------------ EH.NET BOOK REVIEW --------------  
Published by EH.NET (December 2006)  
  
James C. W. Ahiakpor, _Classical Macroeconomics: Some Modern   
Variations and Distortions_. New York: Routledge, 2003. xvii + 256   
pp. $120 (cloth), ISBN: 0-415-15332-8.  
  
Reviewed for EH.NET by Marin Muzhani, Department of Economics,   
University of Florence, Italy.  
  
  
James Ahiakpor has written a fascinating book which readers will find   
difficult to put down. Students of macroeconomics should not deprive   
themselves of the opportunity to study this rich volume on classical   
macroeconomics.  
  
The broad range of the book presents difficulties to the reviewer   
since it is difficult to cover it adequately in a few pages. Ahiakpor   
may have had this difficulty, too, since his treatment is sometimes   
(but not often) cursory, wordy and not very helpful. I have chosen a   
few topics to show both the range of the book and the shortcomings of   
the treatment.  
  
About half the chapters were published in journals from the mid-1980s   
and to the late 1990s. The preface describes the difficulties   
encountered from referees when Ahiakpor submitted papers on Keynes's   
misinterpretation of "capital" in the classical theory of interest.   
Indeed, his goal is to explain the confusions and misinterpretations   
of classical macroeconomics - especially the theory of capital and   
interest --contained in textbooks covering the works of B�hm-Bawerk,   
Fisher, Wicksell and Hayek.  
  
The second chapter looks directly at the theory of value, which is   
one of the foundations of macroeconomic analysis. This chapter   
restates the theory of value in Smith, Ricardo, Malthus and Mill and   
interprets it in a straightforward way without variations and   
distortions. The main point is that the classical theory of exchange   
value is not about the utilities of commodities but the ratio in   
which different units of goods are exchanged for one another.   
Ahiakpor emphasizes that the misinterpretation of the classical   
theory of value by Austrians, Marxists and other economists   
influenced several writers including Alfred Marshall. Later this   
theory was distorted by Paul Douglas (1928) and Emil Kauder (1953)   
who influenced other modern writers, and attempts to restate it have   
not been wholly successful. The correct interpretation of the   
classical theory of value is based on the cost of production measured   
in terms of the quantity of labor. The concept of utility is   
essential but should not be considered as a measure of exchangeable   
value. Valuable quotations from classical works are given to support   
this argument.  
  
A rich but pithy chapter three tackles the difficult task of   
establishing the definition of money. The classical economists   
defined money as a particular commodity (such as gold and silver)   
used to measure the value of other commodities and which, most   
important, serves as a medium of exchange. They held a clear   
distinction between money credit and capital. Ahiakpor emphasizes the   
idea that a correct understanding of classical theories requires a   
very careful distinction of money from credit, and credit from   
"capital" and capital goods. Capital is supposed to arise from   
savings or loans. According to the author, the classical distinction   
between money and savings or "capital" is more helpful than the   
modern definition of money. A high-powered currency in the classical   
definition is supposed to explain better the changes in the price   
level or the value of money from the supply and demand for money. The   
latter determines the rate of interest. This statement is completely   
different from Keynes's argument that the quantity of money   
determines the supply of liquid resources and therefore the rate of   
interest. In fact, during the Great Depression it was the change in   
high-powered currency or in the quantity of money that caused the   
fall in savings as the public increased its demand for cash balances.   
Because of this, the increase in the reserve-deposit ratio of banks,   
the money supply multiplier was reduced and the currency stock   
declined rapidly. So the classical savings theory of growth confirms   
that the significant decline in GDP during the Great Depression came   
as a result of considerable contraction in savings.  
  
In chapter four reexamines of the classical theory of interest, the   
price level, and inflation. In the classics the theory of the price   
level is almost a direct application of the theory of value. The   
price level is determined by the supply and demand for money. In the   
same way interest is established as by the supply and demand for   
capital. It is the borrowed "capital" that is offered and taken in   
loan on the basis of the borrower's ability to pay back the credit.   
In this context interest is described as the cost of credit. Thus the   
classical theory of interest is more logical on the meaning of   
"capital." Robertson and Friedman are the two modern economists that,   
remarkably, have included the classical credit theory or the   
loanable-funds theory in their works. In effect, "the classical   
version is superior because it avoids the confusion between money and   
credit which Friedman correctly notes as plaguing the Keynesian   
monetary or liquidity preference theory of interest" (p. 77). Hence   
the application of the classical theory of value to "capital" better   
explains the determination of interest rates than the traditional   
Keynesian money supply and demand theory of interest. Keynes   
misinterpreted the classical theory of interest. He incorrectly   
included hoarding in the classical definition of saving and his   
contemporaries were not able to persuade him of his erroneous   
criticism of the classical theory of capital.  
  
Chapters six, seven and eight deal with the Austrian theory of   
capital and interest, Wicksell's monetary theory and Fisher's   
macroeconomic analysis. The Austrian school and predominantly Eugen   
B�hm-Bawerk interpreted capital-goods as "capital" only in the   
classical theory of interest and proceeded incorrectly to criticize   
it. B�hm-Bawerk introduced the theory of time-preference in place of   
the classical theory of capital. He observed that interest is a   
premium borrowers are willing to pay for their impatience for present   
consumption. The production process is affected by variations in the   
rate of interest and more roundabout methods are adopted when the   
rate of interest falls.  
  
Wicksell reacted to the classical theory of interest. He believed   
that observed high interest rates with high rate of inflation and low   
interest rates with low rates of inflation contradict the classical   
theory of interest. He developed the "cumulative process" by which   
deviations between the market and "natural" rates of interest cause   
the price level to change continually. According to chapter seven,   
Wicksell repeated almost the same theory of price dynamics as in   
classics, except that in his model the process starts from banks   
lowering their rates of interest without any new injection of money.  
  
Irving Fisher rejected the classical "capital" supply and demand   
theory of interest and adopted the Austrian time-preference theory.   
In conflict with his time-preference theory of interest, Fisher   
defined "capital" as an asset that yields a flow of income over time,   
which is quite different from the classical flow-of-funds concept.   
Fisher associated the "stock of goods" with a fixed quantity existing   
at an instant of time and "capital" as capital goods only. His   
principal differences with classical monetary analysis include the   
notion of circulating currency to include money and bank deposits.   
But the inclusion of bank deposits in his analysis is inconsistent   
with the process of inflation.  
  
Chapter ten is all about Kyenes's full-employment argument. Keynes   
attributed erroneously to the classics the forced-saving doctrine   
where increases in the money supply may boost real output and   
employment in the short run while lowering the rate of interest and   
raising the price level.  Keynes's misinterpretation of the classics   
was based on his presumption that Say's Law of Markets must be   
founded on the assumption of full employment. He criticized the   
classics for not recognizing the existence of hoarding while arguing   
the Law of Markets. His contemporaries including Pigou and Robertson,   
despite their attempts to correct his assumptions, did not give a   
clear interpretation of Keynes's inaccuracy. "Rather, they attempted   
to sketch their own versions of classical economics, much to their   
disadvantage" (p. 175). Although some may agree with this statement,   
I must disagree. Rather than sketching their versions of classical   
economics, they developed new assumptions in the classical tradition   
regarding full employment -- about which the classics were not   
comprehensible at all.  
  
Chapter eleven explains the success of the IS-LM model created by   
Hicks in spreading Keynesian macroeconomics and at the same time   
Keynes's distortion of classical macroeconomics. The IS-LM model   
based on changes in the supply and demand for money to explain   
interest rates does not take into consideration the determination of   
the price level from supply and demand for money as in the classical   
quantity theory. This model implies that the price level rises from   
increases in the quantity of money only after an economy has reached   
its full productivity capacity or full employment reaching the   
position of equilibrium (for a static state). However a real monetary   
economy is much more complex than the IS-LM model represents. The   
IS-LM model is inconsistent with economies experiencing high rates of   
unemployment, high rates of inflation and continuous economic   
fluctuations and hardly can be applied in modern realities. Despite   
distortions and variations claimed by the author, the IS-LM model   
still remains the basis for every undergraduate textbook in   
macroeconomics. It is the first and the most simple, well-known   
macroeconomic model combining real and monetary factors, making it   
easy for anyone with some basic notions in economics to understand   
the dimensions and the complexity of a national economy.  This model   
merely shows the daily macroeconomic problems but certainly does not   
resolve them.  
  
The mythology of Keynesian multiplier is developed in chapter twelve.   
The concept of the multiplier is based on consumption spending and on   
incomes that derive from expenditure. People normally consume a   
portion of their income and such purchases for consumption are   
incomes for producers who in turn make investments. The consumption   
spending is a means by which aggregate demand is raised and the   
growth of output and employment is promoted. Saving in Keynes's view,   
as opposed to the classics, has no special effect on supplying the   
funds for investment. Ahiakpor states that the Keynesian multiplier   
is nothing more than a misinterpretation of the classical definition   
of saving to include the hoarding cash. It is founded on a   
misconception of the role of consumption rather than production in   
the income determination process. The question raised in the   
Keynesian multiplier is: "From where do people find the means to make   
their consumption purchases?" Keynes rejected the classical concept   
that production is the source of income and, therefore, comes from   
savings supply. Increased output in one sector, by increasing the   
demand for the output in other sectors causes an increase in their   
production also. This process is described as a "multiplier effect"   
(quite different from the Keynesian multiplier) and is supposed to   
affect major sectors of an economy. Ahiakpor argues that: "Keynes's   
argument that saving is not needed to finance investment spending   
because the multiplier process makes it possible for investments to   
pay themselves through additional savings out of newly created income   
may have given confidence to supporters of public works program, but   
it is simply fallacious" (p. 209).  
  
The Keynesian revolution (or the Keynesian event) can be summarized   
in a few words. The Keynesian theoretical event can be expressed in   
terms of the combination of his multiplier theory with his liquidity   
preference theory. For many governments it is a primary duty to   
control the level of total effective demand for goods and services.   
If demand is insufficient to provide full employment, it is   
government's duty to raise it by stimulating the injections   
(investment, and government expenditure) and by reducing the   
proportions of income saved (or paid in taxes). If demand is   
excessive, then it is the government's duty to restrain the   
injections. This general task of controlling the level of total   
effective demand throughout the economy was not recognized to be a   
duty of government before the Second World War (and especially during   
the nineteenth century); it has at least been generally so recognized   
since the war.  
  
This duty, unfortunately, was not a major concern for classics.   
Despite their efforts, the classics were not able to set up a   
consistent macroeconomic model in which the economic system adjusted   
itself to full employment. The legacy of Keynes can be recapitulated   
in Pigou's remarks: " Nobody before him, so far as I know, had   
brought all the relevant factors, real and monetary at once, together   
in a single formal scheme, through which their interplay could be   
coherently investigated" (p. 175).  
  
As Ahiakpor suggests, it is true that by a very "careful reading" we   
may find more consistency in the classics than is generally believed,   
but it is also true that by using the same method of study we may   
find a lot of anomalies and contradictions which enable us to   
appreciate the classical explanation today.  
  
The greatest value of the book is to professional economists, chiefly   
because of some of the penetrating suggestions, and its coverage of   
an immense range of subjects bearing on development.  
The inherent importance of the principal theme, the forceful   
reasoning with which it is developed, the excellent style and the   
wealth of topics covered will ensure that this book will be read by   
all seriously interested in the subject.  
  
  
Marin Muzhani is Associate Researcher in Economics at the University   
of Florence, Italy. His book _From the Path of "Warranted Growth" to   
Technological Progress and Endogenous Growth: The Evolution of the   
Theory of Growth in the Post-war Period, Six Decades of Controversies   
in the Theory of Economic Growth_ will be published soon in English.   
Other papers and publications are related to modern monetary theories   
such as optimum currency areas, endogenous money and monetary unions.  
  
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