Unemployment as a World Problem


I. We are today in the middle of the greatest economic catastrophe—the greatest catastrophe due almost entirely to economic causes—of the modern world. I am told that the view is held in Moscow that this is the last, the culminating crisis of capitalism and that our existing order of society will not survive it. Wishes are fathers to thoughts. But there is, I think, a possibility—I will not put it higher than that—that when this crisis is looked back upon by the economic historian of the future it will be seen to mark one of the major turning-points. For it is a possibility that the duration of the slump may be much more prolonged than most people are expecting and that much will be changed, both in our ideas and in our methods, before we emerge. Not, of course, the duration of the acute phase of the slump, but that of the long, dragging conditions of semislump, or at least sub-normal prosperity which may be expected to succeed the acute phase. Not more than a possibility, however. For I believe that our destiny is in our own hands and that we can emerge from it if only we choose—or rather if those choose who are in authority in the world.

My main theme is to be an attempt to analyze the originating causes of the slump. For unless we understand these—unless our diagnosis is correct—I do not see how we can hope to find the cure. I shall make use of my own theories of monetary causation and therefore I may, perhaps, assume implicitly some measure of familiarity with them; but I shall try not to assume so much as to embarrass those who are not acquainted with them.

I see no reason to be in the slightest degree doubtful about the initiating causes of the slump. Let us consider a brief history of events beginning about 1924 or 1925. By that time or shortly afterward the perturbations which had, perhaps inevitably, ensued on the war and the treaty of peace and the readjustments of economic relations between different countries seemed to have about run their course. Confidence was more or less restored; the mechanism of international lending was functioning freely; and while several European countries still had serious difficulties to overcome, for the world as a whole conditions seemed to be set fair.

It was widely believed that the general restoration of the gold standard would complete the edifice of prosperity and that an indefinitely long period of ever increasing economic well-being was in front of the progressive industrial nations of the world. So, apart from certain local domestic troubles in Great Britain (and I am not dealing except incidentallv with the British problem), was indeed the case for some four or five years. Now what was the leading characteristic of this period? Where and how were the seeds of subsequent trouble being sown?

The leading characteristic was an extraordinary willingness to borrow money for the purposes of new real investment at very high rates of interest—rates of interest which were extravagantly high on pre-war standards, rates of interest which have never in the history of the world been earned, I should say, over a period of years over the average of enterprise as a whole. This was a phenomenon which was apparent not, indeed, over the whole world but over a very large part of it.

Let us consider the United States first, because the United States has held throughout the key position. The investment activity in this country was something prodigious and incredible. In the four years 1925-28 the total value of new construction in the United States amounted to some $38,000,000,000. This was—if you can credit it—at an average rate of $800,000,000 a month for forty-eight months consecutively. It was more than double the amount of construction in the four years 1919-22, and, I may add, much more than double the amount that is going on now.

Nor was this the whole of the American story. The growth of the instalment system, which represents a sort of semi-investment, was going on pari passu. And, more important still, the United States was a free purchaser of all kinds of foreign bonds, good, bad, and indifferent—a free lender for investment purposes,that is to say, to the rest of the world. To an important extent the United States was acting, in this generous foreign-loan policy, as a conduit pipe for the savings of the more cautious Europeans, who had less confidence in their own prosperity than America had; so that the foreign-bond issues were often largely financed out of short- term funds which the rest of the world was, for considerations of safety or liquidity, depositing in New York.

But Great Britain was also lending on a substantial scale. Altogether it is estimated that in 1925 the net foreign lending of capital-exporting countries amounted to about $2,300,000,000. Naturally the result was to facilitate investment schemes over a wide area, especially in South America. All the countries of South America found themselves in a position to finance every kind of scheme, good or bad.

A comparatively small country like the republic of Colombia, to give an example, found itself able to borrow—I forget the exact figure—something approaching $200,000,000 in New York within a brief space of time. Rates of interest were high indeed. But the lender was willing and so was the borrower. Germany, as we all know, was another country that was both able and willing to borrow on a gigantic scale; indeed, in 1925 she alone borrowed sums approaching $1,000,000,000.

This free borrowing was duly accompanied by capital expansion programs. In France there was long-continued building activity; in Germany industry was reconstructed and municipal enterprise was conducted on an extravagant scale; in Spain the dictatorship embarked on enormous public works; indeed, in almost every European country a large force of labor and plant was being employed on construction, thus consuming, but not producing, consumption goods. The same was true over the whole of South America and in Australia. Even in China the prolonged civil war involved great expenditures otherwise than on producing consumption goods—which, so long as it is going on, is analytically identical with investment, even though its future fruits are less than nothing. In Russia, at the same time, immense efforts were being made to direct an unusually large proportion of the national forces to works of capital construction.

There was really only one important partial exception, namely, Great Britain. In that country investment continued throughout on a somewhat moderate scale. Road development and housing programs did something to keep up investment. But the return to the gold standard and the relative decline of the British staple export trades seriously cut down her ability to carry on foreign investment up to anything like the same proportion of her savings as had been the case from 1900 to 1914; and for various reasons home investment was not on a sufficient scale to absorb the whole of the balance. This, I am sure, is the fundamental reason why we in Great Britain were feeling depression before the rest of the world. We were not participating in the enormous investment boom which the rest of the world was enjoying. Our savings were almost certainly in excess of our investment. In short, we were suffering a deflation.

While some part of the investment which was going on in the world at large was doubtless ill-judged and unfruitful, there can, I think, be no doubt that the world was enormously enriched by the constructions of the quinquennium from 1925 to 1929; its wealth increased in these five years by as much as in any other ten or twenty years of its history. The expansion centered round building, the electrification of the world, and the associated enterprises of roads and motor cars. In those five years an appreciable change was effected in the housing, the power plant, and the transport system of a large part of the world.

But it was not unduly specialized. Almost every department of capital development took its share. The capacity of the world to produce most of the staple food-stuffs and raw materials was greatly expanded; machinery and new techniques directed by science greatly increased the output of all the metals, rubber, sugar, the chief cereals, etc. The economic section of the League of Nations has published the figures. In the three years 1925-28 the output of foodstuffs and raw materials in the world as a whole increased by no less than 8 per cent and the output of manufactured goods rose by 9 per cent, that is to say, at least as fast as that of raw materials. Progress was especially rapid in Europe where the increase in output was probably greater than even in North America.

Doubtless, as was inevitable in a period of such rapid change, the rate of growth of some individual commodities could not always be in just the appropriate relation to that of others. But, Onthe whole, I see little sign of any serious want of balance such as is alleged by some authorities. The rates of growth of construction capital such as houses, of capital for manufacturing production, and of capital for raw material production; or again those of foodstuffs, of raw materials, of manufactures, of activities demanding personal services seem to me, looking back, to have been in as good a balance as one could have expected them to be. A very few more quinquennia of equal activity might, indeed, have brought us near to the economic Eldorado where all our reasonable economic needs would be satisfied.

It is not necessary for my present purpose to decide exactly how far this investment boom was inflationary in the special sense which I have given to that term—whether, in other words, it was balanced by saving or whether it was financed by surplus profits obtained by selling output at a price which was inflated above the normal costs of production. I am inclined to the view that the part played by inflation was surprisingly small, and that savings kept pace with investment to a remarkable degree. In fact, there was very little rise in the price of the commodities covered by index numbers.

This does not prove that there was no inflation: first, because we have no proper consumption index numbers, so that these might, if we had them, show a different result; second, because the period was one of rapidly increasing efficiency, and it may be that while the price of many commodities was unchanged, too small a proportion of the increasing product was accruing to the factors of production and too much to the entrepreneurs, which would, according to my definition, be inflationary. Probably in some places and at some dates inflation was definitely present. But I think that the evidence suggests that savings were in fact abundantly available and were adequate to finance a very large part of the investment which was going on. This conclusion, if it is correct, will be important in the sequel.

What was it, then, that brought all this fruitful activity to a sudden termination? This brings me to the second part of my discourse.

II. It seems an extraordinary imbecility that this wonderful outburst of productive energy should be the prelude to impoverishment and depression. Some austere and puritanical souls regard it both as an inevitable and a desirable nemesis on so much overexpansion, as they call it; a nemesis on man’s speculative spirit. It would, they feel, be a victory for the mammon of unrighteousness if so much prosperity was not subsequently balanced by universal bankruptcy. We need, they say, what they politely call a “prolonged liquidation” to put us right. The liquidation, they tell us, is not yet complete. But in time it will be. And when sufficient time has elapsed for the completion of the liquidation, all will be well with us again.

I do not take this view. I find the explanation of the current business losses, of the reduction of output, and of the unemployment which necessarily ensues on this not in the high level of investment which was proceeding up to the spring of 1929, but in the subsequent cessation of this investment. I see no hope of a recovery except in a revival of the high level of investment. And I do not understand how universal bankruptcy can do any good or bring us nearer to prosperity, except in so far as it may, by some lucky chance, clear the boards for the recovery of investment.

I suggest to you, therefore, that the questions to which we have to bend our intelligences are the causes of the collapse of investment and the means of reviving investment. We cannot hope either to prophesy or to limit the duration of the slump except as the result of our understanding of these phenomena.

Looking back, it is now clear that the decline of investment began early in 1929, that it preceded (and, according to my theory, was the cause of) the decline in business profits, and that it had gathered considerable momentum prior to the Wall Street slump in the autumn of 1929.

Why did investment fall away? Probably it was due to a complex of causes:

1.Too high a rate of interest was being paid. Experience was beginning to show that borrowers could not really hope to earn on new investment the rates which they had been paying.

  1. Even if some new investment could earn these high rates, in the course of time all the best propositions had got taken up, and the cream was off the business. In other words, as one would expect, the increased supply of capital goods meant that the rate of interest was due for a fall if further expansion was to be possible.
  2. But just at this moment, so far from falling, the rate of interest was rising. The efforts of the Federal Reserve banks to check the boom on Wall Street was making borrowing exceedingly dear to all kinds of borrowers.
  3. A further consequence of the very dear money in the United States was to exercise a drag on the gold of the rest of the world and hence to cause a credit contraction everywhere.
  4. And a third consequence was the unwillingness of American investors to buy foreign bonds since they found speculation in their own common stocks much more exciting. In 1929 net purchases of this character by the United States fell to about a quarter of what they had been in the previous year, and in 1930 they fell so low as to be negligible.

I need hardly remind you how much fixed investment fell away in the United States. If we take the familiar Dodge figures for 1925 as our index of 100, we find a fall to 88 in 1929 and to 64 in 1930, while at the present time the figures are still lower. But this falling-away of fixed investment, while most marked, perhaps, in the United States, was not confined to that country. The complex of circumstances which I have outlined combined to cause a very marked diminution in the rate of investment all over the world.

Once this decline was started on a significant scale, it is exceedingly easy to see (on my way of looking at the matter) how the mere fact of a decline precipitated a further decline, for the high level of profits began to fall away, the prices of commodities inevitably declined, and these things brought with them a series of further consequences:

  1. The decline in output brought a disinvestment in working capital. In the United States this was on a huge scale.
  2. The decline in profit diminished the attractions of all kinds of investment.
  3. The fall in prices and the cessation of lending destroyed the credit of overseas borrowers, and made borrowing dearer for them just at the moment when they needed cheaper loans if they were to continue.

This decline has continued down to the present time, and so far as fixed investment is concerned, the volume of new investment must be today, taking the world as a whole, at the lowest figure for very many years.

Here I find—and I find without any doubts or reserves whatsoever—the whole of the explanation of the present state of affairs. But there is, I am afraid you may say, one very serious gap in my argument. I have been making all through a tacit assumption. And for those who do not accept this assumption, the conclusions must be unconvincing.

My assumption is this: I have taken it for granted so far that if investment falls off, then of necessity the level of business profits falls away also. Grant me this and the rest, I think, follows. Now I believe this to be true, and I have set forth in detail the reasons for my belief in the first volume of my recently published Treatise on Money. But the argument is not easy, and I cannot claim that it is yet part of the accepted body of economic thought.

It will be my duty, therefore, to endeavor in my next lecture to give you an outline of this reasoning in terms as well adapted as I can find for the medium of oral exposition. I shall then, in the light of this, pass on to what I have to say of a constructive character.


I have said that it is easy on my theory of the causation of these things to see why a severe decline in the volume of investment should have produced the results that we see around us in the world today. This theory, however, will not be familiar to many of you; and I must, if my argument is to be complete and intelligible, endeavor to set forth for you at least an outline of it. You must, therefore, forgive me a somewhat abstract discussion. Those who may wish to pursue the matter further I must refer to my Treatise on Money. But I will try, though it be at the risk of straining your attention, to put the gist of the matter very briefly as follows.

Entrepreneurs pay out in salaries, wages, rents, and interest certain sums to the factors of production which I shall call their “costs of production.” Some of these entrepreneurs are producing capital goods, some of them are producing consumption goods. These sums, these costs of production, represent in the aggregate the incomes of the individuals who own or are the factors of production.

These individuals in their capacity of consumers expend part of these incomes on buying consumption goods from the entrepreneurs; and another part of their incomes, which part we shall call their savings, they put back, as we may express it, into the financial machine—that is to say, they deposit it with their banks or buy stock-exchange securities or real estate or repay instalments in respect of purchases previously made or the like.

At the same time the financial machine will be enabling a different set of people to order and pay for various kinds of currently produced capital goods from the entrepreneurs who produce this class of goods, such as buildings, factories, machines, equipment for transport, and public-utility enterprises and the like; and the aggregate of expenditures of this kind I find it convenient to call the “value of current investment.”

Thus there are two streams of money flowing back to the entrepreneurs, namely, that part of their incomes which the public spend on consumption and those expenditures on the purchases of capital goods which I have called the value of current investment. These two amounts added together make up the receipts or sale proceeds of the entreprqneurs.

Now the profitableness of business as a whole depends, and can depend, on nothing but the difference between the sale proceeds of the entrepreneurs and their costs of production. If more comes back to them as sale proceeds than they have expended in costs of production, it follows that they must be making a profit. And, equally, if less comes back to them than they have paid out, they must be making a loss. I am speaking all the time, remember, of entrepreneurs as a whole. As between individual entrepreneurs, some will at all times be doing better than the average and some worse.

Now for my equation, a very simple one, which gives, to my thinking, the clue to the whole business:

The costs of production of the entrepreneurs are equal to the incomes of the public. Now the incomes of the public are, obviously, equal to the sum of what they spend and of what they save. On the other hand, the sale proceeds of the entrepreneurs are equal to the sum of what the public spend on current consumption and what the financial machine is causing to be spent on current investment.

Thus the costs of the entrepreneurs are equal to what the public spend plus what they save; while the receipts of the entrepreneurs are equal to what the public spend plus the value of current investment. It follows, if you have been able to catch what I am saying, that when the value of current investment is greater than the savings of the public, the receipts of the entrepreneurs are greater than their costs, so that they make a profit; and when, on the other hand, the value of current investment is less than the savings of the public, the receipts of the entrepreneurs will be less than their costs, so that they make a loss.

That is my secret, the clue to the scientific explanation of booms and slumps (and of much else, as I should claim) which I offer you. For you will perceive that when the rate of current investment increases (without a corresponding change in the rate of savings) business profits increase. Moreover,the affair is cumulative. For when business profits are high, the financial machine facilitates increased orders for and purchases of capital goods, that is, it stimulates investment still further; which means that business profits are still greater; and soon. In short, a boom is in full progress. And contrariwise when investment falls off. For unless savings fall equally, which is not likely to be the case, the necessary result is that the profits of the business world fall away. This in turn reacts unfavorably on the volume of new investment; which causes a further decline in business profits. In short, a slump is upon us.

The whole matter may be summed up by saying that a boom is generated when investment exceeds saving and a slump is generated when saving exceeds investment. But behind this simplicity there lie, I am only too well aware, many complexities, many pitfalls, many opportunities for misunderstanding. You must excuse me if I slide over these, for it would take me weeks to expound them fully.

Indeed, let me simplify further, for I should like for a moment to leave the variations in saving out of my argument. I shall assume that saving either varies in the wrong direction (which may, in fact, occur, especially in the early stages of the slump, since the fall in stock-exchange values as compared with the boom may by depreciating the value of people’s past savings increase their desire to add to them) or is substantially unchanged, or if it varies in the right direction, so as partly to compensate changes in investment, varies insufficiently (which is likely to be the case except perhaps when the community is, toward the end of a slump, very greatly impoverished indeed). That is to say, I shall concentrate on the variability of the rate of investment. For that is, in fact, the element in the economic situation which is capable of sudden and violent change. In the actual circumstances of the present hour that is the element which, according to common observation, has indeed suffered a sudden and violent change. And nothing, obviously, can restore employment which does not first restore business profits. Yet nothing, in my judgment, can restore business profits which does not first restore the volume of investment, that is to say (in other words), the volume of orders for new capital goods. (For the only theoretical alternative would be a large increase of expenditures by the public at the expense of their savings, an extravagance campaign, which at a time when everyone is nervous and uncertain and sees the value of his stocks and shares depreciating is most unlikely to occur, whether it is desirable or not.)

In the past it has been usual to believe that there was some preordained harmony by which saving and investment were necessarily equal. If we intrusted our savings to a bank, it used to be said, the bank will of course make use of them, and they will duly find their way into industry and investment. But unfortunately this is not so. I venture to say with certainty that it is not so. And it is out of the disequilibriums of savings and investment, and out of nothing else, that the fluctuations of profits, of output, and of employment are generated.

What sorts of circumstances are capable of occurring which would be of a tendency to bring the slump to an end?

It is important to notice that so long as output is declining, the effect of any decline of fixed investment is aggravated by disinvestment in working capital. Rut this continues only so long as output continues to decline. It ceases as soon as output ceases to decline further even though the level at which output is steady is a very low one. And as soon as output begins to recover, even though it still remains at a very low level, the tide is turned and the decline in fixed investment is partly offset by increased investment in working capital.

Now there is a reason for expecting an equilibrium point of decline to be reached. A given deficiency of investment causes a given decline of profit. A given decline of profit causes a given decline of output. Unless there is a constantly increasing deficiency of investment, there is eventually reached, therefore, a sufficiently low level of output which represents a kind of spurious equilibrium.

There is also another reason for expecting the decline to reach a stopping-point. For I must now qualify my simplifying assumption that only the rate of investment changes and that the rate of saving remains constant. At first, as I have said, the nervousness engendered by the slump may actually tend to increase saving. For saving is often effected as a guide against insecurity. Thus savings may decrease when stock markets are soaring and increase when they are slumping. Moreover, for the salaried and fixed-income class of the community the fall of prices will increase their margin available for saving. But as soon as output has declined heavily, strong forces will be brought into play in the direction of reducing the net volume of saving.

For one thing the unemployed will, in their effort not to allow too great a decline in their established standard of life, not only cease to save but will probably be responsible for much negative saving by living on their own previous savings and those of their friends and relations. Much more important, however, than this is likely to be the emergence of negative saving on the part of the government, whether by diminished payments to sinking funds or by actual borrowing, as is now the case in the United States. In Great Britain, for example, the dole to the unemployed, largely financed by borrowing, is now at the rate of $500,000,000 a year—equal to about a quarter of the country’s estimated rate of saving in good times.

In the United States the Treasury deficit to be financed by borrowing is put at $1,000,000,000. These expenditures are just as good in their immediate effects on the situation as would be an equal expenditure on capital works; the only difference—and an important one enough—is that in the former cases we have nothing to show for it afterwards.

Let me illustrate this by figures for the United States which are intended to be purely illustrative, though I have chosen them so as to be, perhaps, not too remote from the facts. Let us suppose that at the end of 1928 American investment was at the rate of $10,000,000,000 a year, while the national savings were $9,000,000,000. This meant, as my fundamental analysis shows, abnormal profits to American business at the rate of $1,000,000,000. Now let us suppose a decline in investment to $9,000,000,000. The exceptional profits are now obliterated. Next a further fall to$5,000,000,000. This means that the exceptional profits are not only obliterated, but that their place is taken by very large abnormal losses, namely, $4,000,000,000, so long as savings continue at $9,000,000,000. These developments naturally cause a steady decline in output, which aggravates the loss by bringing with it a disinvestment in working capital.

Let us suppose that the disinvestment in working capital is at the rate of $1,500,000,000 a year. As long as this is going on, the rate of net investment may fall as low as $3,500,000,000. This means (or would mean if other factors remained unchanged) business receipts (including agriculture, of course) of $5,500,000,000 below normal, and output will settle down to the level which just shows a margin over prime cost even when aggregate receipts are this much short of normal profits. But by this time the situation itself will have bred up some remedial factors. Let us suppose that a government deficit of $1,000,000,000 has developed and that saving by the public has fallen off by $1,000,000,000.

Moreover, as soon as output ceases to fall further, disinvestment in working capital will cease. Thus the falling-off in business receipts below normal will no longer be $5,500,000,000 but only $2,000,000,000 ($1,000,000,000 relief from government deficit, $1,000,000,000 from diminished saving, and $1,500,000,000 from the cessation of disinvestment in working capital). This means that output is below what is justified by the new level of business receipts. Consequently it rises again. This rise means reinvestment in working capital, and business receipts may, for a time and so long as this reinvestment is going on, recover almost to normal.

Nevertheless, if the nation’s savings stand at $9,000,000,000, granted a normal level of output and employment, then, so long as the rate of long-term interest in conjunction with other factors is too high to allow of more than $5,000,000,000 expenditure on fixed investment, a recovery staged along the foregoing lines is bound to be an illusion and a disappointment. For after it has proceeded a certain length, there is bound to be reaction and a renewed slump. Indeed, the figures accurately appropriate to the illustration may be such that the extent of the recovery will be comparatively slight.

There can, therefore, I argue, be no secure basis for a return to an equilibrium of prosperity except a recovery of fixed investment to a level commensurate with that of the national savings in prosperous times.


I. Whether or not my confidence is justified, I feel, then, no serious doubt or hesitation whatever as to the causes of the world-slump. I trace it wholly to the breakdown of investment throughout the world. After being held by a variety of factors at a fairly high level during most of the post-war period, the volume of this investment has during the past two and a half years suffered an enormous decline—a decline not fully compensated as yet by diminished savings or by government deficits.

The problem of recovery is, therefore, a problem of re-establishing the volume of investment. The solution of this problem has two sides to it: on the one hand, a fall in the l long-term rate of interest so as to bring a new range of propositions within the practical sphere; and, on the other hand, a return of confidence to the business world so as to incline them to borrow on the basis of normal expectations of the future. But the two aspects are by no means disconnected. For business confidence will not revive except with the experience of improving business profits. And, if I am right, business profits will not recovery except with an increase of investment. Nevertheless the mere reaction from the bottom and the feeling that it may be no longer prudent to wait for a further fall will be likely, perhaps in the near future, to bring about some modest recovery of confidence. We need, therefore, to work meanwhile for a drastic fall in the long-term rate of interest so that full advantage may be taken of any recovery of confidence.

The problem of recovery is also, in my judgment, indissolubly bound up with the restoration of prices to a higher level, although if my theory is correct this is merely another aspect of the same phenomenon. The same events which lead to a recovery in the volume of investment will inevitably tend at the same time toward a revival of the price level. But inasmuch as the raising of prices is an essential ingredient in my policy I had better pause perhaps to offer some justification of this before I proceed
to consider the ways and means by which the volume of investment and at the same time the level of prices can be raised.

Unfortunately there is not complete unanimity among the economic doctors as to the desirability of raising the general price level at this phase of the cycle. Dr. Sprague, for example, in an address made recently in London which attracted much attention, declared it to be preferable that:

manufactured costs and prices should come down to equilibrium level with agricultural prices rather than that we should try to get agricultural prices up to an equilibrium level with the higher prices of manufactured goods.

For my own part, however, I dissent very strongly from this view and I should like, if I could, to provoke vehement controversy—a real discussion of the problem—in the hope’ that out of the clash of minds something useful might emerge. Until we have definitely decided whether or not we should wish prices to rise we are drifting without clear intentions in a rudderless vessel.

Do we, then, want prices to rise back to a parity with what, a few months ago, we considered to be the established levels of our salaries, wages, andincome generally? Or do we want to reduce our incomes to a parity with the existing level of the wholesale prices of raw commodities? Please notice that I emphasize the word “want,” for we shall confuse the argument unless we keep distinct what we want from what we think we can get. My own conclusion is that there are certain fundamental reasons of overwhelming force, quite distinct from the technical considerations tending in the same direction, which I have already indicated and to which I shall return later, for wishing prices to rise.

The first reason is on grounds of social stability and concord. Will not the social resistance to a drastic downward readjustment of salaries and wages be an ugly and a dangerous thing? I am told sometimes that these changes present comparatively little difficulty in a country such as the United States where economic rigidity has not yet set in. I find it difficult to believe this. But it is for you, not me, to say. I know that in my own country a really large cut of many wages, a cut at all of the same order of magnitude as the fall in wholesale prices, is simply an impossibility. To attempt it would be to shake the social order to its foundation. There is scarcely one responsible person in Great Britain prepared to recommend it openly. And if, for the world as a whole, such a thing could be accomplished, we should be no farther forward than if we had sought a return to equilibrium by the path of raising prices. If, under the pressure of compelling reason, we are to launch all our efforts on a crusade of unpopular public duty, let it be for larger results than this.

I have said that we should be no farther forward. But in fact even when we had accomplished the reduction of salaries and wages, we should be far worse off, for the second reason for wishing prices to rise is on grounds of social justice and expediency which have regard to the burden of indebtedness fixed in terms of money. If we reach a new equilibrium by lowering the level of salaries and wages, we increase proportionately the burden of monetary indebtedness. In doing this we should be striking at the sanctity of contract. For the burden of monetary indebtedness in the world is already so heavy that any material addition would render it intolerable. This burden takes different forms in different countries. In my own country it is the national debt raised for the purposes of the war which bulks largest. In Germany it is the weight of reparation payments fixed in terms of money. For creditor and debtor countries there is the risk of rendering the charges on the debtor countries so insupportable that they abandon a hopeless task and walk the pathway of general default. In the United States the main problem would be, I suppose, the mortgages of the farmer and loans on real estate generally. There is, in fact what, in an instructive essay, Professor Alvin Johnson has called the “farmers’ indemnity.” The notion that you solve the farmers’ problem by bringing down manufacturing costs so that their own produce will exchange for the same quantity of manufactured goods as formerly is to mistake the situation altogether, for you would at the same time have increased the farmers’ burden of mortgages which was already too high. Or take another case—loans against buildings. If the cost of new building were to fall to a parity with the price of raw materials, what would become of the security for existing loans?

Thus national debts, war debts, obligations between the creditor and debtor nations, farm mortgages, real estate mortgages—all this financial structure would be deranged by the adoption of Dr. Sprague’s proposal. A widespread bankruptcy, default, and repudiation of bonds would necessarily ensue. Banks would be in jeopardy. I need not continue the catalogue. And what would be the advantage of having caused so much ruin? I do not know. Dr. Sprague did not tell us that.

Moreover, over and above these compelling reasons there is also the technical reason, the validity of which is not so generally recognized, which I have endeavored to elucidate in my previous lecture. If our object is to remedy unemployment it is obvious that we must first of all make business more profitable. In other words, the problem is to cause business receipts to rise relatively to business costs. But I have already endeavored to show that the same train of events which will lead to this desired result is also part and parcel of the causation of higher prices, and that any Policy which at this stage of the credit cycle is not directed to raising prices also fails in the object of improving business profits.

The cumulative argument for wishing prices to rise appears to me, therefore, to be overwhelming, as I hope it does to you. Fortunately many if not most people agree with this view. You may feel that I have been wasting time in emphasizing it. But I do not think that I have been wasting time, for while most people probably accept this view, I doubt if they feel it with sufficient intensity. I wish to take precautions beforehand against anyone asking—when I come to the second and constructive part of my argument—whether, after all, it is so essential that prices should rise. Is it not better that liquidation should take its course? Should we not be, then, all the healthier for liquidation, which is their polite phrase for general bankruptcy, when it is complete?

II. Let us now return to our main theme. The cure of unemployment involves improving business profits. The improvement of business profits can come about only by an improvement in new investment relative to saving. An increase of investment relative to saving must also, as an inevitable by-product, bring about a rise of prices, thus ameliorating the burdens arising out of monetary indebtedness. The problem resolves itself, therefore, into the question as to what means we can adopt to increase the volume of investment, which you will remember means in my terminology the expenditure of money on the output of new capital goods of whatever kind.

When I have said this, I have, strictly speaking, said all that an economist as such is entitled to say. What remains is essentially a technical banking problem. The practical means by which investment can be increased is, or ought to be, the bankers’ business, and pre-eminently the business of the central banker. But you will not consider that I have completed my task unless I give some indication of the methods which are open to the banker.

There are, in short, three lines of approach:

The first line of approach is the restoration of confidence both to the lender and to the borrower. The lender must have sufficient confidence in the credit and solvency of the borrower so as not to wish to charge him a crushing addition to the pure interest charge in order to cover risk. The borrower, on the other hand, must have sufficient confidence in the business prospects to believe that he has a reasonable prospect of earning sufficient return from a new investment proposition to recover with a margin the interest which he has to bind himself to pay to the lender. Failing the restoration of confidence, we may easily have a vicious circle set up in which the rate of interest which the lender requires to cover what he considers the risks of the situation represents a higher rate than the borrower believes he can earn.

Nevertheless, there is perhaps not a great deal that can be done deliberately to restore confidence. The turning-point may come in part from some chance and unpredictable event. But it is capable, of course, of being greatly affected by favorable international developments, as for example, an alleviation of the war debts such as Mr. Hoover has lately proposed; though if he goes no farther than he has promised to go at present, the shock to confidence, long before his year of grace is out, may come perhaps just at the moment when it will interfere most with an incipient revival. In the main, however, restoration of confidence must be based, not on the vague expectations or hopes of the business world, but on a real improvement in fundamentals; in other words, on a breaking of the vicious circle. Thus if results can be achieved along the two remaining lines of approach which I have yet to mention, these favorable effects may be magnified bv their reaction on the state of confidence.

The second line of approach consists in new construction programs under the direct auspices of the government or other public authorities. Theoretically, it seems to me, there is everything to be said for action along these lines. For the government can borrow cheaply and need not be deterred by overnice calculations as to the prospective return. I have been a strong advocate of such measures in Great Britain, and I believe that they can play an extremely valuable part in breaking the vicious circle everywhere. For a government program is calculated to improve the level of business profits and hence to increase the likelihood of private enterprise again lifting up its head. The difficulty about government programs seems to me to be essentially a practical one. It is not easy to devise at short notice schemes which are wisely and efficiently conceived and which can be put rapidly into operation on a really large scale. Thus I applaud the idea and only hesitate to depend too much in practice on this method alone unaided by others. I am not sure that as time goes by we may not have to attempt to organize methods of direct government action along these lines more deliberately than hitherto, and that such action may play an increasingly important part in the economic life of the community.

The third line of approach consists in a reduction in the long-term rate of interest. It may be that when confidence is at its lowest ebb the rate of interest plays a comparatively small part. It may also be true that, in so far as manufacturing plants are concerned, the rate of interest is never the dominating factor. But, after all, the main volume of investment always takes the forms of housing, of public utilities and of transportation. Within these spheres the rate of interest plays, I am convinced, a predominant part. 1 am ready to believe that a small change in the rate of interest may not be sufficient. That, indeed, is why I am pessimistic as to an early return to normal prosperity. I am ready enough to admit that it may be extremely difficult both to restore confidence adequately and to reduce interest rates adequately. There will be no need to be surprised, therefore, if a long time elapses before we have a recovery all the way back to normal.

Nevertheless, a sufficient change in the rate of interest must surely bring within the horizon all kinds of projects which are out of the question at the present rate of interest. Let me quote an example from my own country. No one believes that it will pay to electrify the railway system of Great Britain on the basis of borrowing at 5 per cent. At 4 1/2 per cent the enthusiasts believe that it will be worth while; at 4 per cent everyone agrees it is an open question; at 3 per cent it is impossible to dispute that it will be worth while. So it must be with endless other technical projects. Every fall in the rate of interest will bring a new range of projects within a practical sphere. Moreover, if it be true—as it probably is—that the demand for house room is elastic, every significant fall in the rate of interest, by reducing the rent which has to be charged, brings with it an additional demand for house room.

As I look at it, indeed, the task of adjusting the long-term rate of interest to the technical possibilities of our age so that the demand for new capital is as nearly as possible equal to the community’s current volume of savings must be the prime object of financial statesmanship. It may not be easy and a large change may be needed, but there is no other way out.

Finally, how is the banking system to affect the long-term rate of interest? For prima facie the banking system is concerned with the short-term rate of interest rather than with the long.

In course of time I see no insuperable difficultv. There is a normal relation between the short-term rate of interest and the long-term, and in the long run the banking system can affect the long-term rate by obstinately adhering to the correct policy in regard to the short-term rate. But there may also be devices for hastening the effect of the short-term rate on the long-term rate. A reduction of the long-term rate of interest amounts to the same thing as raising the price of bonds. The price of bonds amounts to the same thing as the price of non-liquid assets in terms of liquid assets. I suggest to you that there are three ways in which it is reasonable to hope to exercise an influence in this direction.

The first method is to increase the quantity of liquid assets—in other words, to increase the basis of credit by means of open-market operations, as they are usually called, on the part of the central bank. I know that this involves technical questions of some difficulty with which I must not burden this lecture. I should, however, rely confidently in due course on influencing the price of bonds by steadily supplying the market with a greater quantity of liquid assets than the market felt itself to require so that there would be a constant pressure to transform liquid assets into the more profitable non-liquid assets.

The second course is to diminish the attractions of liquid assets by lowering the rate of deposit interest. In such circumstances as the present it seems to me that the rate of interest allowed on liquid assets should be reduced as nearly as possible to the vanishing-point.

The third method is to increase the attractions of non-liquid assets, which, however, brings us back again in effect to our first remedy, namely, methods of increasing confidence.

For my own part, I should have thought it desirable to advance along all three fronts simultaneously. But the central idea that I wish to leave with you is the vital necessity for a society living in the phase in which we are living today, to bring down the long-term rate of interest at a pace appropriate to the underlying facts. As houses and equipment of every kind increase in quantity we ought to be growing richer on the principle of compound interest. As technological changes make possible a given output of goods of every description with a diminishing quantity of human effort, again we ought to be forever increasing our level of economic well-being. But the worst of these developments is that they bring us to what may be called the dilemma of a rich country, namely, that they make it more and more difficult to find an outlet for our savings. Thus we need to pay constant conscious attention to the long-term rate of interest for fear that our vast resources may be running to waste through a failure to direct our savings into constructive uses and that this running to waste may interfere with that beneficent operation of compound interest which should, if everything was proceeding smoothly in a well-governed society, lead us within a few generations to the complete abolition of oppressive economic want.