Reagan administration, I hear, was particularly bad in this regard.) This, and nothing else, is the cause of today's rampant poverty.
By moving our manufacturing to the developing world, we benefit from lowering prices and therefore increasing opportunity to investment in other projects; but they also stand to benefit from the lowering prices and a rise in their own standard of living. If foreign companies, abiding by firm civil laws but no other regulations, are permitted to set up shop without restriction in a developing nation, and if workers are not kept by force in the workplace, then the development of the worker's standard of living proceeds apace – whether their current immediate boss wants it to or not – as competing firms bid up the price of labour, or wages. The inhabitants of developing nations can take advantage of this chance, though, if and only if they also adopt a way of life that discourages war and political corruption, and a social and political program that minimizes the effects of war and natural disasters by taking advantage of Say's Law and other Western economic insights. Remember, though their labour is "cheap," their cost of living is also much lower, and it doesn't take much to see a change that, given the context, is appreciable, even though it isn't yet what we (with our 250-year head start) would consider comfortable.
Say's Law takes time to apply, and so we have to be patient. We also have to be vigilant; the Western World is moving away from peace and freedom, as people from all over the political "spectrum" slander and misrepresent both as being "not worth" the risks and responsibilities that necessarily follow from them. Corporations and pressure groups get special privileges from governments, both domestic and foreign; that hurts everybody. Our success is commensurate with our adherence to economic regularities like Say's Law; to the extent we turn our back on the corollary recommendations to these laws and try to give monopoly franchises (be it "intellectual property" or legally consolidated unions), subsidies (be they for rich super-corporations or for farmer Joe's farm) or tariffs and prohibitions (on lumber, on finance, on minerals, on immigrants, on anything), we endanger our own progress. As the current leaders of world production and the maintainers of the "secrets" of successful social organization, we also endanger the development of the whole world.
< http://cepa.newschool.edu/het/profiles/say.htm >
< http://www.mises.org/JEAN-BAPTISTE.asp >
http://socserv2.socsci.mcmaster.ca/~econ/ugcm/3ll3/say/letter.html
< http://www.econlib.org/library/Enc/bios/Say.html >
< http://www.econlib.org/library/Say/sayTtoc.html >