Prices, and Production: Lecture II, Part IV

At last we are ready to begin the main problem of this lecture, that is the problem of how a transition to a more capitalistic structure of production, or vice versa, is brought about, and what are the conditions that must be fulfilled for a new equilibrium to be brought about. The first of the two is simple the answer: such a change will manifest itself if the total demand for producers' goods (of course, expressed in money) increases relatively to the demand for consumers' goods. There are two ways that this would happen: either as a result of an alteration in the volume of voluntary saving (or its opposite), or due to a change in the quantity of money available to entrepreneurs for the purchase of producers' goods. We shall first consider the former, where we assume that the quantity of money remains constant, then move on to the latter, where we do not assume the quantity of money remains constant.

As a starting point, we shall take the situation depicted in the previous live-blog entry of a structure of production whose Hayekian triangle has a proportion of 40:80, or 1:2, in respect to the demand for consumers' goods compared to the demand for producers' goods. Supposing that consumers save, and invest an amount of money equivalent to one-fourth of their income for one period, the previous proportion will, in the end, be changed from 40:80, to 30:90. The additional amounts of money now available for the purchase of producers' goods must be applied in such a method that the output (consumers' goods) may be sold for the sum of thirty, rather than forty arbitrary units as it was previously. In order to meet that condition, the roundabout processes of production is increased in the same proportion as the demand for producers' goods has increased with respect to consumers' goods, and more goods are sold between the producers' themselves. Overall, the nature of the transition to a more capitalistic structure of production consists in stretching out the money stream flowing from the consumers' goods to the original means of production. Like the Hayekian triangle, this stream has become both longer, and narrower than it was prior. While the quantity of money spent in each of the later stages of production, those closest to the finished output, will have decreased after this transition, the amount used in the earlier stages, those closest to the original means of production, will have increased, and the total spent on producers' goods will also have increased because of new stages of production. Since, in this example, the changes in the consumer preferences were voluntary there is no reason why there would suddenly begin consumptions at the previous proportions again; hence the initial variations in the proportion between the two goods become permanent, and a new equilibrium will be established on this basis.

Now we come to the point at which we investigate the latter, and proceed to drop our previous assumption that the volume of money in circulation remains constant. In addition, we shall investigate the most likely case: where there is an “increase of money in the form of credits granted to producers.” For a second time, we will start from a proportion of 40:80 between consumers' goods, and producers' goods respectively, and now, though, the change in the proportion between the two will not be a result of voluntary saving, but instead as a result of the granting of additional credits to producers. The producers, in this scenario, will have received , a quantity of forty arbitrary units of extra money, and the changes of the structure of production that must result from the necessary changes in the employment of the original means of production will correspond to the transition to a more capitalistic structure of production brought about by savings. The total value of producers' goods in the varying stages of production will have grown to thrice, instead of twice as large, as before, as the value of consumers' goods produced during the same period. In addition, the output of each stage of production, including the final one, measured in physical units (unlike the monetary units we are mostly concerned with here), will be exactly the same as the previous voluntary saving example; the difference is that the money values of these goods will have grown by one-third compared to the previous example.

The most important difference between the two examples, though, will only be apparent after a lapse of time. Unlike when the changes in the structure of production were brought about by saving, in which example an assumption that the changed distribution in the proportions between producers' and consumers' goods would remain permanent was just, when it does not result from a voluntary shift in consumer preferences then this assumption is anything but. The use of a larger amount of original factors of production for the manufacturing of producers' goods can only be brought about by the reduction in the production of consumers' goods. Consumers end up consuming less not because they forgo a portion of their consumption in favor of saving, and investing, but because they are able to purchase less goods for their money income. Without a doubt, if the money receipts should again rise then the consumers would attempt to resume their previous consumption-proportion (in the next lecture, Hayek will elucidate why receipts will rise as a consequence of the increase of the quantity of money in circulation – for the moment we shall assume that it occurs). Once the consumers resume their previous proportion of consumption, then then money stream will be redistributed between consumptive, and productive uses according to the volition of the consumers, and the artificial distribution, the result of the injection of new money ex nihilo, will have to return to the previous proportion too. Nevertheless, it is not necessary that the proportion between the demand for consumers' goods, and that of producers' goods need result to the former dimensions as soon as the injections of new money cease, for entrepreneurs may very well be in the position to continue the new processes until eventually the consequence of prices changes resulting from an increase in the demand for consumers' goods make their enterprises unprofitable. As a result of this transition, the processes of production will become less capitalistic, and the new capital that was sunk in equipment adapted only to the more capitalistic one will be lost in the process. In the next lecture, we shall see how that such a transition to a less capitalistic structure of production must take the form of an economic crisis.

Sine dubio, while a transition to a more capitalistic structure of production resulting from an increase in savings, and investment based on voluntary consumer preferences will result in a permanent shift in the proportion between the demand between consumers', and producers' goods, when the same is based upon injections of new money, the resulting proportion is a masquerade that will eventually be dispelled once the consumers are able to resume the consumption they were unable to partake in during the period of transition. While in the former the conditions for meeting a new equilibrium with respect to the structure of production are met, in the latter they are not, a fact that has devastating consequence that Hayek will proceed to describe.