Thursday, 24 July 2014 18:10

The Core of the Core of Douglas’ A+B Theorem (and hence of Social Credit’s Economic Diagnosis)

Written by Oliver Heydorn
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One of the key aspects, if not the key aspect, of the Social Credit analysis of financial and hence economic dysfunction has to do with the chronic and underlying deficiency in consumer purchasing power relative to the prices of consumer goods and services. That is, in a modern, industrialized country, there is a structural defect or rather a series of defects that either cause or permit a gap between the rate at which final prices are generated in the economy and the rate at which consumer incomes are liberated in the production of the respective goods and services. An honest financial system, i.e., one which adequately reflected reality, would not allow for such an inherent discrepancy between prices and incomes.

N.B. : Contrary to an assumption commonly shared amongst objectors, the Social Credit diagnosis does NOT claim that there never can be sufficient consumer purchasing power to clear the market in consumer goods at any given point in time. It claims that, under present conditions, there can never be sufficient consumer income derived from the production of the consumer goods that are being placed on the market to completely clear that market and liquidate all costs ... even if all of the relevant stages of production are being maintained in a steady-state. The gap in question is an underlying gap which may or may not manifest itself in the consumer market depending on whether or not, or to what extent, conventional remedial measures are employed in the attempt to mask it. Even when it does not manifest itself in the consumer market, the gap is always present in the form of production costs that may be transferred via new debts to producers and consumers, but are never finally and properly liquidated with an equivalent volume of debt-free money.

Apart from the saving of incomes (which is a separate but allied issue), Douglas identified the major causes of this discrepancy as residing in the following four factors: the collection of profits (including profits from interest payments), the re-investment of savings, the implementation of deflationary policies on the part of banks, and “the difference in circuit velocity between cost liquidation and price creation.”[1]

The last element, otherwise known as the A+B theorem, is the most significant factor. As can be empirically observed in the case of any productive enterprise that is not headed towards bankruptcy, the rate at which such an organization builds up prices is greater than the rate at which it distributes incomes. The rate of flow of incomes (as represented by A) is necessarily less than the rate of flow of prices (as represented by incomes [A] and other non-labour costs, as represented by B). Therefore, A+B > A.

In an economy that depends solely on hand production, this fact will not translate into a gap between final prices and consumer incomes provided that production, with the suitable co-operation of finance, is kept in a steady-state of self-repeating motion. However, the modern, industrialized economy does not embody the conditions of the hand labour economy; it relies increasingly on power-driven machinery. The inclusion of machines and the consequent displacement of labour upset this equilibrium because of the way in which capital production is financed and the way in which the costs associated with its acquisition and use are then tabulated in accordance with the standard conventions of industrial cost accountancy.

There is (at the very least) a double demand on the money (i.e., the bank credit) that is issued to finance capital production: on the one hand, the banks that had lent the money require that it be paid back (either over an extended period of time in installments, or else all at once should the company issue a public offering of shares); on the other hand, the companies that have acquired capital assets will endeavour to sell these to the public (directly or indirectly) in the costs and hence prices of ultimate goods so that the capital assets can be maintained and eventually replaced.

Clearly, the same sum of money issued in the process of capital production cannot be used to pay two sets of equivalent costs because money cycles rather than circulates; i.e., the money used to pay off the bank loan will be destroyed and will therefore not be available to meet the producer’s depreciation costs (or any of the other costs associated with the use of real capital). The result is an inherent deficiency of consumer purchasing power relative to the industrial costs that are simultaneously being generated:

Now it is obvious that there is a great difference between a debt which represents the loan of money, laboriously saved through a lifetime of hard work, and invested, let us say, in industrial shares, or in a small business, and the much larger debts which are created by the banking system by writing figures in a book or by printing notes, or lending them. The genuine investments of the public for the most part go to pay off bank loans or costless money which were issued for the purpose of producing real capital in the form of machinery or buildings, and when these loans have been repaid by the investment of the public, there is no money outstanding in respect of these capital assets; it has been destroyed by the bank. The new owners, however, by industrial cost accounting, endeavour to sell the real assets to the public by including them in the price charged for goods and services, and as the money equivalent of these prices does not exist, they fail, or, as the phrase goes, ‘their businesses do not pay’.

This portion of the problem, while puzzling, can be shortly stated. The present financial system claims payment in money for the creation of money itself. ... In addition to this claim by the bank for the use of its money, the industrialist, with much more reason, claims payment for the use of his real plant and buildings; and he claims it also in money. Neither he nor the banking system, however, recreates the necessary money to enable this payment to be made by the public.[2]

This deficiency in consumer purchasing power is further exacerbated by the fact that not all of the money that is issued to finance capital production finds its way into the consumer market as income in consumer’s pockets, either in the same period of time that the respective costs are coming forward to be liquidated or at all. A certain percentage of the producer credit used in capital production is locked into the producer system for a certain period of time, or for all time, insofar as it is used to extinguish producer debts in the chain of production. In other words, even if the banks did not require that the money they had advanced for capital production be paid back, the sum of money used to catalyze the capital production would not yield an equivalent sum of money in the form of consumer incomes with which all of the costs of operating and consuming real capital could be met. As Douglas once put in a discussion with John Maynard Keynes:

[T]here is a large amount of purchasing power which is permanently retained purely in the productive system, and never gets out into the consumers’ system.[3]

The end result is that even if or even when production, including capital production, is being kept in a steady-state of self-repeating motion, the industrial system under standard financial and accountancy conventions generates a significant disparity in the rate at which final prices are being built up as compared with the rate at which consumer incomes are liberated. The financial system is not fully self-liquidating.

N.B.: It is sometimes objected (in direct opposition, as a matter of fact, to the first objection which we had considered) that this disparity, while it exists, is of no great consequence or is even a necessary spur to economic activity because the deficiency of consumer purchasing power can be made up and is often made up (at least in part) by increasing production, especially capital production, so that the incomes distributed by this additional productive activity can help to bridge the underlying gap without increasing the rate of flow of final prices in the same period of time. It is true that the gap can be bridged in this way, but there are two major problems with this compensatory method which render it wholly unsatisfactory.

In the first place, consistently attempting to fill the gap via increased production renders it ever more difficulty to bridge the gap in succeeding periods. The costs of new production (unless exported, or paid for on public account and without any intent to recover the costs in increased taxation) eventually filter into costs of consumer goods, thus increasing the aggregate costs that must be met if the consumer market is to clear. This then necessitates an increase in the rate of compensatory new production in the next period if equilibrium between final prices and incomes is to be maintained. As the costs of the additional compensatory production will eventually manifest itself in the costs of consumer goods, the problem is progressively worsened. In other words, filling the gap with new production requires exponentially increasing production if equilibrium is to be maintained over the long-term. This is neither physically nor financially (as successive booms and slumps have shown) sustainable. As John Maynard Keynes expressed the matter:

Consumption is satisfied partly by objects produced currently and partly by objects produced previously, i.e. by disinvestment. To the extent that consumption is satisfied by the latter, there is a contraction of current demand, since to that extent a part of current expenditure fails to find its way back as a part of net income. Contrariwise whenever an object is produced within the period with a view to satisfying consumption subsequently, an expansion of current demand is set up. Now all capital-investment is destined to result, sooner or later, in capital-disinvestment. Thus the problem of providing that new capital-investment shall always outrun capital-disinvestment sufficiently to fill the gap between net income and consumption, presents a problem which is increasingly difficult as capital increases. New capital-investment can only take place in excess of current capital-disinvestment if future expenditure on consumption is expected to increase. Each time we secure to-day’s equilibrium by increased investment we are aggravating the difficulty of securing equilibrium to-morrow.[4]

In the second place, it only makes rational sense, in view of the true purpose of economic association, i.e., the delivery of goods and services, as, when, and where required, to increase the rate of production (including capital production) if the resulting consumer goods and services are desired for their own sake. When a society has reached that stage of physical economic development which allows it to deliver all of the goods and services which consumers can reasonably use with genuine profit to themselves (i.e., in service of their objective well-being), it makes no sense whatever to engage in additional production simply to distribute incomes so that the consumer market can clear. The economy does not exist for the purpose of providing employment; i.e., economic activity does not exist in the first place for the purpose of distributing incomes. In the industrialized world, it is currently the case as a matter of fact (as opposed to theory) that much of the increased production which is relied on to help bridge the gap does not represent production that is desired for its own sake. As Douglas put it so many decades ago: “production for the sake of consumption is becoming the least important objective of industry.”[5] Instead of constituting a supposedly necessary adjunct in the quest for economic stability, such feverish economic growth represents a colossal waste (misdirection) of human effort and economic resources.

Indeed, the importance of Douglas’ A+B discovery, as it applies to an industrialized society, cannot be overstated. There is not a single societal problem, whether it be primarily economic, political, social, cultural, environmental, or international in nature, which is not directly caused, or else exacerbated, or else the satisfactory solution of which is not thwarted, by this gap between prices and incomes, by this inherent imbalance in the economy’s financial operating system. The A+B theorem remains “the vital theorem on which turns the immediate future of civilisation.”[6]


[1] Cf. C.H. Douglas,The New and the Old Economics (Sydney: Tidal Publications, 1973), 15.

[2] C.H. Douglas in C.H. Douglas and Dennis Robertson, “The Douglas Credit Scheme,” The BBC Listener IX, no. 233 (June 1933): 1005.

[3] Evidence submitted to the Macmillan Committee of Finance and Industry. Cmd. 3897, vol. 1 304 para 4478. This flow of purchasing power (mainly in the form of producer credit) to which Douglas referred adds to the flow of prices without simultaneously releasing any consumer income with which these prices might be liquidated. Cf. C.H. Douglas and Dennis Robertson, “The Douglas Credit Scheme,” The BBC Listener IX, no. 233 (June 1933): 1007:

“[P]ayments involved in transactions between one producer and another do not distribute incomes which are equivalent in the same period of time to the prices which are generated by the same process.”

[4] J.M. Keynes, The General Theory of Employment, Interest, and Money (New York: Harcourt, Brace & World, Inc., 1964), 105.

[5] C.H. Douglas, The Monopoly of Credit, 4th ed.(Sudbury, England: Bloomfield Books, 1979), 13.

[6] C.H. Douglas, “A+B and the Bankers,” The New Age, January 22/29, 1925, n.p.

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  • Comment Link Royal CBD Thursday, 21 May 2020 08:23 posted by Royal CBD

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  • Comment Link Ted Reznowski Wednesday, 24 January 2018 17:37 posted by Ted Reznowski

    This is Ezra Pound’s paraphrasing of Douglas’ famous A & B theorem:

    A factory has also another aspect, which we call the financial aspect it gives people the power to buy (wages, dividends which are power to buy) but it is also the cause of prices or values, financial, I mean financial values It pays workers, and pays for material.

    What it pays in wages and dividends stays fluid, as power to buy, and this power is less, per forza, damn blast your intellex, is less than the total payments made by the factory (as wages, dividends AND payments for raw material bank charges, etcetera) and all, that is the whole, that is the total of these is added into the total of prices caused by that factory, any damn factory and there is and must be therefore a clog and the power to purchase can never (under the present system) catch up with prices at large, and the light became so bright and so blindin’ in this layer of paradise that the mind of man was bewildered.
    (Canto XXXVIII)

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