A relatively simple example straight from literature to make my point a bit more insightful
Imagine there is a product that sells for 100 USD. To produce this product, a capitalist of the first order expended 80 USD on capital goods and 15 USD on labor and land.
However, said capital goods are not "original" factors, they need to be produced in another production process. Assume the capitalist of the second order expended 60 USD on capital goods and 16 USD on labor for the production of the second order capital good.
Now trace this back and you might end up with a production structure that looks like this:
(the text
in blue denotes USD income to land and labor, the other text denotes USD income to owners of capital goods)
19 | | | | | |
<- 20 -> | 8 | | | | |
<- | 30 -> | 13 | | | |
<- | --- | 45 -> | 12 | | |
<- | --- | --- | 60 -> | 16 | |
<- | --- | --- | --- | 80 -> | 15 |
In this example, a consumer expenditure of 100 USD is broken down into a total of 17 USD interest income to capitalists and 83 USD income to land and labor.
For instance, in the 2nd row from the top, a capitalist purchases a capital good for 20 USD (which has been produced for 19 USD which went to labor and land factor owners), alongside 8 more USD for land and labor, to produce a capital good which he sells to the next capitalist for 30 USD.
Capitalists of the first order pay 95 USD, of which 15 USD goes to land and labor owners, and 80 USD to capitalists of the second order.
Capitalists of the second order pay 76 USD, of which 16 USD goes to land and labor owners, and 60 USD to capitalists of the third order.
C of the 3rd order pay 57 USD, 12 USD land and labor, 45 USD to C of the 4th order
C4 . . . 43 USD -> 13 USD land and labor, 30 USD C5
C5 . . . 28 USD -> 8 USD land and labor, 20 USD C6
C6 . . . 19 USD -> 19 USD land and labor
A total of 318 USD was expended by capitalists, of which 83 USD went to land and labor owners (and this is net income) and 235 USD went to capitalists
The net incomes of the production good capitalists are as follows:
C2 . . . 80 - 76 = 4 USD
C3 . . . 60 - 57 = 3 USD
C4 . . . 45 - 43 = 2 USD
C5 . . . 30 - 28 = 2 USD
C6 . . . 20 - 19 = 1 USD
And the net income of the consumer good capitalists is 100 - 95 = 5 USD.
Total capitalist net income is 17 USD.
Now here's the decisive point.
It is supremely tempting to write off the various transactions among the capitalists as "duplications" and just consider net incomes.
If that is done here, the total net income is as follows:
17 USD to the capitalists (12 USD for capital-good capitalists and 5 USD for consumer-good capitalists)
83 USD to land and labor factors.
The grand total net income is 100 USD, which is exactly equal to the total consumer spending in this case.
If you use net incomes and net savings, you come to believe that the really important element in maintaining the production structure is consumer spending.
In this example, the various factors and capitalists receive their net income and plow it back into consumption, thus maintaining the productive structure and future standards of living, i.e. the output of consumer goods.
The inference is clear, capitalists' savings (from which investments are derived) are necessary to increase and deepen the capital structure, but even without any such savings, consumption expenditure alone is sufficient to keep the productive capital structure intact.
However, this is tragically wrong.
There is no simple automatism in capitalists' spending.
Because production is divided into stages, it is not true that consumption spending is sufficient to maintain the capital structure.
If you look at the example and consider it to be the entire economy, you come to the conclusion that there is 100 USD in net income and 100 USD in total consumer spending, meaning there is 0 net savings.
However, you must resist the temptation to just "cancel out" intercapitalist transactions, instead you must consider
all the decisions that result in the supply of present goods on the market.
These decisions are
aggregated, and not canceled.
The total savings in this example are not 0, but the aggregation of all the present goods that are supplied to owners of future goods during the production process.
In other words, the sum of the advance payments (supplies) made by C1, C2, C3, ... C6, which equals
318 USD.
That is the total
gross savings and also total
gross investment.
The total expenditures on production are thus 100 (consumption) + 318 (investment == savings) =
418 USD.
The total gross income from production equals the gross income of consumer-good capitalists (100 USD) + the gross income of other capitalists (235 USD) + the gross income of owners of land and labor (83 USD) which equals
418 USD.
If you look at it this way, the example is an economy in which 418 USD are earned in gross income, 100 USD are spent on consumption, and 318 USD are saved and invested in a certain order in the production structure.
Instead of 0 savings being needed to maintain capital and the production structure intact, we see that a BIG proportion of savings and investment (in this example, more than 3x of what's spent in consumption) is necessary simply to keep the production structure intact.
The popular net income theorists implicitly assume that the only important decisions in regard to consuming vs. saving/investing are made out of people's net income.
Since the net income of capitalists is relatively small, they allegedly play only a minor role in maintaining capital.
However, what maintains capital is
gross expenditures and
gross investment, not net investment.