Monetary Policy: Non-Volitional and Volitional Saving

Abstract

When nonbank agents borrow money from (i.e. sell their own IOUs to) other nonbank units, in exchange for previously accumulated money balances, the money supply does not change. The increase in current spending by borrowing units is roughly offset by the decrease in spending on current output by lending units. When the money supply is constant, there is no accompanying long-run growth in AD, unless the income velocity of money has a positive secular drift. When banks undertake no new net lending, the supply of credit money remains constant. Changes in AD and income reflect primarily changes in the income velocity of money.

An act of individual saving means—so to speak—a decision not to have dinner today. But it does not necessitate a decision to have dinner or to buy a pair of boots a week or a year hence, or to consume any specific thing at any specific date. Thus it depresses the business of preparing today’s dinner without stimulating the business of making ready for some future act of consumption. It is not a substitution of future consumption demand for present consumption demand—it is a net diminution of such demand … Moreover, the expenditure of future consumption is so largely based on present experience that … [an act of saving] may reduce present investment demand as well as present consumption demand.

John Maynard Keynes, 1936: 210

The justification for a moderately high rate of interest has been found hitherto in the necessity of providing a sufficient inducement to save. But we have shown that the extent of effective saving is necessarily determined by the scale of investment, and that the scale of investment is promoted by a low rate of interest, provided that we do not attempt to stimulate it in this way beyond the point which corresponds to full employment. Thus it is to our best advantage to reduce the rate of interest to that point relative to the schedule of the marginal efficiency of capital at which there is full employment.

John Maynard Keynes, 1936: 375

Thus the remedy for the boom is not a higher rate of interest but a lower rate of interest! For that may enable the boom to last. The right remedy for the trade cycle is not to be found in abolishing booms and thus keeping us permanently in a semi-slump; but in abolishing slumps and thus keeping us permanently in a quasi-boom.

John Maynard Keynes, 1936