Contributions to Political Economy (1990) 9,69-32

NOTES ON SAY'S LAW, CLASSICALECONOMICS AND THE THEORY OF

EFFECTIVE DEMAND*

GARY MONGIOVI

St. John's University

Recent literature has suggested that a union of Keynes' theory of effective demandwith the classical theory of value and distribution might be analytically fruitful. TheCambridge critique of orthodox capital theory, it is argued, has removed the logicalfoundation for the neoclassical synthesis, thereby opening the way to a resuscitationof the theory of effective demand; while Keynes' theory, deprived by the capitalcontroversy of its Marshallian underpinnings, can be provided with a logicallysound classical approach to price formation and distribution. The classical system,for its part, would benefit by gaining a theory which can make a contribution towardthe explanation of outputs. (See, for example, Garegnani, 1978-79; Eatwell, 1979;Milgate, 1982; Kurz, 1985.)

My purpose in this paper is not to discuss the validity of diese claims, which Ithink are fundamentally sound. I wish instead to focus on an issue which might beproblematic to the joining of Keynesian and classical analytics: Say's Law is evi-dently incompatible with the theory of effective demand, and yet it is typicallypresumed to be a key element in the classical system; how then may Keynes and theclassicals be linked? This question has previously been addressed by Garegnani(1978-79), Kenway (1980), Green (1982) and Milgate (1982); the present contri-bution is an attempt to develop some of the issues raised by these authors. In whatfollows, it is argued that the classicals adopted Say's Law to compensate for theirlack of a theory of output; and that there is nothing in the logic of classical analysiswhich justifies the attachment of its early expositors to Say's Law.

It is by now well known that the classicals treated the size and composition of thesocial product as parametric in their explanation of prices. The latter are regulated,in the long run, by the technical conditions of production and the exogenouslydetermined real wage (or, in Sraffa's (1960) formulation, the profit rate). The pro-cess by which market prices are brought into line with prices of production (i.e. theprocess by which a uniform profit rate is established throughout the economy),

*I am grateful to Cigdem Kurdas, Heinz Kurz and the editors of this journal for their helpfulcomments on an earlier draft of this paper.

0277-5921/90/010069+ 14 803.00/0 © 1990 Academic Press Limited

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necessarily brings the composition of output into line with the pattern of demand.But the forces which shape final demand were recognised to lack 'known propertiesof sufficient generality and [permanence]' to support a formally exact treatmentcomparable to that which characterises the explanation of price (Garegnani, 1984,pp. 298-299). The pattern of final demand was presumed to depend upon thedegree of development of the economic system, the distribution of income, and thehabits and customs of the populace. It was further recognised that in order for anyvector of outputs, and the associated level of employment, to persist as componentsof a long-period position, expenditure must be sufficient to absorb the value ofaggregate output. The question of precisely how total expenditure and the value ofoutput would adjust toward equality was an issue which had to be engaged andultimately resolved. Resolution was, for most classical writers, accomplished bymeans of Say's Law of markets.

SMITH, RICARDO AND MALTHUS

For our purposes, Say's Law may be reduced to two fundamental propositions: (1)Any act of production gives rise to an amount of income just sufficient to purchasethe output of that productive act; this proposition is not controversial, and is infact reflected in the national income accounting convention which defines nationalincome so as to ensure that it is identically equal to national product net ofdepreciation. (2) The desired level of aggregate spending will tend to accommodateitself to whatever level of output the economy happens to produce; that is, produc-tion of a particular level of output calls forth an equivalent level of aggregatedemand. The validity of this second proposition is by no means evident.

A spurious distinction is sometimes drawn between Say's Equality and Say'sIdentity (cf. Lange, 1942; Baumol and Becker, 1952; Baumol 1977; Green, 19821).The latter concept cannot be found in the classical literature; not even the staunchestopponents of the idea of the possibility of general gluts believed that an act of savingis identical to an act of investment. Rather, it was held that there is an unfailingtendency for that portion of purchasing power which does not express itself inconsumption demand, to manifest itself, rapidly and in its entirety, in a compen-sating demand for investment goods. Thus, aggregate demand tends inevitably tokeep pace with aggregate supply, though the two magnitudes need not be identi-cally equal at every moment in time (Caminati, 1981, pp. 81-22; Hollander, 1979,pp. 512-513).

In his chapter on accumulation, Adam Smith (1776, Book II, chapter III) makessome observations which anticipate the doctrine later laid down by Say in the Traite(1821). Smith's main purpose in this chapter was to argue that saving (or frugality,

1 Green (1982, p. 62) adopts the distinction in order to underscore the fact that the classicals did notjustify Say's Law by means of interest rate adjustments in the capital market. However, as we shall seebelow, this point can be made without attributing to the classicals the extreme view that saving is at everymoment identically equal to investment.

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as he calls it) is conducive to — and is indeed a precondition for—economic expan-sion. To make this point he had to refute the widely accepted belief, associated withthe writings of Mandeville, that productive activity cannot be maintained withoutthe support of unproductive consumption; he needed also to identify the mechan-ism by which saving gives encouragement to growth. These tasks are simultaneouslyaccomplished (albeit by assertion) in the space of a few paragraphs:Whatever a person saves from his revenue he adds to his capital, and either employs it him-self in maintaining an additional number of productive hands, or enables some other personto do so by lending it to him for an interest, that is, for a share of the profits . . . What isannually saved is as regularly consumed as what is annually spent,... but it is consumed by adifferent set of people. That portion of his revenue which a rich man annually spends, is inmost cases consumed by idle guests and menial servants, who leave nothing behind them inreturn for their consumption. That portion which he annually saves, as for the sake of profitit is immediately employed as a capital, is consumed in the same manner,.. .but by.. .labourers,manufacturers, and artificers, who re-produce with a profit their annual consumption (Smith,1776, Book I, p. 321).

The implication appears to be diat the whole of the social product, whatever itsmagnitude, will be absorbed by the economy's spending.

But Smith's discussion of the behaviour of the profit rate as accumulation pro-ceeds suggests that his understanding of the market process is not fully compatiblewith Say's Law. He argues diatAs capitals increase in any country, the profits which can be made by employing them necess-arily diminish. It becomes gradually more and more difficult to find within the country aprofitable method of employing any new capital. There arises in consequence a competition[for markets] between different capitals [which drives down prices and hence profit rates](Smith, 1776, Book I, p. 336).

These remarks are inconsistent with Smith's earlier contention that aggregateexpenditure accommodates itself to aggregate income; for if all of current income(output) is consumed — in the form of wage goods, luxury goods or capital goods —the profitability of capital cannot be limited in the aggregate by insufficientaggregate demand. Smith's logical slip indicates that his theoretical system cannotunambiguously be said to contain the proposition that production generates anamount of demand sufficient to absorb the whole of what has been produced.

Smith did not directly draw the conclusion that as competition for markets reducesprofitability, the rate of accumulation drops off. Malthus did make this argument,and the debate between Ricardo and Malthus on this issue throws some light on thefunction performed by Say's Law in the classical system.

Ricardo's deployment of Say's Law was directed at two related errors in Malthus'thinking (Tucker, 1960, pp. 90-92; Milgate, 1982, pp. 48-54). First, Malthus'hypothesis that too rapid a 'conversion of revenues into capital... must, by diminish-ing the effectual demand for produce, throw the labouring classes out of employment. . . [and lead to] a marked depression of wealth', implicitly rests upon the suppositionthat the profit rate is governed by competition for markets among capitals (Malthus,1820, p. 369). The process of capital accumulation is presumed to be characterised

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by a tendency for output to exceed desired aggregate expenditure — this becauseexcessive parsimony on the part of capitalists inhibits the necessary expansion ofmarkets. As a result, prices are forced down, profits are reduced, 'and the motive tofurther accumulation [is] checked' (Malthus, 1820, p. 463). This scenario, as Milgate(1982, p. 50) observes, is nothing but an amplification of Smith's position on thedetermination of profits. Malthus, of course, went beyond Smith's analysis to discussthe implications of declining profitability for the continuation of capitalist expansion;and he reasoned further that the consumption expenditures of unproductive classesmight act as a palliative to the system's self-destructive tendencies. But the two menheld substantially the same views on how profits are determined.

Ricardo argued that the results obtained by Smith and Malthus regarding therelation between the profit rate and accumulation follow from a defective theory ofprofits. His own theory maintains that, given the amount of land brought into pro-ductive use (or, what is the same thing, given rents), then 'no accumulation ofcapital will permanently lower profits, unless there be some permanent cause for therise of wages' (Ricardo, 1821, p. 289). Profits are a residual which cannot changeunless wages (or rents) change. (It is true that in Ricardo's model profits decline ascapitalism develops through history; however, this occurs not because increasingcompetition among capitals drives prices down, but because more extensive use ofland drives rents up.)

To demonstrate the superiority of his own position Ricardo had to argue that theprofit theory of Smith and Malthus was somehow flawed, and he made use of Say'sLaw to accomplish this:M. Say has . . . satisfactorily shown, that there is no amount of capital which may not beemployed in a country, because demand is only limited by production. . . . [Hence] therecannot . . . be accumulated in a country any amount of capital which cannot be employedproductively. .. (1821, p. 290).

Ricardo sought to refute the Smith-Malthus contention that competition amongstcapitals can cause a permanent reduction in the profit rate. Say's Law rules outmarket limits to growth, and cleared the way for Ricardo's claim that the onlylimit to accumulation is that posed by the declining productivity of land, which bypushing rents up squeezes profits out.

A key element of the accumulation theory put forth by Malthus is the idea that itis possible for a market economy to experience a universal glut of commodities, bywhich he meant a situation in which the amount of aggregate expenditure falls shortof the value of total output. Ricardo found in this assertion a second opportunity forthe application of Say's Law. Ricardo maintained against Malthus that while anoversupply might occur in one or more individual markets, it could not be generalthroughout the economy: if more of some commodities had been produced thancould be sold, then there must have been too little produced of some other good(s)(1821, p. 292). This proposition follows directly and necessarily from the classicalpostulate that a decision to save is always (if not quite simultaneously) matched bya decision to invest. Throughout the classical literature, a decision to save is

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presumed to entail a decision to add to one's capital stock; the portion of nationalincome not spent on consumption goods is by assumption used to expand theeconomy's productive capacity, so that aggregate demand is almost instantaneouslymade equal to the value of output.

In an early essay 'On the Influence of Consumption on Production' (1844), JohnStuart Mill summed up the classical position:.. .[I]t was triumphantly established by political economists that consumption never needsencouragement. All which is produced is already consumed, either for the purpose ofreproduction or of enjoyment....

Where there is [production], we may be sure there is no lack of [consumption]. . . . Therewill never . . . be a greater quantity produced, of commodities in general, than there areconsumers for (1844, pp. 48-49).

There can never . . . be a want of buyers for all commodities. . . . The sellers and buyers, forall commodities taken together must, by the metaphysical necessity of the case be an exactequipoise to each other; and if there be more sellers than buyers for one thing, there must bemore buyers than sellers for another (1844, p. 69).

James Mill (1826, p. 330) had similarly argued that 'demand and supply in theaggregate are always equal.'

We have seen that Adam Smith regarded saving as an act which necessarily givesrise to an equal amount of investment. Malthus too understood saving to represent'the conversion of revenue into capital' (1820, p. 369); in this respect, he was in fullaccord with Ricardo (and indeed with virtually all writers of the period). However,Malthus failed to see that treating investment as an inevitable consequence ofsaving is equivalent to embracing Say's Law.1 If that part of income not spent onconsumption goods represents a demand for investment goods, then total expendi-ture will tend to equal the value of output, and an under-consumption crisis is ruledout. The logic employed by Malthus was conspicuously faulty, and Ricardoemerged as the clear winner in the dispute.2

' Early in his Principles, Malthus (1820, p. 31) paraphrases Adam Smith's observation that whatever is'saved is as regularly consumed as what is annually spent' (Smith, 1776, p. 321). Ricardo, in his notes onMalthus (1951-73, Vol. II, p. 15), remarked that 'This is an important admission from Mr Malthus, andwill be found to be at variance with some of the doctrines which he afterwards maintains.'

2 Costabile and Rowthorn (1985) offer a more sympathetic reading of Malthus, who, they argue, didnot regard investment as an inevitable consequence of saving. If saving happens to exceed investment,producers will be unable to sell all of their output at current prices, and competition will lead to a generalfall in prices. Since money wages are rigid in the short run, falling commodity prices redistribute realincome in favour of workers, who have high propensities to consume, at the expense of capitalists, whotend to save most of their income. Thus, the excess supply of commodities is promptly eliminated by theprice system; but the glut may persist in the sense that the price level remains depressed. And bysuppressing the profit rate, gluts inhibit accumulation, while higher real wages encourage faster popu-lation growth; the ultimate result of these tendencies is that an increasing portion of the populationbecomes redundant.

This interpretation rests upon the contention that for Malthus a decision to save does not entail adecision to invest. Costabile and Rowthorn (1985, p. 423) observe, in support of their argument, thatMalthus distinguished between aggregate expenditure and aggregate income — a distinction whichmakes no sense if saving and investment are identically equal. This begs the question, however;Ricardo's point is precisely that Malthus wishes to argue that saving always gives rise to an equal amountof investment and that deviations between aggregate spending and aggregate income can be persistent.

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The classical position on Say's Law does not, of course, preclude the possibilityof crises altogether. Ricardo's attention was centered almost entirely upon thelong-period positions toward which the economy gravitates, and he had little tosay directly on the subject of short-period, or temporary, interruptions of thegravitational process. Nevertheless, he did recognise that producers might mis-calculate the demands for their commodities, so that too much of some goods andtoo little of others might be supplied; and the supposition that such miscalculationsmight generate crises is not inconsistent with Ricardo's analysis. These disturbances,though, must be seen as transitory,1 and they are clearly not to be associated with ageneral condition of under-consumption or overproduction.

MARX'S CRITIQUE OF SAY'S LAWMarx (1863, Vol. II, pp. 492-543) was sharply critical of Say's Law and ofRicardo's position on the possibility of a general glut. Kenway (1980) provides aninsightful discussion (from which some of the following observations are drawn) ofMarx's critique and its relation to Keynes' theory of output. Capitalist production,Marx begins, is, above all, commodity production — that is, production the ulti-mate purpose of which is not consumption but the appropriation of surplus value.Capital follows a circuit which permits the extraction of surplus value (in the formof profits) to occur; money is an indispensible element in the circuit. The capitalist'spurpose is not to transform commodity capital C into commodity capital C, thoughthis is necessarily a part of what takes place; rather, he aims to transform moneycapital M into an even larger quantity of money capital M'. The process by which asurplus is created and distributed within capitalism requires that money capital betransformed into commodity capital and then be transformed back into money capi-tal, so that money, far from being merely a medium of exchange, is 'an essentialaspect of the commodity' in this process of metamorphosis (Marx, op. cit., p. 502).

It is the system's reliance upon money which makes realisation crises possible.Capitalists wish to complete the circuit M — C . . . P . . . C — M'; but their abilityto do so depends upon the willingness of those from whom diey purchased inputs(raw materials, produced means of production, and labour power) to complete thecircuit C — M — C. Because money is by its nature a store of value, the sequenceC — M need not coincide in time or location with the sequence M — C; i.e. the actof receiving income may be divorced from the act of spending it. If income receiverschoose to withhold too large a portion of their incomes from the expenditurestream, capitalists may be unable to realise the sequence C — M'. There is noreason that this phenomenon should be confined to one or a few sectors, or that ifexcess supply is experienced by an isolated group of industries it will be compen-sated by excess demand in another group. On the contrary, once a realisation prob-lem appears in any part of the economy, it is quickly transmined to the rest of thesystem by the inability of those first hit to meet their obligations to creditors. In this

1 For, in Ricardo's words, 'it is not probable that [a seller] will continually produce a commodity forwhich there is no demand' (1821, p. 290).

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sense a general glut, arising from under-consumption, is indeed possible; and,Marx argues, Ricardo and the classicals are able to minimise the significance ofcrises only by denying that capitalism is by definition a monetary system and that itbehaves in certain ways because of this.

The tone of Marx's rhetoric is harsh; but there is little in the substance ofhis remarksto which the classical writers could have strongly objected. In fact, John Stuart Mill, inthe early paper previously cited, makes an argument which is remarkably similar tothat of Marx; crises are traced to the ability of money to function as a store of value.The difference between exchange by barter and exchange by means of money is

that in the case of barter, the selling and the buying are simultaneously confounded in oneoperation.... Now the effect of the employment of money . . is, that it enables this one act ofinterchange to be divided into two separate acts or operations, one of which may be per-formed now and the other a year from hence, or whenever it should be most convenient....The buying and the selling being now separated, it may very well occur that there may be, atsome given time, a very general inclination to sell with as little delay as possible, accompaniedwith an equally general inclination to defer all purchases as long as possible. This is alwaysactually the case in those periods which are described as periods of general excess (Mill, 1844,p. 70).

In so far as Ricardo made use of Say's Law to deny absolutely the possibility that acrisis might result from conditions of general under-consumption, Marx's critique isvalid. But Mill's anticipation (by 25 years) of the substance of that critique suggeststhat the differences between Marx and the Ricardo regarding Say's Law had less todo with the structural characteristics of their theoretical frameworks — for theframeworks were in most respects structurally identical (cf. Garegnani, 1984) —than with the relative weights they assigned to certain institutional features ofcapitalism (i.e. credit markets and money) as impediments to smooth adjustment.1

In any case, Marx regarded crises as temporary (though inevitably recurring)deviations from a 'normal' position or path which is presumably characterised byfull utilisation of capacity and equality of aggregate supply and aggregate demand:'Permanent crises do not exist' (Marx op. cit., p. 497n).2 Ricardo and James Milllikewise maintained that maladjustments of output, in which some sectors experi-ence excess supplies and others (counterbalancing) excess demands, are transitoryin nature. And John Stuart Mill wrote along similar lines that the 'periods ofgeneral excess' which are made possible by monetary exchange 'can be only tem-porary, and must even be succeeded by a reaction of corresponding violence, sincethose who have sold without buying will certainly buy at last, and there will then bemore buyers than sellers' (1844, p. 71). Malthus alone, of the period's important

1 See, for example, J. S. Mill (1844, p. 56): 'This perpetual non-employment of a large portion ofcapital, is the price we pay for the division of labour. The purchase is worth what it costs; but the price isconsiderable.'

2 Crises, for Marx, can also result from a decline in the profit rate below the minimum level at whichcapitalists find it worthwhile to accumulate. Here the crisis functions as an equilibrating process whichenables the system gradually to attain a profit rate that will induce capitalists to renew their investmentactivity. Though such crises are inevitable, recurring, and of progressively increasing severity, they arealso temporary and self-correcting.

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figures, believed that gluts could be persistent, but the reasoning upon which hebased his position was defective. Paradoxically, then, Marx and the classicals (withthe exception of Malthus and Lauderdale) held similar views about the temporarynature of crises; this despite the fact that they appear to take different positions onSay's Law — with Ricardo and James Mill accepting it unconditionally, JohnStuart Mill accepting it with qualifications, and Marx rejecting it outright.

THE SIGNIFICANCE OF SAY'S LAW IN THE CLASSICAL SYSTEMWe are now in a position to evaluate the significance of Say's Law for classicalanalysis. An observation which can be made at the start is that Say's Law, as itappears in the classical literature, implies nothing whatsoever about the tendenciesof capitalism with respect to the level of employment. Samuelson (1978, p. 1421),describing what he calls the 'canonical classical model', gives voice to a pervasivemisconception when he writes thatFor Smith, Ricardo, and Mill, saving and investing never fail to be equated at full-employ-ment conditions; only Malthus expressed doubts, envisaging in 1820 .. the possibility ofoversaving and the violation of what we know loosely as Say's Law.

In fact, Say's Law does not entail full employment, and it was not used by theclassicals to derive conclusions about the performance of the labour market.' Ricardomade use of the Law to support his own theory of profits against the claim of Smith andMalthus that accumulation, and hence the profit rate, is constrained by aggregatedemand. Secondly, the Law was used more generally to refute Malthus' argument thata persistent state of industrial depression — a universal glut of commodities — couldoccur if capitalists save too large a portion of their incomes. Neither of these appli-cations has anything directly or indirectly to say concerning the state of the labourmarket. To be sure, they do imply that under capitalism, existing productivecapacity will tend to be fully utilised,2 and that episodes of unplanned inventory

1 The point being made here is simply that Say's Late does not imply, and was not taken by theclassicals to imply, full employment. A thorough discussion of whether some classical writers believedthat capitalist economies might, for reasons independent of Say's Law, exhibit a tendency toward fullemployment lies beyond our present scope. However, it is worth noting here that the theoretical core ofclassical analysis contains no mechanism which might support a tendency toward full employment, andthat the classicals generally did not suppose that downward flexibility of wages would reduce the degreeof unemployment (see, for example, Smith, 1776, p. 64).

2 But in a letter to James Mill (9 July 1821) Ricardo writes:Malthus . . . says I have misunderstood his book, as the principle object of his enquiry was as to the motives forproducing, and to account why with such vast powers of production adequate motives were not afforded to produce. Ithink he has not understood himself, for what are all his attacks on Say and me, tartly not because we have said that inall cases there would be motives sufficient to push production to its utmost extentt but because we have said, that, whenproduced, commodites would always find a market... (1959-73, Vol. IX, p. 13, emphasis added).Ricardo could hardly have meant by this that physical productive capacity might not be fully utilized; forif any level of output generates its own market, failure by capitalists to operate plant and equipment atfull capacity would entail a refusal to exploit sure opportunities for additional profits. (And if part of theproductive capacity is embodied in fixed capital, abnormally high excess capacity entails a lower rate ofreturn than full capacity utilisation.)

It is probable that Ricardo meant simply that, in the normal operation of the economy, a certainamount of potentially productive labour will not be offered employment; that is to say, the stock of plantand equipment will not be enlarged to the maximum level compatible with the available labour force.

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accumulation will be short lived; but they do not, in themselves, imply that thelabour market tends to clear.

Milgate has pointed out that the specific functions which Say's Law performs in theclassical system do not come into conflict with the theory of effective demand; hesuggests, in particular, that Ricardo's refutation of the profit theory advanced bySmith and Mai thus need not come into conflict with Keynes' theory of employment:

In relation to the subsequent 'Keynesian critique of Say's Law', this aspect of Ricardo's useof the notion that 'demand is only limited by production' does not seem to involve the errorstoward which that critique was directed. For while Ricardo denies that aggregate demandcan permanently influence the rate of profit, there is nothing in his argument... that wouldnecessitate a rejection of Keynes' idea that effective demand determines the level of output. . . (Milgate, 1982, pp. 50-51).

Milgate is onto something here, but he has not quite hit the mark. In Ricardo'sargument, the reason that the profit rate cannot be permanently influenced byaggregate demand is precisely that, by Say's Law, no level of output can fail to finda market. An implication of Say's Law is that if entrepreneur-capitalists make amistake and produce more output than is consistent with ex ante aggregate demand,ex post aggregate demand rises to correct for the error. But according to Keynesiantheory, an ex ante miscalculation by businesses, in which they produce too muchoutput, leads to an unwanted accumulation of inventories and to a subsequentreduction in the level of activity, until the value of output is equal to that of plannedexpenditures. Or to put it another way: Say's Law asserts that any level of outputwhich is produced will be sold, whereas the theory of effective demand claims thatthe economy will tend to produce that level of output which can be sold.

Still, the simple assertion that any level of national income is sustainable pre-supposes nothing about how that level of output is determined in the first place.Here we start to see how Say's Law may be disengaged from classical theory. Sinceclassical analysis provides no explanation of outputs, at either the aggregate or sec-toral level, we may, if we wish, superimpose the theory of effective demand on theclassical price equations to locate the equilibrium level of national income; see Kurz(1985) for a formal illustration of how this might be accomplished. Say's Law is ofcourse incompatible with the disequilibrium dynamics of such a construct; but theclassicals were at least able — without actually providing a theory of output — toidentify correctly the macroeconomic equilibrium requirement that saving equalinvestment.

Say's Law reflects the assumption that this equilibrium condition will be met atany level of output. In a sense this assumption is understandable in the absence ofa satisfactory theory of output. If classical analysis provides no rules by which aparticular level of national income may be regarded as more 'necessary' or more'natural' than any other, then the supposition that any level of output is sustainablecan eliminate the need to deal with a potentially troublesome question: what mech-anism, if any, will carry the economy to a sustainable level of national income if theactual level is not sustainable? It follows, however, that once a theory of output

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consistent with the classical model is discovered, Say's Law is no longer needed toneutralise the possibility of persistent disequilibrium of this sort. [This interpret-ation of the role of Say's Law in classical analysis differs somewhat from that ofGreen (1982), who attributes the absence of a classical theory of output to the factthat the Law of Markets eliminated the need to provide such a theory. It seemsmore likely that causality ran in the opposite direction. Without a theory of output,the classicals could establish explanatory relevance for their theoretical system (i.e.ensure gravitation toward a long-period position) only by adopting Say's Law; cf.Garegnani (1978-79, pp. 27-28). While the availability of Say's Law may have ren-dered the need for an explanation of output less urgent, the difficulties which theLaw was meant to suppress derive entirely from the lack of an output theory.]

It is significant that nowhere in their writings do the classicals provide rigoroussupport for the proposition that production 'never furnishes supply, without fur-nishing demand .. to an equal extent' (James Mill, 1826, p. 332). The justificationgiven for Say's Law almost never goes beyond the unconvincing assertion thatagents will expend the effort required to create a certain amount of income only ifthey ultimately intend to spend that amount of income. For example:

No man produces but with a view to consume or sell, and he never sells, but with an intentionto purchase some other commodity, which may be immediately useful to him, or which maycontribute to future production. By producing, then, he necessarily becomes either the con-sumer of his own goods, or the purchaser and consumer of the goods of some other person(Ricardo, 1821, p. 290).

To produce implies that the producer desires to consume; why else should he give himselfuseless labour? He may not wish to consume what he himself produces, but his motive forproducing and selling is the desire to buy (J. S. Mill, 1844, p. 49).

A man produces only because he wishes to possess. . . . When a man produces a greaterquantity of a commodity than he desires for himself, it can only be on account; namely, thathe desires some other commodity which he can obtain in exchange for the surplus of what hehimself has produced. It seems hardly necessary to offer anything in support of so necessary aproposition; it would be inconsistent with the laws of human nature to suppose, that a manwould take the trouble to produce anything without desiring to have anything (James Mill,1826, pp. 326-327).

The inability of the classical theorists to provide a formal rationale for Say's Lawsuggests that the doctrine is not implicit in the logic of their analytical system. Infact, the system contains no mechanism which can ensure that planned investmentwill always gravitate toward equality with aggregate saving.

This aspect of classical theory may be contrasted with the neoclassical treatmentof Say's Law, in which the interest rate adjusts to ensure that investment is broughtinto line with saving. But in a neoclassical context, it is not strictly speaking truethat any level of national income is sustainable. Since in a general equilibriummodel all markets are inter-related, investment and saving will, in general, be equalonly when all other markets have cleared; hence, only that level of national income

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consistent with full employment can persist. Thus, Say's Law, as it was understoodby the classicals, plays no part in marginalist theory. What the Law means in thissetting, if it can be said to mean anything, is that, whatever the full employmentlevel of income happens to be, total expenditure will (in equilibrium) be sufficient tosupport it. But marginalist theory does not require a special doctrine to arrive at thisresult: the outcome is ensured by the theory which is presumed to describe thedetermination of prices, outputs and incomes. It might therefore be appropriate todiscontinue the tradition, begun in error by Keynes, of imputing Say's Law to theneoclassicals.

The rules which govern markets in classical analysis, by contrast, do not determinea macroeconomic equilibrium or contain a mechanism (e.g. factor substitution, orthe principle of effective demand) which can ensure that some tendency to such anequilibrium will exist. No classical writer ever conceived of the interest rate as themechanism which might validate Say's Law, for the simple reason that there isnothing in classical theory which suggests that the interest rate can perform thisfunction. Interest on money, when it was distinguished from profit, was typicallythought by the classicals to be an appropriation of part of the social surplus by theowners of money capital, determined as the outcome of a class struggle betweenfinance capitalists (rentiers) and the owners of commodity capital (Panico, 1980).

A number of classical writers — for example, Joplin (1823, 1832), Tooke (1826),and J. S. Mill (1844,1871) — did explain the interest rate in terms of the supply anddemand for loanable funds. But it was not generally inferred that this relation mightprovide a superior logical basis for Say's Law, which they continued to justify onthe feeble grounds embodied in the passages cited above. The mechanism whichthese writers had in mind appears, in any case, not to have been the same as thatwhich characterises the marginalist theory of interest. Joplin, for example, arguedthat the volume of saving depends primarily upon the income of the capitalist class.Thus, an increase in the demand for loans could be accommodated by additionalsaving only if the distribution of income changes in favour of capitalists; the linkbetween saving and the interest rate is indirect, and is comprised entirely of anincome effect. Moreover, in Joplin's schema, saving clearly adjusts to investment —by a process which bears some similarity to Kaldor's (1955) Keynesian treatment ofdistribution — rather than the other way round (Joplin, 1823; see also Meek, 1967).Joplin was evidently not thinking in terms of the well-defined interest elastic Savingand Investment functions found in marginalist theory. Indeed, the lack of a crediblejustification for Say's Law in classical analysis cannot be remedied by requiring theinterest rate to perform the appropriate equilibrating function, as it does in neo-classical theory. Since downward sloping factor demand functions play no role inclassical theory, there can be no presumption of a tendency toward full employ-ment. Hence the positions of the (hypothetical) Saving and Investment curvescould not be established, and there would be no reason whatsoever to suppose thatvariations in the interest rate could bring investment and saving into line with oneanother (cf. Garegnani, 1978-79, p. 58). The failure of practically all classical

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economists to see a connection between a supply-and-demand determination of theinterest rate on the one hand, and the logic of Say's Law on the other, underminesattempts by some recent interpreters (Blaug, 1978, pp. 154-165; Caminati, 1981) tolocate in classical theory a mechanism which validates the Law of Markets.

The conclusion toward which the preceding discussion points should by now beapparent. The position which Say's Law occupies in classical analysis can be filledby a satisfactory theory of aggregate output; thus, had the principle of effectivedemand been available to the classicals, they could have abandoned the Law ofMarkets without raising any difficulties relating to the determinacy of the level ofoutput. To go a step further, we may say that since Say's Law can derive no supportfrom the theoretical core of classical analysis, it must be judged, in general, to befalse within the context of that analysis.

CONCLUSION

Say's Law, then, is hardly a serious stumbling block to the integration of classicaltheory and the theory of effective demand. For the joining of Keynesian and classicalanalysis would in itself provide the basis for dropping the Law.

There is a curious irony in Keynes' critique of Say's Law. He attempts to discreditthe Law by attacking the orthodox theory of interest, which he correctly identifiesas its theoretical underpinning (at least in a marginalist setting). The thrust of hiscritique is that the Saving and Investment functions by which conventional theoryattempts to determine the interest rate are inadequate to accomplish that task.Saving depends upon income as well as upon the interest rate; income, in turndepends upon investment. Thus, without a third function showing the relationbetween income and investment, the interest rate cannot be ascertained. The ortho-dox theory of interest was therefore both misspecified and underdetermined(Keynes, 1936, pp. 179-181). Keynes was able to make this argument only by iso-lating the traditional theory of interest from its general equilibrium setting, i.e byframing the problem in terms of partial analysis. In the general formulation of themarginalist theory, however, the interest rate and the level of national income areboth fully determinate: they always gravitate toward just those values which areconsistent with the full employment of all scarce resources. The marginalist theoryof interest is therefore not indeterminate, and Keynes' critique of it was unfounded.

We have noted above that a striking feature of the classical system is that it isopen with respect to output. The mechanism toward which Keynes directed hiscritique is not implicit in classical theory. It could not in any case have been used todemonstrate the validity of Say's Law, precisely because, owing to the absence of aclassical theory of output, if saving depends upon income as well as the interest rate,the classical theory of interest would then be one equation short. Since there is norequirement that all inputs with positive prices be fully employed, classical theorycannot by itself establish a definite level of national income; hence, given the incomeelasticity of saving, an explanation of the interest rate in terms of the interaction of

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the supply and demand for saving must also be incapable of giving determinateresults. There is something faintly ironic in the idea that a body of analysis which ismarked by the very flaw which Keynes wrongly attributed to neoclassical theory,should turn out to be the starting point for a renewed defence of the theory ofeffective demand.

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