Thursday, February 26, 2009

Wealth is not riches

There's a fundamental misunderstanding about the nature of wealth, and how to produce it. The misunderstanding leads to a serious error – an error explained by the concept of “purchasing power.” 

Let me explain in simple terms.

Wealth is not riches.  Whereas riches is a measure of the command we might have over dollar bills, wealth (in a simple sense) is a measure of the command we have over real goods and services

See the difference? 

Sure, dollar bills are generally our means of obtaining real goods and services, so it’s easy to confuse the two.  But confusion over the two is the chief means by which this basic economic error makes you poorer.

It’s true.  To demonstrate, let’s put our two clarifying statements together: Our own personal wealth is a measure of the command our dollar bills have over real goods and services –- in other words, of our purchasing power.  Which means, to take it a little further, that to increase our wealth means to increase our purchasing power.  (In places like New Zealand however, where in real terms wages and salaries haven’t risen for years, we’ve still yet to learn this point.)

There’s a corollary in this for pubic policy -– and the policy you support will depend on your understanding or misunderstanding of the distinction between wealth and riches.

If you understand the distinction, then you’ll understand that the means by which we make ourselves wealthier is by producing an increasing number of the goods and service we want at an ever lower price, which is what it means to increase the purchasing power of our dollars.  To put it another way, a society in which we see gently falling prices over time is a society that is making itself wealthier.

This, by the way, is precisely the sort of society our great-grandparents enjoyed from 1860 to 1914, when the gold standard was suspended to pay for World War I.

Conversely, if you misunderstand the distinction, if you think that the measure of your wealth is the number of dollar bills in your pocket, then you will also support the idea that the way to increase your wealth is simply to increase the number of dollar bills in your pocket, regardless of what those dollar bills can pay for.  You see, if we all have more dollar bills (perhaps because the government or its bankers are “injecting” more credit into the system) and this increased number of banknotes is chasing the same amount of real goods and services, then all we’ve done with our new tranche of printed paper is to reduce our purchasing power.

In places like Zimbabwe, they’re beginning to understand that.

In places like the US, the UK, Australia and New Zealand however, they call that injection “stimulus.” Or “stabilisation.”

And it only makes us poorer.

If we want to make ourselves wealthier, we need to learn how to make more for less – to increase the purchasing power of our money.  Conversely, if we want to keep making ourselves poorer, then we’ll continue with the delusion that more money means more wealth instead of less.

It all comes down to purchasing power – but not in the way the Keynesians ever thought.

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4 Comments:

Blogger FreeMack said...

This was beautifully illustrated at the McPhail and Gadsby play "Letter To Blanchy: Stir crazy", that I went to last night. 4 men were trapped in a mountain hut in the rain. They started playing poker using stones as chips. They made the point that a stone could be worth $1,000 just as easily as a plastic poker chip at a casino. They then asked which institution they would exchange that at for this notional value.
One of them lost all of his stones he just went outside and got more.
I thought it all a wonderful economics lesson!

2/26/2009 12:56:00 pm  
Anonymous Sus said...

"(In places like New Zealand however, where in real terms wages and salaries haven’t risen for years, we’ve still yet to learn this point.)

There’s a corollary in this for pubic policy .."

So that explains it. ;)

(Come on ... it was too good to overlook!).

2/26/2009 02:34:00 pm  
Anonymous gregster said...

Couldn't believe the nonsense and contradiction in this article:
http://www.nzherald.co.nz/politics/news/article.cfm?c_id=280&objectid=10558721&pnum=2

Bryan Gould: Treasury must look past interest rates to boost economy

Bryan you are pathetic!

2/26/2009 05:17:00 pm  
Blogger Lee S. said...

thanks for a clear explanation, i think i'm slowly beginning to understand economics

2/27/2009 05:31:00 pm  

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