hansen 1951
TRANSCRIPT
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Classical, Loanable-Fund, and Keynesian Interest TheoriesAuthor(s): Alvin H. HansenSource: The Quarterly Journal of Economics, Vol. 65, No. 3 (Aug., 1951), pp. 429-432Published by: Oxford University PressStable URL: http://www.jstor.org/stable/1882223 .
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CLASSICAL,
LOANABLE-FUND,
AND KEYNESIAN INTEREST THEORIES
By
ALVIN
H. HANSEN
Keynes
attacked
the classical theory f interest n the
ground
that it is
indeterminate.According
o
classical
theorythe rate is
determined
y the intersection f
the investment
emand-schedule
and thesaving-schedule
schedulesdisclosing
herelation f nvest-
ment and
saving
to the
rate
of interest. No solution,
however, s
possiblebecause the positionof the saving-schedulewill vary with
the
level of real income.
As income
rises,
the schedule will
shift o
the
right.
Thus we cannotknow what the rate
of interestwill
be
unless
we
already
know
the
income evel. And we cannot know the
income evel without
already
knowing he rate of interest,
ince a
lower
nterest ate
willmean a largervolume
of investment,
nd so,
via
the
multiplier,
higher
evel of real ncome.The classicalanalysis,
therefore
ffers
o
solution.
Now exactly he same criticismppliesto the Keynesiantheory.
According
o the Keynesian
theory he rate of
nterest s
determined
by the ntersection f
the supply-schedule
f
money perhaps
nterest
inelastic,
f
rigorously
ixed by
the monetaryauthority)
and the
demand-schedule
ormoney the
iquidity-preference
chedule).
This
analysis
also
is
indeterminate
ecause the
liquidity-preference
ched-
ule
will shift
p
or down with
changes
n
the income
evel. Here
we
are
concerned
with the total
liquidity-preference
chedule
ncluding
both the transactions demandand the asset demandformoney.
If
we separate
the total demand schedule
for
money
into
its
two
component
arts,
we could
perhaps
argue
that the
pure
liquidity-
preference
chedule
is independentof the
level of income.'
But
this does
not
help
matters,
ince
we cannot
know,given
the
total
money upply,
how much
money
will
be available
to
hold
as an asset
unlesswe
first
nowthe evel of
ncome. Thus
the
Keynesian
theory,
like the classical,
s
indeterminate.
n the Keynesian
case the money
supplyand demand-schedulesannotgivethe rateof nterest nless
we
already
know the
income evel;
in
the classical
case
the
demand
and
supply
schedulesfor aving
offer
o
solutionuntil
the
income
s
known.
Keynes' criticism f the
classical theory
pplies equally
to
his
own
theory.
1.
In fact since expectations are
influenced by
the
level
of income
this
is
not a permissible assumption.
The
liquidity preference case
is therefore ven
weaker
than
here
indicated.
429
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8/17/2019 Hansen 1951
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430
QUARTERLY JOURNAL
OF ECONOMICS
Precisely
he same s trueof
the oanable-fundheory.According
to the loanable-fund
nalysis, the rate of interest
s determined
y
the intersectionf the demand-schedule or oanable fundswith the
supply-schedule.
Now the supply-schedule
f loanable funds is
compounded f
saving in the Robertsonian
ense) plus net additions
to loanable funds from new
money and the
dishoarding of
idle
balances. But since the savings
portion of the
schedule varies
with he evel
of disposable income,2t follows hat
the total supply-
schedule of oanable
funds lso
varies with ncome.
Thus this theory
is also indeterminate.
In the loanable-fund heory,the relevant supply-schedules
conceivedof
n terms f oanable
funds i.e., voluntary
aving plus
new money).
In the neo-classical
theory of Pigou, however, the
relevant upply-schedules conceived
n terms f aving
out ofcurrent
income. Saving
is defined s
the excess of total income received
over income
received for services n providing
for consumption. '
Again, in the
same vein, aggregatemoney saving
is defined
s
the excess of
money
income over expenditures n consumption
goods. 4 Here income, consumption, nd saving,all apply to the
same
period. Money savings are
that part of current
ncomewhich
is not consumed. Now current
ncome is derived
from current
expenditures.
Whether r not
current ncome s fed n part from
he
injection f newmoney r from
he activationof dle
balances, makes
no difference
hatever rom he
standpoint f the
Pigouvian or neo-
classical definition.5
ncome is income whether
t springs
rom
he
spending of
funds borrowed frombanks or from
the spending
of
prior ncome;and saving from uch income s saving even though
bank credit
played
a
role
n
the process
of
ncome
creation.6
Accord-
ingly,
n
Pigouvianor neo-classical
heory, saving
is
in
effect
he
same
thing
s
loanable
funds.
In
Robertsonian
anguage,however,
loanable funds consist of voluntary
saving
(i.e., saving
out
of
disposable
income) plus borrowed
bank fundsand
activated
idle
balances.
In
Pigouvian anguage, aving out
of current
ncome
may
well exceed
voluntary or Robertsonian) aving
n so far
s
current
income s increasedby bank loans or the injectionof idle balances.
2. Disposable income
is here used in the Robertsonian sense,
i.e.,
yesterday's income.
3. See A. C. Pigou, Employment nd Equilibrium, p. 30.
4. Ibid, p. 31.
5. It is important to be clear about the implications
of
these
definitions
when
people or governments borrow
from the banks. Everybody
agrees that
money so borrowedonly becomes
income when t is paid out, for ervices
rendered,
to factors of production (ibid,
p. 30).
6.
Ibid, p. 30.
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INTEREST
THEORIES
431
Thus the
Pigouviansupply-schedule
f savings
amounts
to the same
thing as
the Robertsonian
or Swedish
supply-schedule
f loanable
funds. It is therefore ot necessary o distinguish urther etween
them,
nd hereafter
shall refer nly
to
the neo-classical7
heory
n
theone side,
and
theKeynesian
on
the other.
The neo-classical
formulation
nd the
Keynesian
formulation,
takentogether,
o supply
us with
an adequate
theory f the
rate
of
interest.
From
the neo-classical
formulation
we get
a family
of
saving-schedules
t various
income
evels. These
together
with the
investment-demand
chedule8
give
us the Hicksian
IS curve.
In
otherwords,the neoclassical formulationells us what the various
levels
of ncome
will be
(given
the
investment-demand
cheduleand
family f
saving-schedules)
t different
ates of
interest.
From
the
Keynesianformulation
we get
a family
of liquidity
preference
chedules
at various
income evels.
These together
with
the
supplyof
money
fixedby the
monetary
uthority, ive
us
the
Hicksian
L
curve (which
prefer o
call the
LM
curve ).9
The
LM curve
tells us what
the
various
rates of
interest
will be (given
thequantityofmoney nd thefamily f iquidity-preferenceurves)
at differentevels of
ncome. But the
iquidity
chedule
lone
cannot
tell
us
what
the
rate of interest
will be.
The IS curve
and the
LM curve
are
functions elating
he
two
variables: (1)
incomeand
(2)
the rateinterest.
Income
and the
rate
of interest
re therefore
etermined
ogether
t the
point
of
intersection
f these two
curves
or
schedules.
At this
point
income
and the rate of interest
tand
in
a relation
o
each other
uch
that:
(1) investmentnd saving re n equilibriumi.e.,actualsavingequals
desired aving)
and (2) the
demand
formoney
s
in
equilibrium
with
the
supply
of money
i.e., the desired
amountof
money s
equal
to
the
actual
supply
of
money).
Thus
a determinate
heory
f nterest
s based
on: (1) the
nvest-
ment demand function, 2)
the saving-function
or
conversely
he
7. The classical
theory
may be said to
coincide
with the
neo-classical
or
Pigouvian theory
n
the special case
in which
no new
money is- eing created
by
the banking systemand in which idle balances are not being dishoarded.
8.
Perhaps
a family
of
investment-demand
schedules,
one for each
level
of income.
Everyone
will agree
that a change
n the level of income
affects
he
volume
of investment,but
not everyone
will agree that
the level
of
income
is
a
determinant
of net nvestment.
9. See
my Monetary
heory nd
Fiscal
Policy,Chapter5.
The
LM
curve
represents
situation
in which
L
=
M in an equilibrium
sense, L meaning
the demand for money,and
M
the supply
of money.
Similarly
the
IS curve
indicates
a condition
n which
I
=
S
in an equilibrium
sense
(i.e., the multiplier
process has
fully worked
itself
out).
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8/17/2019 Hansen 1951
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432
QUARTERLY
JOURNAL OF ECONOMICS
consumptionfunction),
3) the liquidity
preference unction,
nd
(4) the quantity
of
money. The
Keynesiananalysis,
ooked
at as a
whole, nvolvedall of these. But Keynes neverbroughtthemall
together n
a comprehensive
ay to
formulate n integrated
nterest
theory.
He failed to
point out specificallyhat
liquidity
preference
plus the
quantityofmoney can give
us not the
rate of interest,
ut
only an
LM
curve.
It was left
forHicks' to supply us
with the
tools
needed
for comprehensive
nalysis.
ALVIN H. HANSEN.
HARVARD UNIVERSITY
1.
Econometrica,
Volume V, 1937, 147-59.
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