Cambridge capital controversy
The Cambridge capital controversy, sometimes called "the capital controversy"[1] or "the two Cambridges debate",[2] was a dispute between proponents of two differing theoretical and mathematical positions in economics that started in the 1950s and lasted well into the 1960s. The debate concerned the nature and role of capital goods and a critique of the neoclassical vision of aggregate production and distribution.[3] The name arises from the location of the principals involved in the controversy: the debate was largely between economists such as Joan Robinson and Piero Sraffa at the University of Cambridge in England and economists such as Paul Samuelson and Robert Solow at the Massachusetts Institute of Technology, in Cambridge, Massachusetts, United States.
The English side is most often labeled "post-Keynesian", while some call it "neo-Ricardian", and the Massachusetts side "neoclassical".
Most of the debate is mathematical, while some major elements can be explained as part of the aggregation problem. The critique of neoclassical capital theory might be summed up as saying that the theory suffers from the fallacy of composition; specifically, that we cannot extend microeconomic concepts to production by society as a whole. The resolution of the debate, particularly how broad its implications are, has not been agreed upon by economists.
Background[edit]
In classical, orthodox economic theory,[4] economic growth is assumed to be exogenously given: Growth is dependent on exogenous variables, such as population growth, technological improvement, and growth in natural resources. Classical theory claims that an increase in either of the factors of production, i.e. labor or capital, while holding the other constant and assuming no technological change, will increase output but at a diminishing rate that will eventually approach zero.[5]
The so-called natural rate of economic growth is defined as the sum of the growth of the labor force and the growth of labor productivity.[6][note 1] The concept of the natural rate of growth first appeared in Roy Harrod's 1939 article where it is defined as the "maximum rate of growth allowed by the increase of population, accumulation of capital, technological improvement and the work/ leisure preference schedule, supposing that there is always full employment in some sense."[7][note 2] If the actual economic growth-rate falls below the natural rate, then the unemployment rate will rise; if it rises above it, the unemployment rate will fall. Consequently, the natural rate of growth must be the rate of growth that keeps the rate of unemployment constant.
If the natural rate of growth is not exogenously given, but is endogenous to demand, or to the actual rate of growth, this has two implications.[6] At the theoretical level, there are implications for the efficiency and speed of the adjustment process between the warranted and the natural rates of growth in Harrod's growth model. Also, there are implications for the way the growth process should be viewed, and for understanding why growth rates differ between countries: whether growth is viewed as supply determined; or whether growth is viewed as demand determined; or determined by constraints on demand before supply constraints begin to operate.[6]
Harrod produced a mathematical model of growth whereby the natural rate of growth fulfills two important functions. First, it sets the ceiling to the divergence between the actual growth rate and warranted growth rate[note 3] and turns cyclical growth into slumps. Consequently, it is important for generating cyclical behavior in trade-cycle models that rely on first-order difference equations. Second, it ostensibly provides the maximum attainable long-run rate of growth.[note 4] The natural rate is treated as strictly exogenous; it is shaped by the growth of the labor force and the growth of labor productivity, without recognition nor assumption that both might be endogenous to demand.[note 5] Additionally, there was no fiscal or other economic mechanism in the theory that could bring the warranted rate of growth in line with the natural rate of growth, i.e. for society to achieve full or fuller utilization of its resources.
Central issue[edit]
The question of whether the natural growth rate is exogenous, or endogenous to demand (and whether it is input growth that causes output growth, or vice versa), lies at the heart of the debate between neoclassical economists and Keynesian/post-Keynesian economists. The latter group argues that growth is primarily demand-driven because growth in the labor force as well as in labor productivity both respond to the pressure of demand, both domestic and foreign. Their view does not mean, post-Keynesians state, that demand growth determines supply growth without limit; rather, they claim that there is not one, single, full-employment growth path, and that, in many countries, demand constraints (related to excessive inflation and balance of payments difficulties) tend to arise long before supply constraints are ever reached.[6]
The debate[edit]
The Harrod–Domar model's lack of a mechanism that could bring the warranted rate of growth into line with the natural rate of growth triggered the growth debate in the mid-1950s, a debate that "engaged some of the greatest minds in the economics profession for over two decades."[6] The neoclassical and Neo-Keynesian sides were represented by Paul Samuelson, Robert Solow, and Franco Modigliani, who taught at the MIT, in Cambridge, Massachusetts, US, while the Keynesian and Post-Keynesian sides were represented by Nicholas Kaldor, Joan Robinson, Luigi Pasinetti, Piero Sraffa, and Richard Kahn, who mostly taught at the University of Cambridge in England. The common name of the two places gave rise to the terms "the two Cambridges debate" or "the Cambridge capital controversy."
Both camps generally treated the natural rate of growth as given. Virtually all the focus of the debate centered on the potential mechanisms by which the warranted growth rate might be made to converge on the natural rate, giving a long-run, equilibrium growth-path. The American Cambridge side focused on adjustments to the capital/output ratio through capital-labour substitution if capital and labour were growing at different rates. The English Cambridge side concentrated on adjustments to the saving ratio through changes in the distribution of income between wages and profits, on the assumption that the propensity to save out of profits is higher than out of wages.[6]
Mas-Colell, Andreu (1989). "Capital Theory Paradoxes: Anything Goes", in Joan Robinson and Modern Economic Theory (G. R. Feiwel, editor), New York University Press, ISBN 978-1-349-08633-7