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Why the Wealth Effect Doesn’t Work

March 11, 2014
Piggy Bank and clockChris Casey writes in today's Mises Daily: 
Regardless as to whether or not increased wealth will actually spur increased consumer spending, the most important component of the wealth effect is the assumption that increased consumer spending stimulates economic growth. It is this Keynesian concept which is critical to the wealth effect’s validity. If increased consumer spending fails to stimulate the economy, the theory of the wealth effect fails. Wealth effect turns into wealth defect. Will increased consumer spending improve the economy? On one side of the argument, we have the aggregate individual conclusions of hundreds of millions of economic actors, each acting in their own best interest. These individuals and businesses are attempting to reduce consumer spending and increase savings. Dissenting from their views are the seven members of the Board of Governors of the Federal Reserve. Each member believes in the paradox of thrift — the belief that increased savings, while beneficial for any particular economic actor, have deleterious effects for the economy as a whole.

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