It Is Fallacious to Assume that the State Can Simply Add or Subtract Its Expenditures from that of the Private Economy

The breakdown of the economic system into a few aggregates assumes that these aggregates are independent of each other, that they are determined independently and can change independently. This overlooks the great amount of interdependence and interaction among the aggregates. Thus, saving is not independent of investment; most of it, particularly business saving, is made in anticipation of future investment. Therefore, a change in the prospects for profitable investment will have a great influence on the savings function, and hence on the consumption function. Similarly, investment is influenced by the level of income, by the expected course of future income, by anticipated consumption, and by the flow of savings. For example, a fall in savings will mean a cut in the funds available for investment, thus restricting investment.

A further illustration of the fallacy of aggregates is the Keynesian assumption that the State can simply add or subtract its expenditures from that of the private economy. This assumes that private investment decisions remain constant, unaffected by government deficits or surpluses. There is no basis whatsoever for this assumption. In addition, progressive income taxation, which is designed to encourage consumption, is assumed to have no effect on private investment. This cannot be true, since, as we have already noted, a restriction of savings will reduce investment.

Thus, aggregative economics is a drastic misrepresentation of reality. The aggregates are merely an arithmetic cloak over the real world, where multitudes of firms and individuals react and interact in a highly complex manner. The alleged “basic determinants” of the Keynesian system are themselves determined by complex interactions within and between these aggregates.

—Murray N. Rothbard, “Spotlight on Keynesian Economics,” in Strictly Confidential: The Private Volker Fund Memos of Murray N. Rothbard, ed. David Gordon (Auburn, AL: Ludwig von Mises Institute, 2010), 233-234.