[tim.rozmajzl]

I am reading de Soto’s Money, Bank Credit, and Economic Cycles. Having a hard time with a section on the effects of voluntary savings on the structure of production. In discussing a hypothetical voluntary 25% increase in savings (fall in consumption), he says:

Only after a prolonged period of time will the depressive effect which the rise in
savings exerts upon the final stage (that of consumer goods) begin to be felt in
the stages closest to it, and this negative influence will increasingly weaken
as we “climb” to productive stages relatively more distant from final consumption.

He argues further that the resulting disparity in profits (higher profits at the higher
stages, lower profits – or losses – at the lower stages) is what signals entrepreneurs to divert
resources from the lower (more consumer-proximate) to higher (less consumer-proximate) stages.

Is it really the case that there is, in fact, a “prolonged period of time” before
entrepreneurs at all stages of production are aware of the rise in savings (fall in consumption),
that the previous market rate of profit (interest) persists at these higher stages, and that
the relatively higher rate of profit is what lures entrepreneurs to invest in the higher stages,
thus lengthening and widening the structure of production?

Don’t market/price signals propagate too quickly for this to be the case? Aren’t entrepreneurs
generally more aware of market conditions at all levels? Is it more plausible that
entrepreneurs, trying to make a buck in a tighter market, realize that they have to find ways
to cut costs, and that this motivates them to invest in more capital-intensive, roundabout
production methods?

It seems less believable to me that entrepreneurs, generally, will invest in higher stages,
seemingly ignorant of the fall in consumption, or that the rate of profit will remain high at
the higher stages of production for any appreciable period of time.

[jmherbener]

It would be helpful in formulating a response if you could give the page number of the quote so we can read its context. In the meantime, below is a general comment on the process of adjustment in the market to more saving and less consumption.

When people save more and consume less. demands for consumer goods fall and their prices decline. As their production become unprofitable, entrepreneurial demand for the specific capital goods produced in the lower stages declines and their production becomes less profitable. At the same time, the additional saving lowers interest rates making other investment projects more profitable. The demands for resources to produce these capital projects increases. Their production lengthens out the structure of production as its buildup will prove to be profitable in the future with the new array of prices.

This entire processes of price adjustment is difficult to condense into a paragraph. I suggest you read Murray Rothbard’s discussion of the same phenomenon in Man, Economy, and State, chapter 8, and then post any followup questions you have. Rothbard systematically explains how prices and production adjust throughout the production structure to restore the interest return in all production processes after a voluntary increase in saving-investing.

http://library.mises.org/books/Murray%20N%20Rothbard/Man,%20Economy,%20and%20State,%20with%20Power%20and%20Market.pdf

Also, take a look at Bob Murphy’s study guide to Man, Economy, and State, for chapter 8.

http://library.mises.org/books/Robert%20P%20Murphy/Study%20Guide%20of%20Man,%20Economy,%20and%20State.pdf

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