Money, Bank Credit, and Economic Cycles - The Ludwig von Mises ...

342 Money, Bank Credit, and Economic CyclesTHE THEORETICAL SOLUTION TO THE “PARADOX OF THRIFT” 57Our analysis also allows us to solve the problems posed bythe supposed dilemma of the paradox of thrift or saving.This “paradox” rests on the concept that, though saving by57 The essential argument against the thesis that saving adversely affectseconomic development and that it is necessary to stimulate consumptionto foster growth was very brilliantly and concisely expressed byHayek in 1932 when he demonstrated that it is a logical contradiction tobelieve that an increase in consumption manifests itself as an increase in investment,since investment can only rise due to a rise in saving, which must alwaysgo against consumption. In his own words:Money spent today on consumption goods does not immediatelyincrease the purchasing power of those who produce forthe future; in fact, it actually competes with their demandand their purchasing power is determined not by currentbut by past prices of consumer goods. This is so because thealternative always exists of investing the available productiveresources for a longer or a shorter period of time. Allthose who tacitly assume that the demand for capital goodschanges in proportion to the demand for consumer goods ignorethe fact that it is impossible to consume more and yet simultaneouslyto defer consumption with the aim of increasing the stock ofintermediate products. (F.A. Hayek, “Capital Consumption,”an English translation of the article previously publishedunder the German title “Kapitalaufzehrung,” in WeltwirtschaftlichesArchiv 36, no. 2 (1932): 86–108; italics added)The English edition appears as chapter 6 of Money, Capital and Fluctuations:Early Essays (Chicago: University of Chicago Press, 1984), pp.141–42. Hayek himself reminds us that this fundamental principle wasput forward by John Stuart Mill, who in his fourth proposition on capitalestablished that: “demand for commodities is not demand forlabour.” Nevertheless Hayek indicates that John Stuart Mill failed toadequately justify this principle, which only became fully accepted bytheorists upon the development of the theory of capital by Böhm-Bawerk and the theory of the cycle by Mises and Hayek himself (seeJohn Stuart Mill, Principles of Political Economy (Fairfield, N.J.: AugustusM. Kelley, 1976), book 1, chap. 5, no. 9, pp. 79–88). According to Hayek,the understanding of this basic idea is the true test of any economist:“More than ever it seems to me to be true that the complete apprehensionof the doctrine that ‘demand for commodities is not demand forlabor’ . . . is ‘the best test of an economist.’” Hayek, The Pure Theory of