Saturday, October 6, 2012

Ramanan — Income ≠ Expenditure? [Steve Keen]

Ramanan critiques Steve Keen's view that aggregate income is not identical to aggregate expenditure in a closed economy.

The Case for Concerted Action
Income ≠ Expenditure?


y said...

Keen's argument seems simple to me, perhaps because I'm not an economist.

1. People receive income

2. they save or take on debt

3. they spend

The amount they spend is equal to income received in (1) plus debt incurred in (2), or minus amount saved in (2)

4. their spending then equals:

5. people receive income

6. they save or take on debt

7. they spend

etc. etc.

The point being that "taking on debt" equals the creation of new purchasing power out of nothing by a bank - NOT the lending out of previously saved funds.

Have I misunderstood?

Tom Hickey said...

Ramanan's point is that income is identical with expenditure in aggregate because it is so defined to maintain accounting balance. Observing the rules of double entry it has to be that way if the entries are to balance. See the Godley & Cripps quote to this effect that R provides.

Of course one can create any rules one wishes, but things still have to balance. It's generally simpler to follow the standard practice and adapt oneself to it, e.g., in the way R suggests SK might do it. This facilitates communication with the rest of the people using that universe of discourse.

IF Steve's objective is to make his MCT and MMT (Godley-based) compatible, he needs to match up the econometrics with the accounting. This is a criticism that MMT makes of the mainstream, for instance, the math doesn't jibe with the accounting.

To integrate economics and finance, the math and accounting has to square. I think that Steve hets this and it trying to develop an integrated model that achieves this with the assistance of people that understand the accounting well, since that is not his strong point.

Both SK and the MMT economists agree that Minskians's challenge is to create a model that integrate economics and finance to replace mainstream models that don't do this and therefore fail.

Ramanan said...


Thanks for linking.


Keen says something of the sort that saving is the opposite of taking debt.

which I show to be not right here:

For Keen, purchases of financial assets by incurring liabilities is also expenditure.

First he makes contradictory statements whether income is equal to expenditure or not and then he has this.

If I (or a lot of people) take on debt to purchase financial assets, it doesn't add to spending power to the extent Keen supposes. The effect is indirect if people buy assets and if creates holding gains due to price rise in financial assets. But the effect is limited to capital gains (and the propensity to consume out of capital gains) and not to the debt actually incurred.

For Keen it doesn't matter if the liabilities incurred is for purchases of nonfinancial assets/ consumption or for purchases of financial securities. Both add to the same purchasing power.

In the extreme case (to illustrate) think of my taking a loan and doing nothing afterwords. But for Keen it adds to aggregate demand (now effective demand).

paul said...

This seems like a good opportunity for a clarification (h/t vimothy for pointing it out).

In many discussions here we use the term "closed system".

A "closed system" and a "closed economy" are not the same thing, but we can talk of a closed economy as a closed system.

A closed system is any system within a defined boundary, within which by definition no elemental objects can be created or destroyed.

The United States economy can be defined as a closed system by the quantity of net dollars within the boundary as described.

Most of our discussions here assume no external account and a balanced budget for analysis purposes.

The closed system could just as easiliy defined including the external account or for the whole world. It would just complicate the analysis.

Similarly, any sub-sector or individual entity can be defined as the closed system.

Apple Computer can be defined as a closed system. An individual or group of individuals. A barrel full of dollars.

The selection of the boundary is a matter of convenience.

Once defined. the elemental objects of interest is unchangeable in terms of it's quantity (unless some assumption is made regarding injections/leakages.)

y said...


let's say the world population has $100 in total.

1) on monday the world population spends $100 in total. The income of the world population on monday is therefore $100 in total.

On monday, total expenditure = total income.

2) on tuesday the world population spends all of the income received on monday ($100). However, the population also borrows an additional $50 in total from banks and spends it.

Total spending on tuesday is thus $150, and total income on tuesday is also $150.

On tuesday total expenditure = total income, once again.

- The additional $50 was created by the banks out of thin air, as debt.

That's my simple understanding of Keen's argument.

Obviously the real world is far more complicated than that, but that's the basic idea, I think.

JKH said...

It’s basically double counting.

The thrust of Steve’s idea is that debt is a method of leveraging up the amount of medium of exchange that’s available for aggregate demand and expenditure. And that’s true, but it doesn’t transform standard accounting relationships. In a closed system, expenditure equals income regardless of the source of the medium of exchange used in transactions that generate expenditure and income. The source is either existing money or new money. Debt can transfer existing money (non bank) or create new money (bank). But that has nothing to do with the standard accounting equivalence of expenditure and income. Any debt which is the source of money (existing or new) that adds to demand doesn’t alter the fact that expenditure equals income in a closed system.

It seems that a great deal of blogosphere discussion and debate is about attempts to redefine standard accounting definitions. This is a futile exercise. Some of the rest – the best - attempts to describe true economic relationships utilizing the standard definitions. Interestingly, correct accounting is itself a closed logical system. Incorrect accounting always leads to dead ends in the form of logical contradictions. Accounting is a check, not only on itself, but on discussions that use accounting, such as discussions about economics. I think many economists still need to learn this, especially in the area of tracking the accounting logic of central bank balance sheet management.

Ramanan said...


Now on Tuesday if instead the $50 borrowed is not spent, Keen still has expenditure = $150.

Keen also says measured income after debt injection is equal to expenditure. Hence income is $150 according to him.

This is consistent with his equation expenditure = income before the debt injection plus the debt injection.

$150 = $100 + $50.

It is bleedingly obvious according to Keen!

Note this is not an extreme example. Consider if the loan was taken to purchase financial assets other than deposits and the person selling receives funds doesn't spend (assuming instant settlement).

But then in his own world he seems right but when he writes the differential equation, he doesn't realize that it is inconsistent with what he says.

Plus his usage of differential equations and discontinuities. I am not sure if he views debt injections as discontinuities, how he can take a derivative.

Also, this new number ($150) is no proxy for effective demand because the person selling securities may not spend it at all (having made little capital gains for example)

y said...

in his presentation Keen says that "in a demand-determined economy, expenditure precedes income"

but also that

"there is a mathematical identity between recorded expenditure and recorded income after the event"

He seems to be saying that expenditure leads to income whereas I suppose economists would normally say the two are simultaneous?

Ok, so he's saying that expenditure becomes income and as such equals income. Then income plus a 'debt injection' becomes expenditure, which in turn becomes income, etc, etc.

So you have:

1. income ex ante, then
2. an act of expenditure, then
3. income ex post (which will be different to income ex ante depending on the change in debt).

To me this isn't problematic though I can see why it might seem a bit sloppy or odd.

Also he does seem to only count debt when the borrowed money is spent, as you point out.

y said...


"I think many economists still need to learn this, especially in the area of tracking the accounting logic of central bank balance sheet management."

could you elaborate further?

paul said...

"Also he does seem to only count debt when the borrowed money is spent, as you point out."

When debt is incurred, it doesn't add to spending, it doesn't add to income. It's a net zero until accrued interest must be paid. I am ignoring loan closing fees here.

Until a loan is spent the first time after issue, there is zero change to the economy. For as long as the original loan is not spent, the only effect on the economy is accrued interest, which is a liability against future income.

The effect on the borrowers balance sheet is zero change in net worth.

Once the loan is spent, the principal payments begin subtracting from future income, or at least from spending depending on how one looks at it.

Once spent, the borrowers net worth may or may not change depending on what the borrower spent the money on.

circuit said...

Ram: I agree with you on this. There is no need to alter the terminology here. As you may recall, I wrote a post on Keen's terminology. It attracts criticism for no necessary purpose. Look, I really, really, really like Keen, but I don't understand why he does this. He does not need to, as you point out.

Tom @ 2:25: You're absolutely right. It's far better and simpler to stick with the standard terminology. Other circuitists also believe there is little need to re-invent existing conceptual standards.

JKH @ 5:55: Good comments. Let's stick to standard terminology, as you and Tom argue.

The thing is, economists who do theoretical work will tell you they aren't 'bound' to standard terminology, the same way statisticians, accountants and national accountants are. (I can't tell you how many times I've heard theorists say this). But this is where it becomes a problem for both the theorist and the audience. As I say above, I'm not at all in favor of this, nor is it to be recommended. I agree it leads to dead-ends, mainly because others won't play along (i.e., try and understand your work).

Kaj Risberg said...

"Once spent, the borrowers net worth may or may not change depending on what the borrower spent the money on."

But he anyway created "jobs." He transformed a financial asset into real wealth.

paul said...

"But he anyway created "jobs." He transformed a financial asset into real wealth."

For sure, no argument there. I was just illustrating what happens on the borrowers balance sheet.

But, as I said, nothing at all happens until the debt is spent, or the first interest payment is paid.

JKH said...

Y, I could give a specific example or two in the area of the analysis of quantitative easing, etc. but I’d prefer to avoid implied ad hominem indictment here. It’s a pretty wide swath across a broad range of monetarist type analysis - at least. I’ll leave it at that.

Ram, SK isn’t the only one who increases the scope of spending/saving related accounting to financial assets etc. (hint: initials NR). That intention is a flow of funds analysis, not an income statement analysis, and is more properly done by Godley/Lavoie using other terminology.

JKH said...


I think an intelligent approach by the economics profession would be to incorporate standard accounting logic as an accepted subset of economics, and work all theory with that as a standard measurement basis. There is absolutely nothing preventing that sort of approach and nothing that would constrain theoretical development as a result of doing so. Nor does accounting logic conflict with the logic of differential equations, or Lebesgue integration, or any other section of higher mathematics. It would be no more an impediment to economic theorizing than is 1 + 1 = 2.

JKH said...


The only thing "constraining" the above is a lack of basic accounting education as part of an economics curriculum. This stuff can be done in one course.

JKH said...

Furthermore, the principal amount of any asset swap has nothing directly to do with expenditure or income. That is the case with endogenous money and with central banking operations. It is the income statement of central banking that has the fiscal effect, for example - not principal amount balance sheet activity. And in the case of a commercial bank, the "loans create deposits" transactions have nothing directly to do with expenditure or income. It is the use of the deposit created that determines either an expenditure/income effect or a further asset swap effect instead.

Tom Hickey said...

There are two big issues with introducing non-standard rules and definitions. As pointed out, the first is that is asks a lot of others. It puts up hurdles and that in itself is marginalizing. So it is hardly a good strategy if not essential to the project.

For instance, mainstream economists already complain that MMT/MCT economists are "too concrete" and object to being asked to observe standard accounting rules and SFC. No one likes to be called out, so there is natural resistance, but here it is necessary. The crisis has shown the consequence of failing to integrate finance and economics. Accounting is required to do this, since it is the language of finance, just as math is of econometrics. Straying from standard accounting practice would be a terrible blunder, making thorough-going integration impossible. It doesn't seem to be in the spirit of Minsky either, who lead the way as an economist by undertaking a rigorous study of how things actually work in the real world of business and finance.

The second issue is keeping within one's own rules. This is not a simple task in a project of any size and complexity. It's exposing oneself to potential error unnecessarily. Error is much less likely to creeping when following a standard procedure. For example, others are more willing and able to critique the process as it develops, and this not only provides feedback but also creates acceptance of developing ideas. It's integrating rather than marginalizing.

JKH said...

"The crisis has shown the consequence of failing to integrate finance and economics. Accounting is required to do this, since it is the language of finance, just as math is of econometrics."

Exactly right.

Unfortunately, "mainstream" economics demonstrates a gut level aversion to the suggestion that accounting is a necessary ingredient in any or all of this. I attribute this to an intellectual pretension that is better suited to a Monty Python sketch. The subject is too important to be left to the profession.

Ramanan said...


Yes agree. Do remember your post.

As you call yourself "circuit" you should ask him why he thinks that his definition/approach is the "monetary circuit theory" approach when I guess almost all the circuitists will disagree with his definitions. :-)

Ramanan said...


Yeah not the only one but the uniqueness probably is about Lebesgue Integrals.

paul said...


Accounting is neither a necessary nor sufficient means to describe the dynamics of a monetary economy.

A monetary economy can be sufficiently described and analyzed using only known principles of math, science and engineering.

So I submit that the language of accounting is only necessary when using that tack to try and describe where the flows through the "machine" go. Accounting doesn't answer the question "why"? It is an ex-post picture of what has already happened.

I further submit that all of the body of accounting is insufficient to effectively understand the system to which it is applied. Too many missing parts.

Accounting is a useful tool, not a part of the system itself.

The main, necessary, over-arching dynamic - what "causes" a monetary economic machine to do "work" (produce stuff) ,at the root is so simple a caveman could do it (well, maybe a caveman engineer). Without any accounting whatsoever.

Anonymous said...

On Keen, I think that Y’s summary is about right. It’s a kind of fallacy of composition. Keen’s reasoning is as follows: For any individual, there are two sources of demand: income and borrowings. Therefore, aggregate demand is equal to aggregate income plus the change in debt. In order to reconcile this with the fact that aggregate income equals aggregate expenditure by definition, Keen argues that income plus the change in debt is an “ex ante” measure of aggregate demand. But such a notion doesn’t really make any sense and it seems hard to know how to respond to it.

On accounting, my experience is that economists do pay attention to accounting, where accounting is relevant to economics. (For example, more so in international macro than, say, asymptotic theory.) Perhaps they could pay more, and pay better, but then the same argument could presumably be made for any other methodology used by the profession. And perhaps this is not the impression that one gets from reading economics blogs, but economics blogs are not exactly a representative sample.

Tom Hickey said...

Here, again, vimothy, economists and finance people that did pay attention to the accounting foresaw and correctly predicted the coming crisis — Godley, Keen, and Bezemer, for instance, not only the MMT folks. There's a serious problem with those other models.

Anonymous said...


I thought Bezemer's claim was that Godley and Keen predicted the crisis, not that Godley, Keen, Bezeer & the MMT folks predicted the crisis. In any case, MMT folks, to the extent that they are making formal models, are using Godley's framework (to my knowledge). I have briefly looked into Keen's claim and do not find it terribly compelling. Your mileage may vary, of course.

There were other people in Bezemer's paper, who you did not mention. Shiller, for instance. Various Austrian perma-bear types. Like Keen, they were not using Godley-style SFC models, so that whatever you can say about the merits of such an approach (which I'm not exactly allergic to), it's clearly not a prerequisite for "predicting the crisis", for some value of "predicting".

Anonymous said...

Another thing that might be worth commenting on is Keen’s strange and idiosyncratic conflation of income and demand. It’s not actually true that most economists treat aggregate demand as being equal to income, and therefore, Keen’s sole novelty is the addition of the change in debt (actually, the rate of change of debt; but leave that aside). Aggregate demand is a mapping, not a number. It isn’t equal to income. There’s no identity or condition that says “aggregate demand equals income”. There is an equilibrium condition that says,

Aggregate demand = Aggregate supply

And an accounting identity that is also an equilibrium condition, which says,

Aggregate income = Aggregate expenditure

The demand function is a theoretical abstraction. We don’t observe it in practice. What is observed is a realisation of the model in a price, quantity pair (and even that is very tenuous and somewhat artificial). The realised level of aggregate demand is captured by the level of aggregate nominal expenditure. This is equal to aggregate nominal income, by definition. Hence, for Keen, “ex ante” aggregate demand is a number that somehow combines ex post aggregate income and the ex post time derivative of debt. Precisely what use this number is supposed to provide is not obvious to me.

Tom Hickey said...

viimothy, let's just say that folks that did not see a crisis approaching have some serious explaining to do, especially when other did see it coming and said so from several different perspectives.

JKH said...

vimothy 10:36

excellent explanation of that particular aspect

y said...


If you think about it in terms of an individual it makes perfect sense.

- What you spend is what you earn, plus what you borrow (or minus what you save).

i.e. your expenditure is equal to your income plus your 'change in debt'.

If you spend $110 and earned $100, then you must have net borrowed $10; conversely if you spend $90 and earn $100, then you have net savings of $10, or have reduced debt by $10, for net change in debt of –$10.


Income – Spending = Net Savings

Rearranging this yields:

Spending = Income – Net Savings


Spending = Income + Net Increase in Debt

The problem arises when you try to apply this to the economy as a whole. To do this you have to say that expenditure precedes income, as Keen does.

Tom Hickey said...

This involves the difference between identities (accounting) and equations (theory). Accounting records are necessarily ex post and accounting identities do not imply causality. Equations are hypothesized to hold as causal relationships within a theoretical framework, so theory is ex ante and is confirmed or disconfirmed by what is reported ex post.

A challenge in integrating economics and finance is putting these disparate factors together in an economic model that satisfies accounting rules and is SFC. This involves not conflating apples and oranges unless the subject is fruit.

Anonymous said...

Thanks, JKH.

Incidentally, I thought you might be interested in a chapter on the use of aggregate accounts for economic models. The chapter is from an international macro textbook by one of my lecturers, who is also a bit of a development / int macro modelling guru, with stints at the IMF research shop, etc. I don’t know if you’d find it very rudimentary, or wrong in a particularly egregious way, but I think it’s more typical than the sort of treatment such things tend to receive in the blogosphere, and I’d be interested to hear your take on it. Perhaps if I email to Cullen, he could pass it on to you?

y said...

do you think Keen is conflating apples and oranges?

Tom Hickey said...

BTW, Bill Mitchell makes that distinction between operational description and accounting procedure and economic theory/modeling involving causality, although it is pretty much straight up philosophy of science.

Tom Hickey said...

do you think Keen is conflating apples and oranges?

If this is addressed to me, I'm neither a finance type nor an economists, so I'll leave it to them to sort out to the degree there is controversy, and there seems to be.

Anonymous said...


I think that’s more or less Keen’s reasoning in a nutshell, which is why I described it as a fallacy of composition. Keen looks at expenditure for an individual and says, “Expenditure is equal to income plus new borrowing (if expenditure exceeds income) or saving (if income exceeds expenditure)”. He then applies this logic to the economy as a whole. Since expenditure is equal to income plus new borrowing for an individual, aggregate expenditure (demand or whatever) is equal to aggregate income plus new borrowing. This is justified with vague references to “endogenous money”, another Keen shibboleth, with reasoning roughly as follows: Since money is endogenous, the banking system can add to demand by creating money “out of thin air”, without reference to anyone’s income or savings. So it kind of makes sense to think of aggregate demand as aggregate income plus all of the free money that the banks create.

It also puts me in mind of someone who thinks he can become wealthy by lending himself money. If I lend myself a billion dollars, I now have a billion in assets. Woo-hoo, I’m stinkin’ rich!

[BTW, not sure about that Wikipedia page. I don’t know what they mean by “net savings”. Net savings—but net of what? Surely income minus spending is just saving. It might make more sense to write “income minus spending equals change in net assets”. ]

paul said...

Seems to me the economic definition of saving is flawed, and the economics argument goes downhill from there.

WRT math, savings is the default state of income or funds in general. Except for the instant money is spent or transferred (a transaction takes place with no time dimension) money is always "savings". Money is "savings" 100% of the time.

Money is never "spending". Money is spent. Spending is an event, not a thing.

Spending is not strictly a flow, although it can be modelled as one as applied to amounts. Via the transaction, funds are "moved" from one agent in the economy to another. Faster than the speed of light.

GDP is a running total of the amount of all spending events over a year period.

What matters is the frequency at which money "turns over" or transactions take place. And of course the amount of thetransaction is important.

So what would an appropriate definition of saving be that was consistent with mathematical principles?

Ramanan said...


There is a definite difference in philosophy around the points you mention. Post Keynesians do not believe in the clearing mechanism where an aggregate supply and demand curve clear at a price in "equilibrium".

The adjustment happens via change in inventories and not by price clearing. For the service sector it is obvious (that there is no price clearing everything is supplied as demanded). Manufacturers price their products and don't adjust prices in the sense meant by neoclassical economists and one had change in inventories.

So production adjusts to supply and economies are not supply constrained in the sense meant by neoclassical economists nor by endowments.

There may be differences in opinions. Of course I don't think anybody says that there are no supply constraints whatsoever. Some hold the view that in the short term there is demand constraint but in the long run there is a supply constraint.

So aggregate supply is not equal to aggregate demand but the difference is change in inventories.

So as John Hicks said in his book "A Market Theory of Money", "... the supply-demand equation can only be used in a recursive manner, to determine a sequence; [footnote: it is a difference or differential equation]; it cannot be used to determine price, as Walras and Marshall had used it".

Effective demand is an abstraction but can be proxied by the rate of employment to the level of full employment.

So in that spirit, Keen is partially right (although his proxy for effective demand is different sense and has changed it from his earlier usage of aggregate demand) but he ends up mixing so many things that it ends up in claims where he has income both equal to expenditure and not equal to it!

Its funny, if I start with 1 + 2 ≠ 3, I can get anything I want including 1 + 2 = 3. I can never be wrong!

y said...

so do you disagree with Keen's argument that money creation by banks adds to demand?

Ramanan said...

"Seems to me the economic definition of saving is flawed, and the economics argument goes downhill from there."

It is reasonably accurate. I don't know why you want to join economists in changing definitions.

"money is always "savings". Money is "savings" 100% of the time."

Money is used typically to denote monetary aggregates. But even if we include other financial assets, money is not savings. If I have $100 in the bank and a debt of $200, my net worth is negative. If I had a house worth $400, my net worth is $300. One can create many more possibilities with histories where your intuitions simply do not make sense.

"Faster than the speed of light."

Strange, some transactions take time to settle.

"GDP is a running total of the amount of all spending events over a year period."

GDP is a "value-added" concept. Intermediate sales and purchases are excluded.

More generally since it is about domestic production, a spending on import doesn't add to gross DOMESTIC product.

"Spending is not strictly a flow"

It is strictly a flow.

Ramanan said...

"so do you disagree with Keen's argument that money creation by banks adds to demand?"


Was that for me?

No not necessarily. In his own models, loans are taken to purchase financial assets. I don't know how that "adds to demand".

Anonymous said...


The current definition of saving is not flawed. When you set out to reinvent the wheel, your two choices are either: recreating the wheel, in which case, congratulations, you just reinvented the wheel! And: creating a wheel that isn’t round. In which case, you’re boldly striking out on your own, but your wheel doesn’t work and isn’t use to anyone. The wheel works just fine as it is and won’t be improved upon by you, so why not spend your time doing something more productive?

Kaj Risberg said...

[i]In his own models, loans are taken to purchase financial assets. I don't know how that "adds to demand". [/i]

The sellers of these assets buy goods and services.

Anonymous said...

Hi Ramanan,

Neoclassical economists aren’t so dissociated from reality that they haven’t yet noticed that there are these things called “business cycles,” you know. Some of them even have notions that prices aren’t completely flexible. Some of them even have positions of power, prestige and considerable influence. You know, they’re pretty famous dudes, if you happen to be an economics nerd.

Be that as it may, it doesn’t magically transform Keen’s equation into something that makes sense. In the basic Keynesian model, we have AD = AS in equilibrium, and AD shocks result in recessions, with, yes, unplanned inventory build up, where, yes, prices don’t clear the market—and all the other usual Keynesian stuff that keeps undergrads busy and Greg Mankiw in expensive restaurants and fast cars.

Well, AD is still a function in price-quantity space, and disequilibrium requires an equilibrium condition. AD is not a number; a particular level of AD is realised at the point of intersection with the AS curve. If Keen doesn’t like this particular model, then he should use a different one. Why not start with something that you take seriously and we’ll work from there?

Ramanan said...

"And: creating a wheel that isn’t round. "


Neil Wilson said...

Accounting measures income and expenditure at the end of the day using discrete function snapshots.

Steve is measuring income and desires to spend in excess of income at the beginning of the day and following those through the day using a continuous change function.

So income at the beginning of the day + desire to spend realised by borrowing = expenditure at end of day = income at end of day = income at the beginning of the following day.

Essentially you walk into a shop with a credit card and $100 in your wallet. You walk out with a pair of trainers, $100 in your pocket and a credit card debt of $100.

You can still spend $100 during the rest of the day. Your purchasing power hasn't been diminished by the debt creation and neither has anybody else. Yet a real transaction happened, expenditure generated and income produced.

Those little forward pushes caused by aggregate debt expansion create slightly more real transactions than they strictly ought to on a discrete accounting basis.

Neil Wilson said...

"IF Steve's objective is to make his MCT and MMT (Godley-based) compatible, he needs to match up the econometrics with the accounting. "

He did do Tom. The mathematics shown in that presentation reconciles the two positions and viewpoints.

As you shrink the time period to a singularity the two approach the same value - in keeping with the mathematical rules that distinguish discrete events and continuous time.

It looked pretty solid to me.

Ramanan said...


Yes they are in power!

My comment was no defense of Keen of course. His definition of aggregate demand is so mixed with double countings.

More generally the point of my comment was the sequence unlike the standard presentation of curves where there doesn't seem to be a role of time.

y said...
This comment has been removed by the author.
y said...

expenditure = income + change in debt

looks wrong because expenditure = income

maybe Keen needs to be clearer by always explicitly stating something like:

expenditure at time t = income at time t = income before time t + change in debt

He says this at one point in his presentation, but at other points leaves out the element of time, leading to some confusion.

Tom Hickey said...

Neil, I was not implying that SK didn't since that is beyond my job description. My "if" was simply conditional.

There is presently a controversy over this. SK, you, and the MMT economists seem to be one one side and some others are on the other side of the debate. I'm a spectator to it.

Anonymous said...


It’s true that the standard ADAS model is static. It can be made dynamic quite easily, though. (Coincidentally, one of Keen's most bizarre criticisms of mainstream economists is that they don't have any dynamic models.)

My point was that no one claims that income is equal to aggregate demand, not to argue about what the correct model of the business cycle is. Keen claims that AD is equal to income plus something else (the rate of change of debt). Someone reading the discussion might think that the strangest and most contentious claim is the addition of that something else. Not so. Aggregate demand equals income is just as novel. Where does it come from? Is it an equilibrium condition? An identity? All of this passes without comment from Keen.

y said...

Where does it come from? Is it an equilibrium condition? An identity?

and the answer is....

paul said...

"I don't know why you want to join economists in changing definitions"

I have to join some club to describe a mathematical abstraction?

The definitions you speak of don't hold in math or science. Science and math was around to explain things long before economists (aka shamanists) came into the picture.

Anway, solving a math problem isn't reliant on definitions. Mathematics involves pattern recognition amongpther things.

You can't force others to play by your rules, especially when your rules don't lead to a solution, at least not one that can be proven.

"Strange, some transactions take time to settle."

I had a bet with myself that you would be the one to say that if anyone did. Trap set, bait taken.

"Spending is not strictly a flow"

"It is strictly a flow."

More difficulty with nuance. A flow is continuous over some time period. Spending is a series of somewhat haphazard if not random events that occur over some time period. Transactions. Like I said, if it helps your thinking you can call it a flow, but it is not, strictly.

And you tend to take "strict" very seriously. Apparently it's only important when someone else does it.rsot

paul said...


In which case, you’re boldly striking out on your own

Striking out on my own? Really? Mathematicians, scientists and engineers have been solving problems using their own words for many centuries. We don't need permission from pseudo-economists to do so.

Are you saying that I am limited to your preferred inadequate framework in order to solve a problem?

A framework that has been wrong or at least led to the wrong conclusions consistently over my lifetime? Really?

paul said...

"Your purchasing power hasn't been diminished by the debt creation"

No, but it is diminished by the re-payment. Debt service "cancels out" income. This income doesn't accrue to the money supply, spending, or saving.

Anonymous said...


I'm saying that any coherent method of solving the problem will turn out to be the same method that people have been using for hundreds of years. There's no need to reinvent this particular wheel. That said, your time is your own, so why not have at it? Hey, maybe there's a better wheel out there that you can discover, too!

By the way, you seem to also be a bit confused over the meaning of "tautology". Identities are never wrong and so cannot generate testable predictions. They are satisfied in every possible state of the world.

Tom Hickey said...

I'm saying that any coherent method of solving the problem will turn out to be the same method that people have been using for hundreds of years.

pauls's problem and mine also is that economics has been singularly unsuccessful at solving the problems that need to be solved.

Rats only run down the same tunnel three times without finding cheese before than give up that tunnel. Humans seem to be still running down the same tunnel with the same result.

Or to paraphrase Einstein, doing the same thing over and over while expecting different results is the definition of insanity.

In addition, we pay these people well to teach this stuff and even let them advise governments about economic policy.

Ramanan said...


There isn't problem defining aggregate demand to be the expenditure on final purchases. This differs from supply due to unsold inventories.

Dornbusch and Fisher's book does that for example.

I think PKEists would regard the aggregate demand and supply curve where p is in the y-axis and q in the x-axis as pure chimera.

It obviously differs from GDP because that includes change in inventories. It differs from output because output includes intermediate consumption etc as well.

Aggregate demand differs from national income because of the same reason. In general for open economies, there is net investment income from abroad which is included in national income not aggregate demand.

So what I wanted to say in my previous comment on this was that instead of looking at curves, PKEists look at it as a sequential process.

Yes Keen should understand that others make dynamic models too and he or PKEists are not alone in this.

Keen literally uses the notion "borrowing adds to demand" to add change in debt to gdp to define aggregate demand which he now changed to effective demand :-).

Instead he should realize that the expenditure which followed borrowing (and purchases of financial assets is not counted, which he does) is the one contributing to demand.

Anonymous said...


The problem under discussion is the definition of saving. If your dissatisfaction with the policy advice emanating from economists is relevant to the debate then it is not obvious how and the argument should perhaps be made explicitly.

Ramanan said...


"Economic flows consist of transactions and other flows. A transaction is an economic flow that is an interaction between institutional units by mutual agreement or an action within an institutional unit that it is analytically useful to treat like a transaction, often because the unit is operating in two different capacities."

- SNA 2008.

every transaction is a flow. And since spending is a transaction, spending is a flow.

"Anway, solving a math problem isn't reliant on definitions"

Mathematicians are highly obsessive (in a right way) about defining things properly.

Tom Hickey said...

The problem under discussion is the definition of saving. If your dissatisfaction with the policy advice emanating from economists is relevant to the debate then it is not obvious how and the argument should perhaps be made explicitly.

Two separate issues, v. I have no problem with defining saving as the income residual after expenditure.

The other issue paul brings up and has been dong so for some time now is wrt methodological approach. He is saying that math and science have specific methods for dealing with systems and they work really quite well. Conversely, (mainstream) economics seems to adopt a different methodological approach that hasn't worked work very well at all.

y said...

"he should realize that the expenditure which followed borrowing is the one contributing to demand".

I sure that's too complicated for him, Ramanan.

Anonymous said...


Mainstream economics hasn’t done any such thing, as far as I can see. Mainstream economics is filled with mathematicians, physicists, engineers and statisticians. They brought with them many of the same tools that can be found in those disciplines. In any case, Paul has frequently claimed that he has had no exposure to economic research, so how he could have come to such a conclusion is something of a mystery.


In equilibrium, there is no unplanned change in inventories, and aggregate demand is equal to aggregate supply. Out of equilibrium, aggregate demand is not equal to supply.

I’m fine with post Keynesians regarding the ADAS model as a pure chimera. It *is* a pure chimera. Nevertheless, post Keynesians make use of it always and everywhere. It underlies many of the debates here, for example, and the policy prescriptions coming from MMTers. That’s fine too. It’s clearly a useful way of organising your thinking, even if it is a throwback to the old days of Keynesian macro, before people realised that it might also be helpful to model the economy at levels other than those at the highest possible level of aggregation and abstraction.

It’s good to look at the dynamic case as a sequence of markets. That’s actually very similar to the dynamic general equilibrium approach. The ADAS model itself can easily be adapted to give it dynamics. Then you have a sequence of ADAS curves.

Tom Hickey said...

@ vimothy

Noah Smith, physics undergrad reflecting on his grad ed in econ.

What I learned in econ grad school

What I learned in econ grad school, Part 2

Here's a sample:

The first was that the DSGE framework is a straitjacket that is strangling the field. It's very costly in terms of time and computing resources to solve a model with more than one or two "frictions" (i.e. realistic elements), with more than a few structural parameters, with hysteresis, or with heterogeneity, etc. This means that what ends up getting published are the very simplest models - the basic RBC model, for example. (Incidentally, that also biases the field toward models in which markets are close to efficient, and in which government policy thus plays only a small role.) 

Worse, all of the mathematical formalism and kludgy numerical solutions of DSGE give you basically zero forecasting ability (and, in almost all cases, no better than an SVAR). All you get from using DSGE, it seems, is the opportunity to puff up your chest and say "Well, MY model is fully microfounded, and contains only 'deep structural' parameters like tastes and technology!"...Well, that, and a shot at publication in a top journal.

Finally, my field course taught me what a bad deal the whole neoclassical paradigm was. When people like Jordi Gali found that RBC models didn't square with the evidence, it did not give any discernible pause to the multitudes of researchers who assume that technology shocks cause recessions. The aforementioned paper by Basu, Fernald and Kimball uses RBC's own framework to show its internal contradictions - it jumps through all the hoops set up by Lucas and Prescott - but I don't exactly expect it to derail the neoclassical program any more than did Gali.

It was only after taking the macro field course that I began to suspect that there might be a political motive behind the neoclassical research program (I catch on quick, eh?). "Why does anyone still use RBC?" I asked one of the profs (not an RBC supporter himself). "Well," he said, stroking his chin, "it's very politically appealing to a lot of people. There's no role for government." 

That made me mad! "Politically appealing"?! What about Science? What about the creation of technologies that give humankind mastery over our universe? Maybe macro models aren't very useful right now, but might they not be in the future? The fact is, there are plenty of smart, serious macroeconomists out there trying to find something that works. But they are swimming against not one, but three onrushing tides - the limited nature of the data, the difficulty of replicating a macroeconomy, and the political pressure for economists to come up with models that tell the government to sit on its hands.

Macro is a noble undertaking, but it's 0.01 steps forward, N(0,1) steps back...

Anonymous said...

Noah Smith is talking about RBC DSGE models. Mainstream economics is a lot bigger than that one single modelling strategy. It's pretty obvious that Smith is at least as politically motivated as the people he is criticising. It's also pretty obvious that the RBC people have no political influence (since there is no role for the government in their models.)

Tom Hickey said...

More from Naoh, this from part 1.

Around that time, I started teaching undergrad macro (under Miles Kimball and others), and was instantly struck by the disconnect between what I was teaching and what I had learned. Intro macro had a lot of history. Explication was done with simple graphs rather than calculus of variations. And undergrad macro was all about demand - never once did I utter the words "technology shock" in class. We taught Keynes and Friedman. Minsky got a shout-out, and we spent a whole week on the fragility of the financial sector, in addition to the week we spent analyzing the 2008 crisis.

In other words, Brad DeLong would probably have approved of the macro course I taught. He would probably think that the bankers, consultants, managers, executives, accountants, and policy researchers who even now are going through life looking at the economy through the lens of that intro macro class have been reasonably well-served by their education.

But all the same, I absolutely don't blame the grad-level professor for teaching what he taught. Our curriculum was considered to be the state of the art by everyone who mattered. Without a thorough understanding of DSGE models and the like, a macroeconomist is severely disadvantaged in today's academic job market; if he had spent that semester teaching us Kindleberger and Bagehot and Minsky, our professor might have given us better ways to think about history, but he would have been effectively driving us out of the macroeconomics profession.

Thus, DeLong and Summers are right to point the finger at the economics field itself. Senior professors at economics departments around the country are the ones who give the nod to job candidates steeped in neoclassical models and DSGE math. The editors of Econometrica, theAmerican Economic Review, the Quarterly Journal of Economics, and the other top journals are the ones who publish paper after paper on these subjects, who accept "moment matching" as a standard of empirical verification, who approve of pages upon pages of math that tells "stories" instead of making quantitative predictions, etc. And the Nobel Prize committee is responsible for giving a (pseudo-)Nobel Prize to Ed Prescott for the RBC model, another to Robert Lucas for the Rational Expectations Hypothesis, and another to Friedrich Hayek for being a cranky econ blogger before it was popular. 

JKH said...


I’m with you on this, I think.

ADAS as analysis is orthogonal to expenditure = income as analysis.

You can’t mix AD with income and expenditure coherently in the same equation, if that equation is meant to be a generality.

I have no real problem with ADAS analysis, inventories or not, although have no great interest in trying to make an elaborate model out of the idea. Just keep it out of the way of expenditure = income and don't mix it up with that type of equation.

I don’t know whether Keen’s approach is a fallacy of composition or a fallacy of time inconsistency, but it is an inappropriate use of terminology and concepts.

And if somebody is saying that yesterday’s income plus today’s borrowing results in today’s and income, that’s just a unique story in itself, perhaps applicable to a particular context.

But it isn’t the result of any generalized equation that claims AD (or expenditure) = debt + income. That equation is nonsense in terms of stock/flow consistency, time consistency, and compositional consistency.

Anonymous said...


Agreed. Whatever one thinks about the merits of the ADAS model (a useful way of organising our thinking about the role of unanticipated changes in the saving rate in business cycle fluctuations, in my view, but hardly the last word on the subject), it at least makes sense on its own terms, whereas no good can come from cutting and pasting bits of it haphazardly into the income-expenditure identity.

Ramanan said...


There are two types of things found in textbooks. One is the kind done in Dornbusch and Fisher where they draw diagrams with AD on Y axis and Output on x-axis and try to give a narrative of how an equilibrium level is reached from one level.

That is okay. As you said

"The ADAS model itself can easily be adapted to give it dynamics. Then you have a sequence of ADAS curves."

and one can do the reverse as well, i.e., have a dynamic model and try to give a narrative in the sense given in Dornbusch's book.

The other thing is a representation in p-q space where the function of prices is to clear the market which PKEists would take issues with.

Ramanan said...

"I sure that's too complicated for him, Ramanan."

He he .. yeah. That is why the critique of his "model" holds - he is still left with double counting and hence is left with income not equal to expenditure, although he claims both are true (how contradictory!)

In other words his equation 1.13 is wrong because it is claimed to hold at the level of the economy.

JKH said...


You seem to be suggesting that there is some sort of economics where inventories are "not allowed".

Is there really such a thing?

Ramanan said...


Yes all of neoclassical economics I guess!

Economies run at the maximum production possible given by the production function. Prices are such that the last unit produced would sell.

The story of aggregate demand intersecting aggregate supply itself is based on that notion.

I think economists have realized that because there is unsold stuff, but the story is build around similar story rather than completely getting rid of it.

Anonymous said...

Really, though, that isn't true.

The ADAS model isn't a market clearing model. It isn't even a neoclassical model. It's starts with the idea that fluctuations in aggregate demand might cause fluctuations in output and employment.

There are market clearing models of the business cycle, but these are the new classical real business cycle models that Noah Smith bemoans above. They're also not the dominant approach in macro, which is represented by people like Gali, known as New Keynesian economics, and which is non-market clearing, has sticky prices and wages, market failures, etc, etc.

y said...


Keen's Minsky quote:

"For real aggregate demand to be increasing, it is necessary that current spending plans be greater than current received income and that some market technique exist by which aggregate spending in excess of aggregate anticipated income can be financed. It follows that over a period during which economic growth takes place, at least some sectors finance a part of their spending by emitting debt or selling assets."

Would you agree with that?

- In this inet presentation Keen argues that his inclusion of assets is correct and the mainstream view is wrong (this link goes to the precise point in the video):

Ramanan said...


Mankiw's textbook clearly has a diagram which suggests prices clear to bring AS and AD in equality.

He is a NKEist right?

Ramanan said...


Keen is generally okay but ends up with inconsistencies.

Let us see, for a sector

Y_E - Y_I = dD/dt

Sum over all sectors.

A change in debt is an increase in financial assets for someone else.


Y_E - Y_I = 0

Continuous time, Lebesgue Intergal techniques etc don't change it.

y said...

"A change in debt is an increase in financial assets for someone else"

sure, but why is that a problem for Keen's argument?

Coming back to the Minsky quote, it's clear that when Keen says "aggregate demand equals income plus the change in debt" he's referring to "current received income", like Minsky.
That's actually what he says in the paper you linked to:

"aggregate demand equals current received income plus the change in debt"

where aggregate demand (monetary demand) includes spending on goods and services and purchases of assets (in Keen's non-standard definition).

Ramanan said...
This comment has been removed by the author.
Ramanan said...


If you see the paper I linked, in things above 1.13, he gets it both for when there is borrowing for speculation and when there isn't! :-)

Check eqn 1.8

Ramanan said...


That illustrates JKH's point that one cannot make behavioural assumptions that are not consistent with accounting.

Keen's assumption that workers spend all their income (and don't have any wealth) is the one which leads to accounting errors in his model till equation 1.8.

So while firms borrow for investment, the counterpart is saving.

Workers have to save and the saving (same as net saving in this case) is the counterpart to firms' increase in debt. It reflects as workers' money deposits if the model was made more explicit such as having three sectors: firms, banks, and households.

Alternatively you could have retained earnings in every period financing investment.

y said...

"Keen's assumption that workers spend all their income"

I don't think he's making that assumption. His "change in debt" can be negative i.e. "savings". (I know you take issue with that).

Ramanan said...


In his presentation workers can borrow.

In his paper C = W + pi_D

so workers do not borrow.

But even if we include workers taking loans, by the logic of accounting they will be left with a negative dD/dt net.

That cancels out the postive dD/dt of firms!

JKH said...


A growing economy generally warrants growing inventories.

Surely an intended or planned increase in inventories is part of aggregate demand?

JKH said...


My last question stands, although it is not entirely fair in that it's not the original point I intended on making.

Suppose a car dealer transacts with a manufacturer on the basis of an aggregate demand curve. The market "clears" at the price at which the dealer wants to stock new inventory. And that is his planned point of inventory accumulation on a gross basis, before sales.

Suppose during the same time period the car buyer transacts with the dealer on the basis of the buyer's aggregate demand curve. The market "clears" at that price, but may leave the dealer with unplanned inventory.

The market "clears" in this example, although there is unplanned inventory. This is a bit different that my first question, but in either case there is a change in inventory, although the market "clears".

What am I missing?

Ignacio said...

"Accounting measures income and expenditure at the end of the day using discrete function snapshots.

Steve is measuring income and desires to spend in excess of income at the beginning of the day and following those through the day using a continuous change function.

So income at the beginning of the day + desire to spend realised by borrowing = expenditure at end of day = income at end of day = income at the beginning of the following day.


That's what I meant in other thread when I said that most accounting based models were not truly dynamic models. Vimothy said that they are dynamic to every extent.

IMO, from an engineering and production of the models point of view they are not dynamic. Sure, they work in a dynamic framework, but the flow is accounted ex post facto, thus is a description for an event, and it has no predictive power (in a formalized mathematical way). That's what I meant with that these models were not really dynamic, maybe I should have said that they don't work dynamically (more accurate).

The foundations of the framework (linguistic considerations apart) are similar (yes, both work dynamically), but the actual construction of the models is not. that's why I think is important the work Keen (AND OTHERS, I'm aware more models are arising with this trend, usually based on these same Godley foundations; in fact the same INET is funding other projects which are trying to produce dynamic models based on that framework) continues.

And the same way MCT and MMT can be consolidated I believe the semantic issues can be easily worked out too.

Greg said...

Gosh, leave town for four days to see a grandchild and miss out on this?!!

Great post Ramanan and equally fine discussion all. I dont know where to begin inserting my $.02 worth.

I'll just say I really like Keen too but he does need to refine his thinking it seems.

Y's opening comment has a caveat that I find important because most people completely botch this; "The point being that "taking on debt" equals the creation of new purchasing power out of nothing by a bank - NOT the lending out of previously saved funds." So if you are not lending previously saved funds, and bank lending is an important driver of investment (demand expansion) then there is no need for ANYONE to save in a prior period in order for us to invest next period...... PERIOD, full stop.

This goes right in to Paul and Vims discussion about saving which I also feel is terribly misapplied by the vast majority of people, who get most of their ideas from neoclassical/supply side econ. It seems you disagree Vim about the current definition of saving and it may be true....... for you, but there is no doubt that the average person does not understand saving as many economists talk about it AND most of them got their definition from some economist.

To me an important issue is the stability of a system being mostly driven by bank credit money and how to achieve it. Since all bank credit is paid back out of incomes, the incomes of borrowers must rise along with credit creation but it is borrowers incomes which seem to be the driver of the inflationary numbers watched by central bankers. Upticks in incomes, which must happen in order to pay back increasing credit creation, are a source of apoplexy for many on the FRB. So that which is necessary to keep their credit game going is often fought against on CB policy levels........ Are they daft or just outright mendacious?

Anonymous said...

Ignacio, That's not really true, though. Godley's models feature consistent stock-flow relations, but they also involve behavioural equations that determine the dynamics of the model.

Anonymous said...


See this blog post for a brief summary of the simplest model in Godley & Lavoie. The treatment in the book is a lot clearer, and includes accounting and behavioural matrices, etc., but you should be able to get the gist of it from this. I posted a link to a simulation of the model the last time we discussed it.

Ignacio said...

Thanks for the references Vimothy, I'll check it out.

So in your opinion Keen work does not add up anything to what was already around and confuses more than it helps?

Anonymous said...

I wouldn't say that. I don't think that this particular equation makes sense, and from what I've seen his criticism of mainstream economics is not great, but that might not be indicative of the quality of the rest of his work. I'm not really familiar enough with it to have an informed opinion.

Ramanan said...


There isn't any intrinsic rate at which economies are moving. Firms can increase their inventories to sales ratio but a single firm by itself has a limited market for its product and may not expand production. Except in financial markets, economic agents look at quantity signal than price signal. Increasing production can only work if firms expand in concert.

The Keynesian principle of effective demand is that economies are demand constrained and production is far from the potential. Consumption and investment have some autonomous element in them but it is not the increase in the potential output by itself which leads to an expansion of output but some exogenous component of demand such as government expenditure. In the long term, it is actually exports.

Ignacio said...

"his criticism of mainstream economics is not great"

Can you expand on that? I think while a bit 'whiny' a lot of his criticism is solid.

Kain said...


Not sure if you've addressed it, or if someone else commented (Only read about 60 of the comments), but your argument appears to be twofold:

1) That purchasing financial assets does not equate to an increase in expenditure, and

2) That new income acquired by a loan can simply be saved, and thus would not add to total expenditures (or ED/AD).

On point 1), I don't exactly understand. If I were to pay $200,000 for a house, that 200k would then go into the bank account of a homebuilder or the home's former owner. If I were to spend $200 on a stock, the seller of the stock would now have $200 more in income. So explain to me how it would not lead to expenditures, if the admittedly fuzzy 2) is addressed,

On point 2), I agree, Keen's model is not factoring in how some of the new income may be saved instead of spent/invested. It's a bit understandable though, as the data needed for this kind of measurable savings is either impossible or hard to find at the moment. You would essentially have to differentiate between the recorded total savings amount and subtract the portion of savings that is directly put through a financial intermediary and spent back into the economy (think of government bonds, loan sharks, person-to-person lending, venture capital, etc.) - as opposed to the savings that is deposited into a bank account or stashed under your mattress. So in a sense, I think Keen's model is just incomplete but headed toward the right track. It should be, rather, Expenditures = Income + Change in debt - non-LF'd savings (non-'Loanable Funds', i.e the amount of savings that goes right back into the economy through a financial intermediary).

Do you get my drift here at all?

Anonymous said...


Have a read of this for an e.g.:

Ramanan said...


For manufactured products, firms are roughly price setters because of quality differentiation. So the manufacturer may have to do some negotiation with the dealers but generally I would imagine they don't negotiate too often to have good relations. Also the car buyer may negotiate with the dealer and the salesman may have some price band around which he is allowed to sell. If the buyer tries to negotiate too much, the salesman may just refuse.

Of course there is the discount season where retailers try to sell everything they have at huge discounts such as for clothes, but the general story an economist tries to tell is as if the prices of goods are moving like stock market prices.

Now they have realized that the original formulation was totally wrong so they have some theories around it.

Ramanan said...

"If I were to spend $200 on a stock, the seller of the stock would now have $200 more in income."

But that is not income.

Imagine I was the person who sold you the stock which I purchased for $220 a year back. Would you say I have $200 in income? That is not the right way to say it.

I couldn't actually follow your other point. But I would say that the counterpart of the increase in debt of firms is households' saving. The way he writes his equations, there seems to be a liability without a counterpart financial asset.

Kaj Risberg said...

- Keen's model is not factoring in how some of the new income may be saved instead of spent/invested. -

According to Keen the correlation between employment and debt increase between 1980-2012 was 0,8 (1,0 maximum). That suggesta that the new income was actually spent. (I don't know about the model though)

y said...

can anyone get access to Keen's blog? I haven't been able to access it for days.

Ramanan said...


Nobody here denies that it was a private sector debt led boom but since economics is not an exact science, one has to be accurate in standard concepts. So the conclusion is that he needs to be accurate.

Tom Hickey said...

Greg To me an important issue is the stability of a system being mostly driven by bank credit money and how to achieve it.

It's good to keep in mind that all money denominated in a particular unit of account (currency) that is in use by non-govt is either bank money netting to zero or NFA injected by govt. There are also derivatives built on that infrastructure and money-like credit.

This is a complex web that is masked by both economic modeling and an overly simplistic approach to accounting. This degree of complexity is not going to be easy to model without a lot of "moving parts." No black boxes either.

JKH said...


Thanks. Didn't quite get to my question though. No car dealer targets zero inventory at the end of an business accounting period, unless he intends on going out of business. That would simply be suboptimal inventory management. Given that, its only logical that macro level inventories increase as the economy grows - ex technology improvements in inventory management. Given that, I struggle to see the meaningfulness of supply demand functions in a world that must be stock flow consistent from an accounting and business perspective. If you premise some notion of "market clearing" of "supply and demand" on the objective of zero inventories, markets will never "clear" by the dealer's objective. That seem silly for the real world.

Ramanan said...


My point was that non-heterodox economics had been describing as if there is a market place where everyone meets and products are cleared as if it is a fish market. So the description is as if there is no inventory at all.

The notion of supply makes sense however. A manufacturer may expect demand to go up and will produce more expecting higher sales, so there is higher supply than otherwise. It may turn out to be wrong, so there is more inventories left. The producer will then produce less in the next period.

The demand side makes sense because for example households may increase their propensity to save and hence purchase less. They may not even change their propensity to save but consumption demand may be less because households' income dropped.

Or it that tangential to your point?

Ramanan said...

From the second para above not talking of neoclassical economics

JKH said...

Yes, Ram. It's tangential.

My original question was:

"You seem to be suggesting that there is some sort of economics where inventories are "not allowed".Is there really such a thing?"

You replied yes, but I think you may mean that supply and demand imbalances are relative to planned or expected inventories. As I said, it seems ridiculous to imagine that economics anywhere would presume that inventories don't exist.

But beyond that - a separate point. My natural foundation for thinking about economics (to the degree I think about it all :)) is stock/flow accounting consistency. This has little to do with Godley et al, and much more to do with personal experience.

The result is that I spend little precious time on supply and demand functions.

So I wonder how you even get supply/demand thinking consistent with stock/flow based economic thinking?

JKH said...

E.g. Ram:

Define "market clearing" of supply and demand in financial markets e.g. GM stock - when there is always a limit order for stock above the last trade price. If you treat that sell order as a "business", it means that there is always "inventory", and the market never clears. On the other hand, the market always clears what's offered against what's bid at the prevailing price. So what does clearing mean and what does supply and demand mean in that context?

(Yes I know its an asset market example; not an expenditure/income market example - the counterpart to the GM car dealer market maybe.)

Steve Roth said...

We've meandered through these thickets before...

@Ramanan: "ends up in claims where he has income both equal to expenditure and not equal to it"

He's not alone in promulgating confusion.

Saving = Income - Expenditure

But Income = Expenditure! So Saving = 0.

I know, I know, "Saving" = Income - "Consumption Expenditure"

So we'll just call Gross Investment in Fixed Assets "Saving."

That makes everything so much more understandable, don't you think?

JKH said...


The issue back then was sector-consistent definitions of saving, which must include the potential for sector dissaving, which can't be covered by saving = gross investment. It has to be a residual definition, because of the sector imbalance problem.

Here, we've been discussing expenditure = income in the context of a closed system. The problem here is what I think is a time inconsistency in Keen's equation.

Your saving = investment also works for a closed system at the macro level. But the discussion back then had to do with sub-sectors such as the household sector, etc. That's my recall anyway.

Steve Roth said...

JKH, right as always. It's really about the words we use to describe the accounting.

In my example Gross Investment Spending = Saving

So Spending = Saving!

I don't know how anybody could be confused by that.

My intuition says that there are fundamental, low- (high-)level conceptual disconnects going on in this current discussion, having to do with how we think about (thinking about) ex-post and ex-ante. "Planned" and "effective" (potential?) demand, "expected" saving, etc. I think Nick Rowe thinks he completely understands these relationships (and Keen is obviously trying to, maybe thinks he does), but my intuition tells me that one or the other or both doesn't/don't.

geerussell said...

It seems like the proper place for private debt wrt sectoral balances would be something like this:

Net Government balance + (Net domestic Private balance + Net domestic private debt) + Net foreign balance = 0.

With that, I can see private debt accommodating net private savings (the residual) in the same fashion that net gov and net foreign do without any accounting violations or making up my own definitions. Unless I'm missing something. Which I probably am.

Ramanan said...


I have this book "A Market Theory Of Money" by John Hicks written in 1989 (who would have been embarrassed all his life for his IS/LM) whose first chapter is "Supply And Demand?"

In that he points to the fact that just everyone outside the heterodox community believe in Walras and Marshall. Their writing was as if there is no inventory!

I see a lot of Walras's name in many blogs!

Also, I don't know much mainstream economics, but it is possible they have taken this into account but usually these tweaks are built around the same old notions.

(An example of this is the crowding out theory which doesn't seem to work, so neoclassicals say central bank monetizes the debt - as if the amount of cash held by the public is purely determined by the central banks' action and doesn't depend on households' needs).

Hicks ends the chapter saying that the difference between supply and demand is the change in stocks (inventories).

However no price clearing is assumed. The role of prices is different altogether.

It is still possible to have stock flow consistency with a demand and supply description. But it is entirely different from the standard mainstream text and little to do with "supply demand diagrams"

Whatever the firms produce is the supply and whatever the purchaser of final sales demands is the demand.

[But since firms decide on production on how much they expect to sell (not necessarily equal to it), it is said economies are demand-led.]

One example: It is possible that my propensity to consume is dependent on the interest rates. Higher the rate, lower I consume. So if interest rates are hiked, I demand goods and services less. so firms as a whole will be left with more inventories. Hence they will supply less in the next production period.

So the demand-supply thinking can be very well be consistent with stock-flow consistency.

Anonymous said...


It’s been a while since I read Mankiw, but if I remember correctly he models prices as sticky in the short run, flexible in the long run, with a vertical long run aggregate supply curve. If you think about it, the ADAS model is meant to explain the aggregate fluctuations that typify the business cycle. If you have continuous and instantaneous market clearing then the model is not going to generate those fluctuations in response to demand shocks.

It seems to me that you are confusing the ADAS model with competitive general equilibrium proper. CGE is certainly a neoclassical model, but it’s not to be mistaken for ISLM and ADAS!

JKH said...


"My intuition says that there are fundamental, low- (high-)level conceptual disconnects going on in this current discussion, having to do with how we think about (thinking about) ex-post and ex-ante. "Planned" and "effective" (potential?) demand, "expected" saving, etc. I think Nick Rowe thinks he completely understands these relationships (and Keen is obviously trying to, maybe thinks he does)"

Yes. Right on. That's what I mean by time-consistency (or inconsistency) issues, as opposed to "spatial" issues that were more the focus of our previous sector type discussions

Also, very interesting that you mention Nick. I thought of him as well in his various posts about the meaning of supply and demand curves and how they are often misinterpreted, etc.

JKH said...


I have weird thoughts about markets - as in the idea that stock markets are always wrong and that volatility is the evidence of this.

In the same way, it seems to me that debates about the existence of equilibrium or not are a matter of time positioning - I could say that stock markets are always right in the current price and always in current equilibrium merely because trade takes place, or that they are always wrong and always in current disequilibrium merely because the price will always change.

Cat chasing its tail, so to speak.

Similarly with supply equal to demand or not.

Leads me to believe that all is BS outside of stock flow consistent accounting.

And I think that if somebody gives me an example of a transaction in a pure barter economy, I can translate it to stock flow consistent accounting. So this is no mere superficiality in my view.

Steve Roth said...

@Ramanan: You mentioned Hicks' book earlier and I sprinted to look at it on Google Books and Amazon. Seems great from what I'm allowed to see. Unfortunately it's like $115!

See also Clower on "Stock Supply" vs. "Flow Supply." You see economists using those terms occasionally (including Nick Rowe), vaguely and sloppily, but aside from that one early, tentative Clower article I don't think this subject has been theorized at all. It's where my thinking has naturally led me, thinking about supply and demand in equity markets (almost all stock supply) vs services (all flow) vs commodities (mixed).

Anonymous said...

In the ADAS model, think of equilibrium is a methodological convenience that enables us to isolate the effect of a shock. In the event of a shock, not everyone's plans will be satisfied at current prices and there will have to be some kind of adjustment process--the adjustment process being exactly what we're interested in.

Anonymous said...

Think you're in the wrong thread, Tom!

Tom Hickey said...

Fixed. Thanks.

Tschäff Reisberg said...

From Keen:
"Yes & they're confusing ex-ante & ex-post. Simplest def'n: Expenditure=Income before debt injection plus debt injection."

Anonymous said...


Can you explain, before what fact?

Is income meant to be the same ex ante and ex post, bigger ex post than ex ante or bigger ex ante than ex post?

Let's say that income is $1000 and dD/dt is $100 per year. What is "ex ante" aggregate demand here (i.e., what is $1000 plus $100 per year)?

Greg said...

@Tom.."It's good to keep in mind that all money denominated in a particular unit of account (currency) that is in use by non-govt is either bank money netting to zero or NFA injected by govt. There are also derivatives built on that infrastructure and money-like credit."

Yes, that much is clear to me. I additionally think about it like this; My salary is not a loan to me but it may have ultimately come from a loan to my employer (our group apparently has borrowed to make payroll recently), so while Im not a borrower of my salary someone else is(sometimes). This cannot go on forever. We cannot in aggregate keep simply borrowing from banks to continue to make payments..... its just pure ponzi then. I think this is what separates Bank money from Treasury money(NFA). At some point our "non borrowed" income must be sufficient to pay down our debts or we will be insolvent. In aggregate, bank money cannot be the ultimate source of our income, it must come from somewhere else. We cant simply borrow ourselves to prosperity.

Relating this to how I see some of Keens point. My buying power or aggregate demand is my income plus whatever I might borrow. Whatever I borrow is not income but a one time burst of spending which can certainly lead to economic activity (car or home manufacturing) and increase employment (related to car and home manufacturing, sales, repairs etc) or it can simply be an increase in my deposit level with an offsetting loan (net to zero) Until I take my deposit and do something with it its not adding to demand whether that be a car, house or even a stock purchase. My loan then becomes someone elses income then just like my bosses loan can become MY income. Once that deposit changes names from mine to Akin Fords, it is now Akin Fords income and I need to use my income to pay down my debt to the bank. Now my aggregate demand potential is my income minus the % of income I use to pay down my debt. Akin needs lots of us using our debt to create their income stream. Once that slows down too much we have what we have seen the last 4 years.

This is a complex web that is masked by both economic modeling and an overly simplistic approach to accounting. This degree of complexity is not going to be easy to model without a lot of "moving parts." No black boxes either"

Greg said...


That last paragraph in my previous comment was copied from Toms comment as well and mistakenly pasted in my post. My comment ends at "4 years"

Anonymous said...

I comment in detail on my blog here

Tom Hickey said...

Thanks.Promoted to a post.

JKH said...

“Expenditure = Income before debt injection plus debt injection.”

That expresses future period expenditure as a function of prior period income, which is fine as a functional expression.

But he should make that time sequence clear in his equation notation. It is Steve who has confused ex post and ex ante in his existing equation.

And that functional expression is certainly nothing like an accounting identity, for a host of reasons that have already been discussed.