* * *
Chapter 16. A Classification of the Causes of a Disequilibrium in the Purchasing Power of Money (p. 258)
Assume a state of equilibrium in which the price-level corresponds to the cost of production, profits are zero, the cost of investment is equal to that of saving, and (if we are dealing with a member of an international system) the rate of foreign lending is equal to the foreign balance. Assume alsoㅡif our community is a progressive oneㅡthat the supply of money is being increased at the same steady rate as that of general output, e.g. (say) 3% per annum. In what way can this state of equilibrium be upset?
It follows from the Fundamental Equation of Chapter 10,
Π ＝ E/O ＋ (I－S)/O ,
that the Price-level of Output is wholly governed by the three factors: [:]
- (ⅰ) E, the volume of money-earnings of the factors of production,
- (ⅱ) O, the volume of current output, and
- (ⅲ) I－S, the relation between the volume of saving and the value of investment.
Changes can only be affected, therefore, through one or other or all of these fundamental factors.
Bearing this in mind, we can best classify the possible initiating causes of disturbance under three heads, which we may call respectively changes due to Monetary Factors influencing the effective supply of money for income purposes, changes due to Investment Factors, and changes due to Industrial Factors influencing the volume of output and the demand for money for income purposes.
I. Changes due to Monetary Factors (p. 259)
A state of disequilibrium may be said to have been initiated by monetary factors, if we have: [:]
- (ⅰ) A change in the total quantity of money which does not correspond to the secular trend in general economic activity ; or
- (ⅱ) A change in the proportion of the total quantity of money needed to satisfy the requirements of Finance (i.e. the Financial Circulation), due to a change of financial sentiment or activity or of financial values relatively to the price-level of output ; or
- (ⅲ) A change in the requirements of the Industrial Circulation, owing to a change in the velocity of the Income-deposits or of the Business-deposits A or in the turnover of the Industrial Circulation corresponding to a given volume of Earnings, due to a change in the habits and methods of the public or of the business world or to a change in the character (as distinct from the volume) of output.
Changes of any of these types mean that the supply of money available to entrepreneurs is no longer in equilibrium with the amount required by them to maintain the current income and output of the Factors of Production at their existing level. There will, therefore, be a tendency for a series of changes and adjustments to take place, of which a disturbance of the rate of investment is likely, as we shall see, to be the first stage.
II. Changes due to Investment Factors (p. 260)
The market-rate of interest may come to diverge from the natural-rate on account of:
- A. A Change in the market-rate, resulting from altered conditions in the loan market due to a change in Monetary Factors, uncompensated by a change in the natural-rate.
- B. A Change in the natural-rate, occasioned by a change in the attractiveness of Investment or in that of Saving, uncompensated by a change in the market-rate ;
- C. A Change in the market-rate, occasioned by the necessity of maintaining equilibrium between the rate of Foreign Lending and the Foreign Balance, uncompensated by a change in the natural-rate.
III. Changes due to Industrial Factors (p. 260)
There may be a change in the quantity of money demanded by entrepreneurs for the Industrial Circulation due to a changeㅡaway from the secular trend which we have already allowed for in our hypothetical conditions of equilibriumㅡin the volume of Current Output or to a change in its Cost of Production, due ether to an "induced" or to a "spontaneous" change (see p. 166) in the rate of earnings.
These different types of disturbances can exist simultaneously with one another and they can tend to produce one another; but they are independent in the sense that their effects are superposable, the effect of one aggravating or counterbalancing the effect of another.
Now it is the argument of the Treatise [:]
- that disturbances to the pre-existing position of equilibrium due to changes of Type I normally work themselves out ^via^ changes of Type II;
- that disturbances due to changes of Type II, whether of category A, B, or C, tend to work themselves out ^via^ changes of Type III,ㅡthough changes of Type II B may also set up changes of Type I;
- and that changes of Type III finally establish a new position of equilibrium after a series of oscillations caused by their reacting on and interacting with a further series of changes of Type II.
Spontaneous changes of Type III need not be separately discussed, because when they occur their subsequent history will be the same as that of similar changes caused by prior changes of one of the other types.
Nor do we need to introduce ^Changes due to Financial Factors^ as a separate type, since these, as we have seen in the previous chapter, operate either ^via^ Type I above by modifying the supply of money available for the Industrial Circulation, or ^via^ Type II by modifying the attractiveness of new Investment or of Saving.
※ Chapter 16 ends here on p. 261.