Below is appended the text of Douglas's reply to Hobson that Wally just linked us to in PDF format, preceded by the essay (or something very similar) from Hobson to which Douglas is replying that I picked up from the Internet. Quite stark is the difference in philosophical perspective between Hobson and Douglas. Hobson attributes the problem to the failure of individuals to spend their income on consumables fast enough (a presumption that Keynes greatly admired), whereas Douglas sees the problem as a defective system of credit that is amenable to what is in effect macroeconomic accounting adjustment rather than sanctions upon individuals: "Mr. Hobson implies that a change in the nature of the steam which provides the motive force is required; I suggest that the valve gear wants re-designing."
Question for Wally. When were Hobson's essay and Douglas's reply published? I gather somewhere between 1923 and 24.
Quite interesting is Douglas's answer to this contention by Hobson: "Now the fallacy of this argument [meaning Douglas's argument] might, I think, be apparent from the preposterous nature of the assertion that only a few per cent, of the price value is available as effective demand."
Perhaps we will discuss what Douglas meant by this in the light of what he clarifies here.
Several of Douglas's points are definitely very modern and sophisticated, such as this, which is a premise of Post Keynesianism: "The wealth of a community is increased by spending, not by saving..."
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The Economics of Unemployment by J. A. Hobson Ch. VIII pp. 119-127
THE DOUGLAS THEORY
It was inevitable that at a time like this, when the disturbances of financial machinery are so grave and so widespread, there should spring up schools of thought which find in the defects of out credit system a complete explanation of the industrial collapse. The most noteworthy of these schools is founded on the writings of Major Douglas. With a part of his diagnosis of the present trouble I find myself in cordial agreement. I agree with him in attributing trade depression to the failure of consumption, or effective demand, to keep pace with potential and actual production. The full product cannot be produced because, if produced, it could not be marketed at the price required under our actual system to make production profitable.
But Major Douglas and his followers give a different explanation of the failure of this effective demand from that which I should give. I trace this failure, not to any lack of the monetary power to purchase all the commodities that could be produced, but to the refusal of those in possession of this power of purchase to apply enough of it in buying consumables, because they prefer to apply it to buying non-consumables, in other words, to buying capital goods. According to the Douglas theory, however, as I understand it, it is economically impossible for all the commodities that could be produced to get sold, because the income to buy them all does not exist. Indeed, it goes still further, by insisting not merely that potential production is curbed by this deficiency of purchasing power, but that the market for part of the actual products is deficient for the same cause.
The least unintelligible summary of the doctrine in Major Douglas's own writings run as follows:
* Price cannot normally be less than cost plus profit.
* Cost includes all expenditure on product
* Therefore cost involves all expenditure on consumption (food, clothes, housing, etc.) paid for out of the wages, salaries or dividends, as well as all expenditure on factory accounts, also representing previous consumption.
* Since it includes this expenditure, the portion of the cost represented by this expenditure has already been paid by the recipients of wages, salaries and dividends.
* These represent the community; therefore the only distribution of real purchasing power in respect of production over a unit period of time is the surplus wages, salaries and dividends available after all subsistence, expenditure and cost of materials consumed has been deducted. The surplus production, however, includes all this expenditure in cost, and consequently in price. * The only effective demand of the consumer, therefore, is a few percent of the price value of commodities, and is cash credit. The remainder of the home effective demand is loan credit, which is controlled by the banker, the financier, and the industrialist, in the interest of production with a financial objective, not in the interest of the ultimate consumer.
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Now here the central charge is that only a small fraction of the money representing costs of production and gathered into sale-price is available for purchasing goods, and it is implied, though not explicitly stated, that no other sufficient power of purchase is available. Costs are, it appears, not available as purchase money for two widely different reasons. The money represented in wages, salaries and dividends, paid to the producers of these goods for producing them, have for the most part been spent already by their recipients in purchases for current consumption, before the goods, into whose costs they entered, had reached the retail stores. Only such small fraction of these 'costs,' as has been withheld from current expenditure, is available for purchase of these goods.
The other sort of 'costs.' viz. expenditure on factory account, overhead charges, purchase of raw materials, etc., is not available for another reason. It represents bank credit, advances made by bankers to manufacturers and merchants out of a body of banking credit available only for this work of financing trade, and not for the ultimate purchase of the goods produced. Thus, Major Douglas reaches his conclusion that "the only effective demand of the consumer is a few percent of the price value of commodities."
Now the first most obvious comment on this analysis is that it proves too much. If it were true that only "a few percent" of the cost were available for purchases, the entire economic system must speedily be brought almost to a standstill. The recent 20 percent of industrial unemployment would be a trifle compared with the situation here envisaged.
But it is quite evident that the effective demand of consumers is not confined to the unspent portion of the money producers have received for producing these particular goods. In the very propositions setting out his case, Major Douglas exposes the nature of his error, for he gives as the reason why the bulk of wages, salaries and dividends are not available for purchasing the final goods that they have already been spent upon goods previously produced. And this, of course, is the habitual course of trade. The money available for bringing the commodities which each week flow into the retail stores, to replace those sold last week, is not the money paid for producing these commodities, but that paid for the various processes just performed for producing the commodities that will reach the retail stores next week or next month. Effective demand for commodities proceeds from the wages, salaries and dividends quite recently paid to the producers of these
commodities for making their successors. Unless a slump in trade, prices and employment, has intervened (which is not Major Douglas' contention), there is therefore, no reason why the effective demand of consumers should be insufficient to purchase all the goods produced at a price covering all their costs of production.
But what about the costs which are incurred, not as wages salaries, and dividends, but "on factory account, overhead charges, purchase for raw materials, etc."? These elements in the final prices are not, it is contended, available as effective demand for those commodities or for any other! Why not? What is the difference between the availability for purchasing commodities of the wages paid to workers in a shoe factory and those paid in a factory for making shoe machinery, to replace the machines gradually worn out in the shoe factory? So with all the other money paid in overhead charges, raw material, etc. There is no difference in the availability of these costs and the other costs, as effective demand commodities.
Misunderstanding sometimes arises from the tendency to visualize productive efforts as directed to three ends, the production of commodities, work of repair and replacement of capital goods, production of more capital goods. How when production is properly realized, not as a single act or set of acts, but as a continuous process, the second of these ends (repair and replacement) simply disappears, i.e. is swallowed up in production of commodities, and the payments made on its behalf are available as effective demand for commodities, though not of the particular series of commodities into which they entered as costs.
Perhaps this is best realized by visualizing production as a constant rapid flow of raw materials from the extractive process of agriculture, mining, etc., though various stages of transport, manufacturers and distribution, assisted at the several stages by plant, fuel and other capital goods which flow as tributaries into the main stream, being worked up into the final commodities and forming costs of production on a par with the other costs, wages, salaries and interest, in the main slow of production. The net income of the commodity will consist of wages, salaries and interest paid in all these productive processes, whether conducted on the main stream or along the tributaries. All this income is available for effective demand of commodities. Sometimes it is so applied; but in that case no saving, or creation of new capital goods, takes place. Normally, however, some of the net income paid to producers for productive effort is not expended upon
consumable commodities, but upon the purchase of new capital goods (i.e. it is saved and invested). But this does not in the least imply that some of the commodities produced cannot get purchased, because the money which might have bought them has been saved. So far as this saving is a normal, calculable process, it means that part of the productive process will be devoted, not to making consumable goods, but to making more capital goods that will be purchased and owned by the savers.
That income which is saved is spent in buying (i.e. paying people to make) a larger quantity of capital goods, materials, semi-manufactured goods, machines, fuel, etc., with a view to turning out an increased quantity of commodities at some future time.
I hold that the trouble comes from an under-consumption, or an over-saving, an attempt to save and utilized for future production a larger proportion of the aggregate income than can be saved and utilized. This disproportion between saving and spending I attribute to the unequal distribution of income, which leads to a large amount of automatic accumulation and investment of unearned excessive wealth. The futile attempt of these idle savings to find a remunerative use in the economic system clogs that system and congests it, causing those periodic gluts and stoppages which economists disguise or decorate under the title 'cyclical depressions.'
But this is a very different explanation from that adopted by Major Douglas.
But to treat the Douglas theory without any reference to bank credit would be to leave Hamlet out of the play. For it often appears as if the main source to trouble lay in the fact that bankers had to receive from the sale of goods the advances which they made to finance their production, and that, as these sums were not available for purchasing the goods, there was a huge deficiency of consuming power. Bank credits are advanced to business men at various stages of production and are used by them to pay wages, salaries, etc., and to purchase raw materials and machinery. Are not these payments costs of production? "If these have not gone into costs, where have they gone?" says Major Douglas.(1)
My answer is that if by 'these' be meant the advances made by the banks for financing productive operations, they do not go into costs. Only the price paid by the manufacturer or merchant to the banker for these advances goes into costs, i.e. the interest on the bank advance. I grant that if a particular business transaction, a single bank advance, be artificially severed from the continuous process to which it belongs, it may be made to appear that, as the manufacturer must repay this loan out of the only available fund, viz. The money paid him by the merchant for the goods, this money must be got out of the sale price of the goods, so figuring as a cost of their production. But business is not conducted in this way. The manufacturer engaged in a line of business is not required to, and does not repay the banker the sum of his advance out of the money he receives for the goods. He only pays the interest. The banker makes a continuous advance of a
certain amount, receiving periodically from his client the price of this advance. Out of this interest, the banker pays wages, salaries and dividend in the banking business. These incomes, distributed in the banking business, are precisely on a par with the other incomes which figure in the factory, warehouse or shop as costs of production, and are available precisely in the same way as purchasing power to buy the goods produced.
This represents the normal play of industry and of finance. If it were true that the body of the bank advance formed a cost of production, and had to be repaid out of the prices received for the goods, the whole trade would stop with a jerk. Something like this actually happens when bankers get frightened and call in their money, refusing further advances. Here is the element of truth in the criticism of trade financing by banks. They wield a dangerous power of stopping suddenly what has grown to be a normal and a necessary method of conducting business. The result of this abnormal action of banks in calling in and constricting credit is to stop trade and cause unemployment and under-production. Such a result may, if we like, be said to be due to the necessity under which traders are placed of repaying bank advances out of the proceeds of their sales, diverting to this purpose the money which normally they could and would have used to pay wages,
salaries, etc., for producing more goods. Under such abnormal circumstances alone can it be represented that the body of a bank loan, not the interest, forms a cost of production. It is not true of the normal play of manufacture and commerce.
1. Socialist Review, March, 1922
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The DOUGLAS THEORY
A Reply to Mr. J. A. HOBSON
By Major C. H. DOUGLAS
In dealing with Mr. J. A. Hobson's criticism of my theories on Credit, it seems desirable to follow the order which he himself employs.
This order is:—
(1) The general implication of the theory.
(2) An examination of certain details of the analysis.
(3) A "destructive" criticism of the remedial proposals based on (2).
(1) It is to be noted that, as might be expected from a critic [possessing Mr. Hobson's qualifications], there is no disagreement with my statement that the root factor in the whole industrial crisis and problem is lack of effective demand.
But at this point the fundamental divergence begins. In his own explanation of the acknowledged fact, he says, "I trace this failure, not to any lack of the monetary power to purchase all the commodities that could be produced, but to the refusal of those in possession of this power of purchase to apply enough of it in buying consumables, *because they prefer to apply it in buying non-consumables, in other words, to buying capital goods.*" (My italics.)
This represents a radical cleavage, the static versus dynamic cleavage of attack on the problem. Mr. Hobson regards it as an explanation; I would present it to him as a fact arising out of a defective credit system.
Considered as an explanation, it carries the implication that it "ought" not to be so, that improvement demands its elimination; it leads to the assumption that, e.g., the financial system is reasonably blameless, and only man is vile. That, again, leads to the conclusion that all our troubles are due to a bad Governmental and administrative personnel, and if only Mr. Clynes in Parliament, and Mr. Thomas on the railways could be put into power, all would be well.
Considered as a fact, it is one of the many premises of which to take cognisance in suggesting methods by which to achieve the greatest enhancement of opportunity of the greatest number. In other words, both Mr. Hobson and I see a world whose financial mechanism is failing to deliver the goods. Mr. Hobson implies that a change in the nature of the steam which provides the motive force is required; I suggest that the valve gear wants re-designing. Both theories are conceivably tenable; it is a matter for personal judgment as to which line of action is likely to produce the earlier result.
(2) (a) "the central charge is that a large part of the money representing the cost of production, and helping to swell the selling prices, is not available to buy the articles produced. . . . etc."
(b) "The second and more fundamental reason is that large advances of bank credit are utilised by manufacturers and enter into the prices of the final product . . . ."
Mr. Hobson says in regard to (2) (a): "Now the fallacy of this argument might, I think, be apparent from the preposterous nature of the assertion that only a few per cent, of the price value is available as effective demand"; and in regard to (2) (b): "In point of fact, it is not true that the bank advances, by which the business men at the various processes financed their trade, are costs which enter final prices."
In regard to objection (2) (a), it is a simple statement of fact to say that as the majority of the working population are wage earners, paid weekly, and spending within a few per cent, of the whole of their week's wages in the current week, it is a physical impossibility for the wages of the current week to buy the production of the current week; it is not in the market to buy. It probably will not come into the market, on the average, for at least six months. They are buying the production, or part of the production, of a fairly long past week, by drawing on the purchasing power which goes to make up the costs of an unspecified quantity and variety of goods which will be delivered sometime in the future. To reiterate categorically, the theorem criticised by Mr. Hobson: the wages, salaries and dividends distributed during a given period do not, and cannot, buy the production of that period; that production can only be bought, i.e., distributed, under
present conditions by a draft, and an increasing draft, on the purchasing power distributed in respect of future production, and this latter is mainly and increasingly derived from financial credit created by the banks.
But further, because the general level of prices above cost is equal to money/goods, these drafts on future production still further raise present prices, hence general increased production under present conditions means either rising prices (instead of falling prices) or unemployment and failure of distribution. Prices cannot fall below cost plus a minimum profit, under present conditions, since profit forms the inducement to produce.
To put it another way, the rate at which money can be spent this week does not depend at all on the goods which can be, and are, supplied this week, and is not part of the cost of the goods which can be supplied this week. An increase in the money paid this week is identical with any other form of money inflation under present circumstances—it widens effective demand, stimulates production, and raises prices. The real price paid for the *consumable goods* bought this week is approximately a week's production of both capital and consumable goods (including exports) to be supplied at some future, and increasingly future, date, and there is nothing in the arrangement which guarantees that a larger amount of consumable goods per head can be bought in the future as a result of a larger amount of money distributed this week, *vide* the war period.
Now I do not suppose that Mr. Hobson will, on consideration, question these statements, but it is quite clear that he does not appreciate their importance. He does not appear to see that it results in the whole production of the country, both tangible and intangible, whatever its magnitude and however strenuous the conditions under which it is produced, being paid for by the concrete consumption of the country over the same period of time, and that there is no direct relation (although there is a most important indirect relation) between these two. Fundamentally, under the present financial arrangements, the price paid for anything is what it will fetch; and the price paid in purchasing power to the community as a whole, by the financial system as a whole, for its co-operation in production does not depend primarily on the production or the productive capacity at all—it depends on what purchasing power the individuals who form the community will
accept, i.e., how much money they can acquire *and* what prices they will agree to pay, for that part of the production they want to buy. The community of individuals unquestionably sets a very low price on its co-operation, i.e., it will agree to a very unfavourable ratio of money to prices, a price which does not give it purchasing power over more than a fraction of total production.
(2) (b). I do not understand what Mr. Hobson means by this. He himself explains in his next paragraph that bank credits are used by manufacturers "to pay wages, salaries and dividends to producers of raw materials, plant, etc." If these have not gone into costs, where have they gone?
I do see clearly, however, that again the purely static conception of the question has evoked his comment, as evidenced in the tenses used in the paragraph to which reference has last been made. There is implicit in his argument the idea that a bank only lends its own and its customers' money. A bank lends new money; to quote Sir Edward Holden, the late Managing Director of the London City and Midland Bank—"Bank loans create bank deposits." Space will not allow of the treatment of this most important question, and there is already a considerable literature on the subject. The rise in the figures of total bank deposits during the past twenty years proves the dynamic theory up to the hilt, if any proof is needed. I suppose Mr. Hobson would not contend that it does not matter from where, in its cycle of revolution, money originates, for if he does so contend, I shall at once demand his assistance in setting up a bank-note factory!
At this point it may be convenient to deal with what, in effect, is Mr. Hobson's definition of credit. It is so important that it seems desirable to quote it in full. He says, ". . . Credit can only work by reason of the prior production of a surplus stock of food, clothing, etc., reserved from consumption by those who owned it and might have consumed it but preferred to 'save' it and to make a store which could enable these more lengthy processes of production to be financed and rendered economically possible. The credit furnished by bankers draws on this stock of savings. The bankers do not, indeed, themselves own these stocks of real savings; they get them mostly from depositors and lend them out as 'credits,' taking as their charge for the utility of this service the difference between the interest paid to them by their customers and that paid by them to their depositors."
Unfortunately, like so many of these "simple," "intelligible" (i.e., familiar) "explanations of the part played by bank credit in financing trade" it is not, I think, even approximately correct. If it were, I should agree that ''it furnishes no support to the Douglas Theory."
So far as Mr. Hobson's own explanation is concerned, a moment's consideration will show that a bank loan does not form a draft on the specific goods in the possession of the bank's depositors; it simply acts., during the second portion of its cycle, in which it is being returned to the banks through the medium of prices, as a diluent of existing claims on goods, belonging to the community as a whole and not to the bank's depositors in particular. Bank money will buy any goods, not merely the goods the bank's depositors are alleged to have "saved."
But it is much more important to realise what part credit does play, than what it is not.
A banker lends credit, which is not his, but public property, because he expects to get something; in his case, interest. An employer, in his turn, lends the credit (wages, salaries) because he expects to get something, production, from which he will get profits. The individual consents to work for money, which derives from credit, because he expects to get goods, which to him are profits. So far from the modern large-scale credit system resting solely on a basis of "savings," as Mr. Hobson would suggest—on something done in the past—it rests more and more on a correct estimate of something to be delivered in the future. "Faith (belief, credit) is the substance of things hoped for, the evidence of things not seen." That is a succinct statement of the part played by credit in the psychology of production.
The conception advanced by Mr. Hobson is, of course, exactly that which the banker would like the public to accept, and which, no doubt, quite a large number of the rank and file of bankers themselves take for granted. It suggests that banking is simply a private pawnbroking transaction between borrower and lender. This is, unfortunately, not true. The question of collateral security, which may or may not be present, is quite immaterial; every credit transaction definitely affects the interests of every person in the credit area concerned, either through the agency of prices, or by the diversion of the energies available for production purposes. Incidentally, this is not an argument for nationalised banking, which, like all "nationalisation," is an administrative measure, it is an argument for socialised credit.
Mr. Hobson's criticisms of the concrete proposal put forward in 1919 in the Draft Scheme for the Mining Industry really rest on his conception of the real basis of credit.
He says, "...such a Producers' Bank might work...if (the prime essential) enough of the money paid it were left for a considerable time undrawn." This is exactly the same argument as that employed by those tragically mistaken persons who said that the First World War could not last three months as no country had the money for a lengthier period. The war lasted more than four years; and in 1918 every country, except, possibly, Russia, which had destroyed the operation of credit, had more money, and, what is much more important, more productive capacity, than when it began. The "prime essential" of the workability of a bank founded on the Mining Industry is not what "savings" it can hold; it is that those connected with it are able to affect, by affecting co-operation, "the correct estimate of something to be delivered in the future," which the community desires, e.g., coal. The question of the "money" in the bank is a mechanical question, just as the
provision of more currency to finance war production was a mechanical question, solved, even if badly solved, in seven days. I do not say that the problem is a trivial one; it is not. But it is in no sense fundamental.
In other words, the real essential basis of credit is not money; it is the capacity to *deliver* (not merely to produce) goods and services; which involves the agreement to co-operate of the whole community.
In regard to the last paragraph of Mr. Hobson's article, the answer is substantially that "the whole market price" paid by the existing banks for their use of public credit is simply a very small part of the purchasing power value of that credit. The proposed banks use their whole credit power for the benefit of their depositors.
There is no incentive to thrift provided by the Scheme for the simple reason that, in my opinion, monetary thrift is a wholly ineffective method of achieving the economic security at which, presumably, it aims. The wealth of a community is increased by spending, not by saving—an apparent paradox with which on consideration I feel sure Mr. Hobson will agree. What is true of the community would be true of the individual if the results of his spending accrued to him, which at present they do not.
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--- On Sat, 8/16/08, Wallace Klinck <
wmklinck@shaw.ca> wrote:
Date: Saturday, August 16, 2008, 4:06 AM
Dear All,
Here is another Website listing Social Credit literature
which Jim
Schroeder brought to my attention and which you may wish to
explore. http://openlibrary.org/b/OL13521008M
Sincerely
Wally
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