What Is Say's Law Of Markets?

Say's law of markets is a classical economic theory that says that production is the source of demand. According to Say's law, producing a product creates demand because one product can be exchanged for another.

Key Takeaways

  • Say's law of markets is theory from classical economics positing that the ability to demand something depends on the ability to produce.
  • Say reasoned that to have the means to buy, a buyer must first have something to sell. Thus, the source of demand is production, not money.
  • The law contradicts the mercantilist view that considers money to be the source of wealth.
  • Say's view purports that governments should not interfere with the free market and should adopt laissez-faire economics.

Understanding Say's Law Of Markets

Say’s law of markets was developed in 1803 by the French classical economist and journalist, Jean-Baptiste Say. Say was influential because his theories address how a society creates wealth and the nature of economic activity. To have the means to buy, a buyer must first have something to sell, Say reasoned. So, the source of demand is production, not money. In other words, a person's ability to demand goods or services from others is predicated on the income produced by that person's own acts of production

Say's law posits that a buyer's ability to buy is based on the buyer's ability to produce.

The law of markets ran counter to the mercantilist view that money is the source of wealth. It supports the view that governments should not interfere with the free market and should adopt laissez-faire economics. Say's law still lives on in modern neoclassical economic models, which assume that all markets clear.

Say’s law has also influenced supply-side economists. Supply-side economists believe that tax breaks for businesses and other policies intended to spur production create booms and busts and cause misallocation of capital. Austrian economists also believe that Say’s law would hold if interfering governments and monetary policy did not distort the economy.

Implications of Say’s Law of Markets

A prominent issue Say addressed was whether a free economy could experience a depression as a result of overproduction or excess demand. Say’s law posits that a supply glut cannot be the cause of such a downturn because macroeconomic activity promotes stability and the economy should always be close to full employment. Because the supply of one type of good constitutes the demand for other, different goods, aggregate demand is not only equal to, but identical to, aggregate supply. To boost the economy, the focus should be on increasing production rather than demand.

The Keynesian Challenge to Classical Economics

The Great Depression appeared to prove that economies could experience crises that market forces could not correct. At the time of the depression, there was an abundance of manufacturing capacity but not enough demand. British economist John Maynard Keynes challenged Say’s law in his seminal book, "General Theory of Employment, Interest and Money."

Keynesian economics argues that governments do need to intervene to stimulate demand — through expansionary fiscal policy and money printing — because structural rigidities in the economy can lead to unemployed resources. Banks businesses and consumers hoard cash in hard times and during liquidity traps, as we witnessed during the global financial crisis.