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Date: | Thu May 4 16:56:54 2006 |
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I'm glad that Richard Lipsey has responded with his explanation:"I am
sorry if my elliptical expression 'inflationary pressure' was confusing.
I did not want to go in detail into a first year lecture but here is a
bit more detail that now seems called for. If more income is earned and
spent, that adds to aggregate demand (or as Keynes would have put it
Aggregate Consumption Expenditure)."
I questioned Lipsey's claim that people earning more income and spending
it constitutes an "inflationary pressure" with the quote from J.S. Mill
to force a confrontation with the Keynesian mythology that people
spending their own incomes produce inflation. It is not only in first
year macroeconomics textbooks that this myth is taught. It exists in
upper level texts as well. What the Mill quotation explains is that
before the so-called aggregate demand shifts to the right, supposedly to
raise the price level, the aggregate supply curve must have shifted to
the right as well. People earn income from producing goods and/or services.
There are two causes of the aggregate demand curve shifting to the right
without first an increase in supply (income). They are (1) an increase
in the quantity of money (currency) and (2) a decrease in the demand for
money (currency) to hold. Without an increase in the quantity of money,
an increase in production and income must reduce the price level: note
that P = H/ky, where P = the price level, H = quantity of (high-powered)
money, k = proportion of income held as cash, and y = real output or
income. Thus, it is quite misleading to talk about inflationary
pressures without mentioning changes in the quantity of money (currency)
or its demand by the public. The fact that we need monetary
transactions to estimate the GDP is irrelevant to this point.
Keynes (1936) gave us the explanation Lipsey has repeated because he
couldn't make much meaning of the classical quantity theory of money as
an explanation of the price level. Keynes (1936, 18), indeed, quoted
the Mill explanation I cited but misinterpreted it. I'm still hopeful
that those who have been teaching the Keynesian confusions would be
willing to reexamine them in light of subsequent criticism.
James Ahiakpor
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