Economics 101: How to Understand Say’s Law

The most concise expression of Say’s Law—also called Say’s Law of Markets—comes from the English translation of his best-known work, the 1803 Traité d’économie politique (A Treatise on Political Economy):

“Inherent in supply is the wherewithal for its own consumption.”

Economic historians interpret this to mean that aggregate supply—the total production of goods and services in a national economy—creates its own aggregate demand—the total demand for goods and services in a national economy. In other words, the aggregate supply of goods and services and the aggregate demand for goods and services will always be equal.

Inherent in this theory is that a free market economy tends toward full employment without the need for government intervention.

Say elaborated on the idea elsewhere in his treatise:

• “A product is no sooner created, than it, from that instant, affords a market for other products to the full extent of its own value.”
• “As each of us can only purchase the productions of others with his own productions—as the value we can buy is equal to the value we can produce—the more men can produce, the more they will purchase.”

1. 1. There cannot be a general glut of supply—a national economy will not find itself in a state of overproduction for long because the creation of goods and services generates wealth among the producers, who will then use that wealth to consume other goods and services.
2. 2. Only the production of goods creates wealth and economic activity. The consumption of goods destroys wealth.
3. 3. If there is a glut of one product, there is an unmet demand for another.

Misinterpretation aside, classical economists began to question the validity of Say’s Law soon after its formulation. British economist Thomas Malthus questioned the assumptions of Say’s Law in his book Principles of Political Economy (1820)

Malthus argued that some of the wealth generated by production may go into savings, rather than all production leading to consumption.

Malthus went deeper to say that aggregate supply doesn’t necessarily create an equal amount of aggregate demand—savings may result in underconsumption, and that a resulting general glut is possible in a national economy.

British political economist David Ricardo disagreed with Malthus and defended Say’s Law. “The shoemaker when he exchanges his shoes for bread has an effective demand for bread,” Riccardo wrote.

The chief critic of Say’s Law was British economist John Maynard Keynes, the author of major macroeconomic theories that have collectively became known as Keynesian economics.

Keynes pointed to recessions as evidence that Say’s Law did not apply to national economies. He argued that it was aggregate demand that influenced economic output, not the other way around, and that such demand did not always equal the productive capacity of a national economy.

Rather, Keynes argued, aggregate demand may be influenced by other factors. As a result, Keynes said, it is possible for a national economy to experience a glut of supply, leading to unemployment, higher interest rates, and inflation.

Followers of Keynes’ theories later pointed to the Great Depression as evidence that Keynes was correct about Say’s Law.

The regular occurrence of economic downturns as part of a business cycle of booms and busts undercuts Say’s dictum: Such downturns are accompanied by a general glut of supply as aggregate demand falls. The emergence of monetary policy also undercuts Say’s Law. A government may increase the money supply during an economic downturn to increase aggregate demand, but that does nothing to increase aggregate supply, contrary to Say’s Law.
Keynesian economist Paul Krugman echoes others who argue that aggregate supply does not create aggregate demand, but rather the opposite: A decline in aggregate demand can destroy aggregate supply and the capacity to generate such supply over the long term.

A few economists still believe Say’s Law applies. The so-called Austrian school of economics holds to Say’s belief that the economy tends toward full employment equilibrium and blames recessions not on economic forces but rather on government intervention in the private economy.

Supply-side economists, similarly, follow Say’s Law in arguing that increasing aggregate supply production—through such government spending as tax cuts or subsidies—will increase its own demand demand. But such policies have generally fallen short of predictions in real-world applications.

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