Saturday, September 13, 2014

Dennis Robertson on Deflation

From Dennis Robertson’s book Money (1922):
Ҥ 2. The Effects of Falling Prices.
Our next question is this: What are the general consequences of a pronounced fall in the price-level? Let us suppose, first, that the fall is not accompanied by any corresponding increase in the real productivity of industry: and let us further suppose for the moment that it were to be brought about at one fell swoop, without any period of transition. As consumers we should all rejoice; but those of us who were traders would soon begin to wonder how they were going to pay for their stocks of goods ordered at the old prices; and those who were employers would soon begin to think very seriously about their wages bill; and even those who were wage earners would begin to reflect that, whether or not automatically tied to the cost of living, their existing rate of money wages had been based on certain assumptions about the price-level which were no longer in accordance with the facts. Some of us would look forward to bankruptcy or heavy loss, and all of us to a good deal of unsettlement and dislocation while contracts and understandings and standards of calculation were being drastically overhauled.

Nor is this all. There is one contract to which, whether we like it or not, we in Britain are all parties, and of which it is not open to us to propose any revision, namely the payment of interest to our fellow-citizens on some £6000 m. of War Debt, and the gradual repayment of the principal. That contract is fulfilled by means of taxation on incomes derived mainly from the sale of goods and services: and if the prices of all goods and services were to be halved, the rate of taxation necessary to fulfil that contract would be roughly speaking doubled. This is not the place to discuss whether this load of debt should have been, or should even now be, reduced by means of a general levy assessed on existing private wealth. But unless that step is taken, we must regard with suspicion any proposal to increase deliberately the value of money; for the inevitable consequence would be an increase in the rates and the real burden of taxation.

Next let us continue to suppose that the fall in the price-level is unaccompanied by any increase in the real productivity of industry; but let us now suppose, as is indeed probable, that it is brought about gradually, and not at one blow. In one respect the results will be less serious; for there will be a breathing space to revise contracts and adjust expectations, and therefore less panic, fewer catastrophic failures. But in another respect the consequences will be more paralysing. To develop this point we must once more pick up some threads which in earlier chapters have been left hanging in the air. In Ch. VI, § 2, it was pointed out that a rising price-level, by gratifying and stimulating those who hold the reins of business, tends to increase the volume of employment and the productivity of industry; and we may well enquire rather closely whether a falling price-level must not be expected to have an exactly opposite result. In Ch. VII, § 6, indeed, we glided over the process by which under a gold standard a rise in the price-level is reversed as though it were the most natural and painless operation in the world. But in Ch. IV, § 5, we accepted provisionally the opinion of the ‘more money’ enthusiasts that a banking system which allowed a great or prolonged fall in prices would be failing to meet the requirements of a progressive community. Let us try to discover how the truth stands in this matter.

§ 3. Falling Prices and Trade Depression. Now once more we must walk carefully. A trade depression is a complex thing, and it would not be fair to ascribe all its evils to what may be a consequence rather than a cause of more deep-seated maladjustments. Nevertheless there is reason to think that a falling price-level is not only a symptom of depression, but an active agent in increasing its severity and prolonging its duration. For let us consider how it operates. A downward swoop of the price-level reveals like a flare a line of struggling figures, caught in their own commitments as in a barbed-wire entanglement. Not one of them can tell what or how soon the end will be. For a while each strives, with greater or less effectiveness, to maintain the price of his own particular wares; but sooner or later he succumbs to the stream, and tries to unload his holdings while he can, lest worse should befall. And right from the start he has taken the one step open to him; he has cut off the new stream of enmeshing goods, and passed the word to his predecessor not to add to his burden. So the manufacturer finds the outlet for his wares narrowing from a cormorant’s gullet to a needle’s eye; and he too takes what steps occur to him. If he is old and wily and has made his pile he retires from business for a season, and goes for a sea-voyage or into the House of Commons. If he is young and ambitious or idealistic he keeps the ball rolling and the flag flying as best he can. If he is an average sort of manufacturer he explains that while he adheres to his previous opinion that the finance of his business is no concern of the working-classes, yet just so much financial knowledge as to see the absurdity of the existing Trade Union rate is a thing which any workman should possess.

In any case, ... [sc. he soon] restricts in greater or less degree the output of his product. Thus two things happen which (it is believed) cause much merriment among the inhabitants of other planets. The world deliberately adopts a standard of comfort lower than that which its natural resources and its capital equipment place within its reach, cutting of its nose, as it were, to spite its face. And men trained and (within limits) willing to work find no work to do, and tramp the streets with the parrot-cries of journalists about increased output ringing in their ears, and growing rancour in their hearts. ....

It seems to be falling prices per se, irrespective of their cause, which both impose a real handicap on the business man in favour of the debenture holder and the wage earner, and damp his ardour by making that handicap loom larger in shadow than it turns out to be in substance. ....

Our general conclusion then must be that a pronounced fall in prices is not always an exhilarating or painless process, or one to be altogether welcomed with open arms.” (Robertson 1922: 159–164).
Although Dennis Robertson’s specific example concerns the real burden of government debt and taxation under price deflation, nevertheless it is clear that even in 1922 he understood the essence of the process of debt deflation, as Keynes did.

In fact, Keynes described deflation in these terms in a passage in his A Tract on Monetary Reform (1923):
“In the first place, Deflation is not desirable, because it effects, what is always harmful, a change in the existing Standard of Value, and redistributes wealth in a manner injurious, at the same time, to business and to social stability. Deflation, as we have already seen, involves a transference of wealth from the rest of the community to the rentier class and to all holders of titles to money; just as inflation involves the opposite. In particular it involves a transference from all borrowers, that is to say from traders, manufacturers, and farmers, to lenders, from the active to the inactive.

But whilst the oppression of the taxpayer for the enrichment of the rentier is the chief lasting result, there is another, more violent, disturbance during the period of transition. The policy of gradually raising the value of a country’s money to (say) 100 per cent above its present value in terms of goods … amounts to giving notice to every merchant and every manufacturer, that for some time to come his stock and his raw materials will steadily depreciate on his hands, and to every one who finances his business with borrowed money that he will, sooner or later, lose 100 per cent on his liabilities (since he will have to pay back in terms of commodities twice as much as he has borrowed). Modern business, being carried on largely with borrowed money, must necessarily be brought to a standstill by such a process. It will be to the interest of everyone in business to go out of business for the time being; and of everyone who is contemplating expenditure to postpone his orders so long as he can. The wise man will be he who turns his assets into cash, withdraws from the risks and the exertions of activity, and awaits in country retirement the steady appreciation promised him in the value of his cash. A probable expectation of Deflation is bad enough; a certain expectation is disastrous. For the mechanism of the modern business world is even less adapted to fluctuations in the value of money upwards than it is to fluctuations downwards.” (Keynes 1923: 143–144).
It seems clear that the deleterious nature of debt deflation was already well understood in the Cambridge Marshallian tradition of economics in England by the 1920s (see also Keynes 1931).

In this respect, as Philip Pilkington has pointed out here, Irving Fisher did not suddenly “discover” the phenomenon of debt deflation in his famous 1933 paper (Fisher 1933).

However, to be fair to Fisher, he did admit that in chapter 7 of Thorstein Veblen’s book The Theory of Business Enterprise (1904), Veblen had come close to a prior debt deflation theory (Fisher 1933: 350, n.).

The “Economicreflections” blog has an excellent and fascinating post that shows that the essence of debt deflation was already understood as early as 1817 by the economist Thomas Attwood:
“Debt-Deflation Theory in Early 19th Century Britain,” Economicreflections, 13 September, 2014.
In this post, there is an extended and remarkable passage from Thomas Attwood’s Prosperity Restored, or, Reflections on the Cause of the Public Distresses: and on the only means of relieving them (Baldwin, Cradock, and Joy, London, 1817), which shows how he understood that the real burden of private and public debt is increased by deflation, and that this also has deleterious economic effects.

It is interesting that Thomas Attwood was part of the “Birmingham School” of economists, who were a proto-Keynesian school, and included the following economists:
Birmingham School
Thomas Attwood
George Frederick Muntz
Matthias Attwood
Arthur Young
Patrick Colquhoun
Sir John Sinclair
Robert Montgomery Martin.
In general, on the Birmingham School see S. G. Checkland, 1948. “The Birmingham Economists, 1815–1850,” The Economic History Review n.s. 1.1: 1–19.

Further Reading
“Fisher on Debt Deflation,” October 26, 2012.

Fisher, Irving. 1933. “The Debt-Deflation Theory of Great Depressions,” Econometrica 1.4: 337–357.

Keynes, John Maynard. 1923. A Tract on Monetary Reform. Macmillan, London.

Keynes, John Maynard. 1931. “The Consequences to the Banks of the Collapse of Money Values,” in J. M. Keynes, Essays in Persuasion. Macmillan, London. 168–178.

Robertson, Dennis Holme. 1922. Money. Nisbet & Co. London.

Veblen, Thorstein. 1904. The Theory of Business Enterprise. Charles Scribner’s Sons, New York.


  1. Well done to find all that, Lord Keynes, but the idea of a debt-deflation is at least a century older. I wrote a long comment that would not post, so please see here:

    1. Brilliant and fascinating post! I had no idea that the essence of debt deflation theory was that old.

      I have linked to your post in an addendum above.


  2. Another one on Thomas Attwood, in case you're interested:

    1. Another fascinating post.

      A key point:

      "for unless the public are willing to borrow the "rags,” the ” rag maker” cannot issue them. It is therefore necessary to act upon both parties ; the one must be stimulated to borrow, and the other to lend. "