143) argues that the business cycle is caused by fluctuations in the

marginal efficiency of capital. Investment is unstable because of the uncertainty underlying investors' cash flow expectations.

would have to consider if it adopted the microeconomic approach to price control in a competitive industry, namely, the allocation of investment between firms in the industry, a policy which Keynes perhaps foresaw when he wrote: 'I expect to see the State, which is in a position to calculate the

marginal efficiency of capital on long views and on the basis of the general social advantage, taking an even greater responsibility for directly organising investment' (Keynes 1936: 164).

He eventually accuses Mises of "confusing the

marginal efficiency of capital with the rate of interest" (1936, p.193).

The marginal propensity to consume, the

marginal efficiency of capital, and the liquidity preference are the key determinants of the level of employment.

as being occasioned by a cyclical change in the

marginal efficiency of capital' (p313).

Second, when calculating the

marginal efficiency of capital probability distributions come into play.

Keynes (1936) argued that the "

marginal efficiency of capital" could be computed as the discount rate that makes the present value of the returns on an asset equal to its current price and that it was equivalent to Fisher's rate of return on an investment.

In Keynes' book, The General Theory of Employment Interest and Money, he advanced the concept of the "

marginal efficiency of capital".

But I now read these discussions as an honest intellectual effort to keep separate what the classical theory has inextricably confused together, namely, the rate of interest and the

marginal efficiency of capital. For it now seems clear that the disquisitions of the schoolmen were directed towards the elucidation of a formula which should allow the schedule of

marginal efficiency of capital to be high, whilst using rule and custom and the moral law to keep down the rate of interest.(23)

The independent determinants of the level of employment, therefore, are the propensity to consume and the inducement to invest, which is the relationship between the

marginal efficiency of capital and the interest rate.

This paper is a rejoinder to "The

Marginal Efficiency of Capital: Comment" by Lucas M.

In Keynes" analysis the independent variables are the rate of interest, the

marginal efficiency of capital and the marginal propensity to consume.