A Study of Some of the Most Severe Misrepresentations of J.M. Keynes's Theory of the Rate of Interest in the General Theory in the Late 1930's
44 Pages Posted: 9 Oct 2017 Last revised: 5 Aug 2018
Date Written: October 8, 2017
Keynes’s theory of the rate of interest combines the incomplete and partial neoclassical view that the Amount of Savings and Investment determine the interest rate with his own unique contribution based on liquidity preference.
Liquidity preference was theoretically based by Keynes on his “weight of the evidence” criterion from the A Treatise on Probability.The demand and supply of money had to be taken into account along with the demand for investment and the supply of savings. Keynes never stated at any time in his life that his theory of the rate of interest was determined by liquidity preference ALONE.
Unfortunately, M.Millikan and J. Viner in the late 1930’s failed to cover chapters 15 and 21 of the General Theory. They then published academic papers that would mislead other researchers into believing that Keynes was arguing that the demand and supply of money ALONE determined the rate of interest.
The work of Millikan and Viner has probably mislead tens of thousands of economists over the last 80 odd years.Keynes’s very clear and lucid presentation of his four equation, simultaneous, formal, mathematical, determinate model, incorporating uncertainty as a shift paramenter in the GT in Section IV of Chapter 21, was completely overlooked by all reviewers of the GT. Champernowne indirectly made the best evaluation of Keynes’s model in 1936. Hicks’s “interpretation” is an inferior version of Keynes’s original system of equations presented as a system by Keynes in chapters 15 and 21 of the GT.
Nonetheless, an economist such as Krugman, working with Hicks’s version can ,in fact, do macroeconomics satisfactorily as long as he has also understood Samuelson’s (and Keynes’s) dissertation position, reiterated in his 1970 Nobel address conclusion, that optimization based, microeconomic models of individual maximizing behavior (Max U and Max π) can’t possibly be used to model macroeconomic behavior incorporating positive feedback effects, such as the multiplier and accelerator, because the macro whole then becomes far greater than the micro parts. It is simply mathematically impossible to represent the multiplier and accelerator impacts as a micro optimization problem based on negative feedback alone.
Unfortunately, it is precisely due to a gross ignorance of Samuelson’s position that the IS-LM version of Hicks was pushed aside in the mid 1970’s by Muth, Lucas, Sargeant, etc.over a bogus claim the IS-LM did not have a optimization based foundation in microeconomic optimization theory of the consumer and producer.
Keywords: Harrod, Hicks, Keynes, IS-LM , Liquidity preference, QJE 1937, chapter 15, pp.180-182 of GT, chapter 21
JEL Classification: B10, B12, B14, B16, B20, B22
Suggested Citation: Suggested Citation