Does New Keynesian Theory Confirm Marx?

by Jehu

JohnCochraneAn interesting confirmation of labor theory is apparently buried in New Keynesian theory, according to John Cochrane in a recent post to his blog, The Grumpy Economist, “All state spending is wasteful”.

But, before you dismiss this as just the typical ideology-driven nonsense spewed by a neoliberal enemy of fascist state social spending, take a moment to hear Cochrane out:

“While fiddling with a recent paper, “The New-Keynesian Liquidity Trap” (blog post), a simple insight dawned on me on the utter and fundamental difference between New-Keynesian and Old-Keynesian models of stimulus.”

That fundamental difference, according to Cochrane, is that the “old” Keynesian model assumes that as income increases so does consumption:

“This model captures a satisfying story. More government spending, even if on completely useless projects, “puts money in people’s pockets.” Those people in turn go out and spend, providing more income for others, who go out and spend, and so on. We pull ourselves up by our bootstraps. Saving is the enemy, as it lowers the marginal propensity to consume and reduces this multiplier.”

While, in the “new” Keynesian model no amount of fascist state spending can increase consumption:

“The marginal propensity to consume is exactly and precisely zero in the new-Keynesian model. There is no income at all on the right hand side. Why? By holding expected future consumption constant, i.e. by assuming the  economy reverts to trend and no more, there is no such thing as a permanent increase in consumption.”

Cochrane’s insight into New Keynesian thinking is that no amount of fascist state spending can increase consumption. Fascist state spending only shifts future consumption to the present, as people spend now to avoid depreciation of their currency tomorrow.

Why would I suggest this argument about new Keynesian theory confirms labor theory?

Well, for one thing this is exactly the conclusion the labor theorist Gugliemo Carchedi reached in his essay, “Could Keynes end the slump? Introducing the Marxist multiplier”:

“The thesis that state-induced redistribution and investment policies, possibly through state borrowing, could start a sustained recovery, provided the scale is sufficiently large, is not only theoretically invalid (see above) but also empirically unsubstantiated.”

For another thing, labor theory argues that, at a certain point in the development of the mode of production, further investment produces no more surplus value. Karl Marx labeled this point “absolute over accumulation” or “absolute overproduction of capital” and he defined that point this way:

“There would be absolute over-production of capital as soon as additional capital for purposes of capitalist production = 0. The purpose of capitalist production, however, is self-expansion of capital, i.e., appropriation of surplus-labour, production of surplus-value, of profit. As soon as capital would, therefore, have grown in such a ratio to the labouring population that neither the absolute working-time supplied by this population, nor the relative surplus working-time, could be expanded any further (this last would not be feasible at any rate in the case when the demand for labour were so strong that there were a tendency for wages to rise); at a point, therefore, when the increased capital produced just as much, or even less, surplus-value than it did before its increase, there would be absolute over-production of capital; i.e., the increased capital C + ΔC would produce no more, or even less, profit than capital C before its expansion by ΔC. In both cases there would be a steep and sudden fall in the general rate of profit, but this time due to a change in the composition of capital not caused by the development of the productive forces, but rather by a rise in the money-value of the variable capital (because of increased wages) and the corresponding reduction in the proportion of surplus-labour to necessary labour.”

According to Marx then, at some point no additional investment would produce an additional surplus value. One hundred seventy years later, the New Keynesian model essentially implicitly demonstrates Marx was correct in his prediction.

Actually, Cochrane is being very unfair to Keynes and his model in this article. Keynes himself thought his policy was, at best, useful only for about fifteen years following the war, as the world rebuilt from the devastation of World War II. After that point, Keynes argued, additional investment would not be productive and efforts had to be made to discourage savings. The most effective way to discourage savings, he thought, would be to discourage work by reducing hours of labor. This portion of Keynes’ argument was deleted by mid-century economists like the fascist economist Samuelson.

However, the idea fascist state spending can increase the material well-being of society is a strongly defended view that will not go down easily. It certainly will not be dismissed based on the argument of a long time Chicago school opponent like Cochrane. Indeed, the naysayers will be correct in one sense: the limit encountered here is a limit strictly imposed on the production of value, not the production of material wealth itself. The barrier encountered theoretically in New Keynesian theory is a barrier imposed on a mode of production founded on exchange value; however beyond the narrow confines of this mode of production, there is no limit on the production of material wealth save the wants of the social producers themselves.

But Cochrane’s argument has another implication he clearly does not yet grasp: Yes, it is true that no amount of fascist state spending will increase the total volume of output and, therefore, surplus value. But it is also true that the production of surplus value depends in growing measure on fascist state spending. As events in southern Europe show, any attempt to reduce fascist state spending must reduce output by a still larger proportion.

The IMF admitted as much in a sensational report in the fall of 2012:

“IMF staff reports, suggest that fiscal multipliers used in the forecasting process are about 0.5. our results indicate that multipliers have actually been in the 0.9 to 1.7 range since the Great Recession. This finding is consistent with research suggesting that in today’s environment of substantial economic slack, monetary policy constrained by the zero lower bound, and synchronized fiscal adjustment across numerous economies, multipliers may be well above 1.”

The shocking IMF report suggests there is as much as $1.70 in lost output for every $1.00 reduction of fascist state spending. It turns out that if state spending is entirely wasteful, this waste is absolutely necessary from the standpoint of the mode of production. Cochrane thinks he has made an argument against state spending, when, from the standpoint of economics, he has shown why it is essential:

“totally wasted government spending can raise consumption and hence output, but by a radically different mechanism.  Government spending raises inflation π . (How is not important here, that’s in the Phillips curve.) Holding nominal interest rates i fixed, either at the zero bound or with Fed cooperation, more inflation π means lower real interest rates. It induces consumers to spend their money today rather than in the future, before that money loses value.”

The mechanism by which output is raised is by increasing inflation, i.e., depreciating the purchasing power of currency. By creating inflation via state spending, the population is forced to bring forward its income to maintain its standard of living. The problem, of course, is that most of the population do not have any savings to dip into. The only way they can bring forward their income is by going into debt — as occurred during the 1990s and early 2000s. Another portion has savings, but these savings are rapidly depleted to keep up with steadily rising inflation. Once the capacity to service new consumer debt is exhausted, the Ponzi scheme collapses.

At this point, the fascist state must step in as borrower of last resort if the mode of production is to continue.

The above argument suggests the 2008 crash was not, by any means, a run of the mill post-war recession; nor was it a mere, even if extremely severe, financial crisis, as many in the underconsumptionist school argue; nor was it even a crisis of the sort described by the FROP school, in which the devaluation of capital lays the basis for another round of expansion of the mode of production.

In this crash, fascist state economic management itself collapsed and is likely not to be resurrected.