425. H. Neisser to Harrod , 31 January 1935 [a]

[Replies to a letter not found]

227 Keyton Avenue, Swarthmore, PA #

31 January 1935

Dear Mr. Harrod,

I thank you very much for your interesting letter from 7.1. [1] By supposing flexible wage-rates, you have indeed removed a great part of all objections not only to price-stabilisation, but to real inflation, which are, under economic viewpoints, close together. You were entirely right, if people always would be guided by strictly logical operations, and not orientated--as in fact--by actual profit- and price-fluctuations which they unduly extrapolate into the future.

Supposing two commodities A and B, A with a small demand elasticity; technical progress lowers the costs per unit of A to 90% and the price falling to 80% of the equilibrium level; some purchasing power is transferred to B where the price is rising to 110%. Only adaptation of the structure of production, i.e. withdrawing resources from A and transferring to B secures a new equilibrium. If the price-level is stabilized, then, by injection of money, the price of A is raised to, say 85% and the price of B to 115%. But the higher prices and profits in B, the greater the danger of a speculative boom here, because the fact is overlooked that the profits in B are partly the result of lower investment-values and fixed interest-payments and that an increase in supply will raise here costs and lower prices. I admit that wrong anticipations may be created also by the original price-rise to 110%, which is inevitable also according to the policy of income-rate-stabilization. But the larger the short-run price-rise in B, the greater the danger of speculative malinvestment, and especially of an additional speculative credit expansion.

It is even worse in the case of h = 1. i.e. the price of A drops only to 90% and the price of B does not rise. Now price-stabilisation increases the profits in A and stimulates investment in a field which, though not over-invested yet, is permanently [c] in the danger to be overstocked on account of the technical progress.

This case is in real life not so rare, because the income-elasticity may be equal to unity, when the demand elasticity is smaller; i.e. even in cases with h < 1 the total outlay of consumers for a particular good may remain constant, if income in general is rising.

Very sincerely


H. Neisser

P.S. By credit expansion, interest-rates are, too, temporarily lowered below the equilibrium-level, unduly stimulating investment.

  1. 1. Harrod's letter was not found. However, it seems to have been stimulated by Neisser's article on "General Overproduction. A Study of Say's Law of Markets", Journal of Political Economy 42:4, August 1934, pp. 433-65, in particular by the section on "Indifference of the Price Level?" (pp. 436-41).
    1. a. TLS, with autograph additions, two pages on one leaf, in HP IV-778-779. Spacing on the TS is unorthodox and at times random, and has been normalized throughout without further warning.

      b. Ts: «in case».

      c. Ts: «permanebtly».

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