Say’s Law Presupposes Aggregate Demand as a Meaningful Concept

It never ceases to amaze me to see certain Austrians and pro-free market libertarians making statements like this:

“When Krugman uses ‘demand,’ he means ‘aggregate demand,’ which economically speaking is a nonsensical term. There is no such thing as ‘aggregate demand’ …”

In fact, the concept of aggregate demand is presupposed by Say’s law, and if aggregate demand is a “nonsensical term,” “not meaningful” or if “there is no such thing,” then Say’s law utterly collapses with it.

In modern formulations of Say’s law, there are two main variants:

(1) Say’s Identity
According to Baumol (1977: 146), this

“is the assertion that no one ever wants to hold money for any significant amount of time, so that, as a result, every offer (supply) of a quantity of goods automatically constitutes a demand for a bundle of some other items of equal market value.”

(2) Say’s Equality
Again, according to Baumol (1977: 146), Say’s Equality

“admits the possibility of (brief) periods of disequilibrium during which the total demand for goods may fall short of the total supply, but maintains that there exist reliable equilibrating forces that must soon bring the two together.”

Say’s equality asserts that, in a given time period (say a year), total factor payments from production (= aggregate supply) will be spent on consumption or capital goods/business investment in new commodity output (= aggregate demand), and this either will be equal or tend to be equal to the value of aggregate supply in the short run. How can anyone seriously deny that the total demand for final goods and services in an economy is not a fundamental and meaningful concept here?

If we turn to Thomas Sowell (1994: 39–41), one of the supposed experts on Say’s law, we can see his summary of what the Classical economists meant by the expression:

“(1) The total factor payments received for producing a given volume (or value) of output are necessarily sufficient to purchase that volume (or value) of output [an idea in James Mill].

(2) There is no loss of purchasing power anywhere in the economy. People save only to the extent of their desire to invest and do not hold money beyond their transactions need during the current period [James Mill and Adam Smith].

(3) Investment is only an internal transfer, not a net reduction, of aggregate demand. The same amount that could have been spent by the thrifty consumer will be spent by the capitalists and/or the workers in the investment goods sector [John Stuart Mill].

(4) In real terms, supply equals demand ex ante [= “before the event”], since each individual produces only because of, and to the extent of, his demand for other goods. (Sometimes this doctrine was supported by demonstrating that supply equals demand ex post.) [James Mill.]

(5) A higher rate of savings will cause a higher rate of subsequent growth in aggregate output [James Mill and Adam Smith].

(6) Disequilibrium in the economy can exist only because the internal proportions of output differ from consumer’s preferred mix—not because output is excessive in the aggregate” [Say, Ricardo, Torrens, James Mill] (Sowell 1994: 39–41).

As we can see, propositions 3 and 4 above require aggregate demand as a fundamental concept. If there is no such thing as aggregate demand, how could these propositions even be true?

BIBLIOGRAPHY

Baumol, W. J. 1977. “Say’s (at Least) Eight Laws, or What Say and James Mill May Really Have Meant,” Economica n.s. 44.174: 145–161.

Sowell, T. 1994. Classical Economics Reconsidered, Princeton University Press, Princeton, N.J.