The Debate over Investment and Saving

A number of earlier posts discuss issues relating either to investment/saving or interest rates or both. Many other posts relate to fiscal or monetary policy within a modern monetary system, and these posts also often end up involving discussions of investment, saving and interest rates. It may be worth spelling out the significance of this debate.

A basic point made in the previous post, Investment Precedes Saving, is that ex ante (or planned) saving is not required prior to ex ante investment occurring, and that logically investment precedes saving. The argument is about causation. Investment is an independent variable, saving is not. More generally, injections are independent variables and leakages are not.

A spontaneous attempt to increase saving in aggregate is largely self-defeating (in a simple two-sector model, it is entirely self-defeating). The attempt to increase saving independently of planned investment will temporarily create unintended investment in the form of an unanticipated buildup in inventories, but this will set in motion negative income adjustments that eliminate some (or all) of the additional saving. The only sustainable saving is that underpinned by intended investment (in a two-sector model) or intended injections (in an economy with government and/or external sectors). To the extent investment plans (or planned injections) go unrealized, income adjustments eradicate the excess saving or generate the required saving.

For neoclassicals, in the long run interest rates are meant to move in such a way as to adjust investment plans to the level consistent with full-employment saving.

In Marx or Keynes influenced approaches, in contrast, there is an openness in the possible outcomes that can occur which is absent in the neoclassical framework. The openness comes from the independence of the planned injections, which seems to provide a better depiction of capitalism.

In terms of investment/saving, it is capitalists who initiate the process through their investment decisions. Once they decide how much to invest, this sets production into motion. Irrespective of saving and consumption propensities, the exogenous investment decision will result in enough additional income to generate the necessary saving.

This view of causation runs across the different injections and leakages, and also applies to government and its fiat money.

There is an openness, in this view, not only in the investment decisions of capitalists but in the spending decisions of government. The price mechanism cannot be relied upon to push long-run output toward the full-employment level or entice investment sufficient to sustain full-employment saving. The level of output is open to a social determination that depends on autonomous decisions of the government, capitalists, to a lesser extent consumers (insofar as consumption is unrelated to current income) and foreigners. Once these actors have made their spending decisions, leakages occur in the required amount, irrespective of the propensities to save, tax and import.

Clearly, a central controversy relates to the rate of interest. What determines interest rates? Are they ultimately market determined or a political choice? What role do interest rates play? Are they an index of scarcity and intertemporal allocator or merely a distributive claim on surplus income? Can they be relied upon to induce investment sufficient to generate full employment? Can they even be relied upon to affect investment in a predictable way? The heterodox view is that interest rates have a political determination and are merely a distributive claim. They cannot be relied upon to induce investment of an amount sufficient to sustain full employment.

The level of output and employment, the level of investment and the rate of growth are all open to a social determination that is not dictated by the price mechanism.

To suggest otherwise is to imply that markets are in some sense natural phenomena that dictate social outcomes. To the contrary, markets are a social construction. Leaving the outcome to the market is one form of social determination. But this social choice is not inevitable. Nor can a choice to rely on market mechanisms be shown to generate the deterministic outcome (supply-determined full-employment output) often claimed in the long run. Such a deterministic outcome would rely on interest rates playing a role that they have been shown, in the capital debates, incapable of playing.