Reason for a New Age

Posts Tagged ‘inflation’

The Gold Standard

Posted by publius2point0 on 2010/03/28

An urge to return to the Gold Standard seems to have become a rallying point in recent years. This is, frankly, stupid and probably exemplifies why Libertarians haven’t been able to wrest hold of the reins of the Republican party nor become a leading party in their own right since the word “libertarian” has become a decently known word in American parlance. A grand and noble desire for something that would be by all accounts wonderful still doesn’t negate the fact that reality needs to be considered when deciding what would and wouldn’t be wonderful.

Now it would be wonderful if the way that the world worked was something that could be understood without research and deliberation. It is after all much better when you can say that money is worth something because you can transfer it into gold, which is worth something because mumble mumble whirr squiggledybink. While as it is worse if you can only say that money is worth something because you can transfer it into products and labor, which are worth something because well…they’re useful.

Firstly, let us examine why gold was ever used as a necessary part of our economy to begin with.

The Value of Gold

As you will recall from Money and Philosophy, the simplest and basic goal of money is to be able to trade one person’s labor for another. Since a product requires some amount of labor to create, money is traded for it–representing that labor. Of course, how much one person’s labor is worth is dependent on how much each of us are willing to trade the products of our own labor for (i.e. our joint perceived value). See: On Scarcity and More on Pricing

If I give a certificate for my labor to Bob, and Bob goes to Jacky and offers my certificate to her in exchange for something, Jacky needs to be able to verify that the certificate is real. If she knows me, she might recognize my handwriting. If she lives near by, she can come over and ask, just to be certain. But historically, money was principally used to trade with other villages or people that you didn’t know very well. Jacky would much rather have something that she can verify the value of implicitly. Gold is a particular color, a particular weight, and it is ever so slightly malleable. That gold is exactly what it appears to be is something that makes it a decent token.

Of course, minus some sort of pre-arranged encryption strategy or whatever else, I have no way to create a certificate from me to any other random person on the planet. Much better than a personal certificate is to use a general token for anyone’s labor. If I give Bob a chair and Bob carries that chair to the next village, he can trade it to Jacky for its value as a chair. It has an inherent value as a useful object. A chair is quite unwieldy though, you really prefer something that is valuable even in small quantities. Salt, for example, was an early form of money because it is useful in small quantities, and it has an inherent value.

Another nice point of salt is that it is nearly infinitely divisible, so people can bargain about the relative values of their labor. If I only have a chair to trade, and I want Jacky to give me a cup of water, I have to consider whether a single cup of water is worth the value of an entire chair. It probably isn’t. But there is no way for me to cut off one leg and give it to her. The parts of a chair are not equal to the sum of the whole. And so I must go without the water even though I reasonably possess enough wealth to purchase it from her.

Now I could go out and sell everything I have for salt and end up with a large sack of it. With that sack I can go to any other town and, via trade, get back an equivalent amount of stuff for living and resume my life. In the interim though, that salt is really fairly useless to me. I can’t really eat it, it won’t protect me from the weather, it won’t warm me, nor will it help me to travel. While salt does have an intrinsic value, if you stockpile it, that value is based on its strength as a trade object, not on its utility.

Gold is a scarce resource, and so it takes a fairly decent bit of labor to attain. But, at least until modern chemistry and engineering came along, it had no utilitarian purpose. One could make jewelry of it, but that was only useful to make things that pleased the gods or pleased the powerful, because they could make jewelry to make themselves or their women look flashy. Looking flashy is of course a luxury.

But so, say that I have come to a new village with a sack of salt. If I want to resume my life, I need a house. I might have a house’s worth of salt in my sack, but that doesn’t mean that there is actually an available house for me to have. Only the most powerful people in town could see to it that labor is organized and works properly to build me a house or that someone is executed to free up one.

If you’re the voice of the gods on Earth or you’re the biggest baddest mofo with the largest group of trained warriors, the worries of survival are simply absent. Luxury and looking flash are really the only things of value that you can obtain. A bag of salt may be worth something to your average farmer, but the King or the High Priest wants ice, gold, foreign spices, or whatever other luxurious but less-than-utilitarian objects. (Note that while salt is useful as a spice, this was a secondary matter compared to its uses as a preservative.)

Ice is hard to transport, and spices (within Europe at least) were far too foreign. Gold might not be abundant, but it was something that is available anywhere in the world if you look for it. It is a good choice for ingratiating yourself with the head honcho.

Overall, gold has the following powers:

  1. Difficult to counterfeit.
  2. Valuable in small, transportable quantities.
  3. Infinitely divisible.
  4. Valued by the powerful.

The Value of Fiat Money

Fiat money, i.e. dollar bills, is specifically manufactured to be difficult to counterfeit. You can represent vast quantities of value within just your billfold, but you can also divide it into smaller quantities than are useful for anything. As such, three out of four, it already stacks up with gold as representative of labor.

The only question remaining is whether it is valued by the powerful. Since they can trade it in for gold or any other luxury or bit of flash, it seems to be just as good as gold itself. More importantly, whereas gold was only quasi-guaranteed as transferable to real goods via the powerful, fiat money is considered valuable by everyone. I can go to an architect and a construction company directly and get what I want without having to go through the middle-man of the powerful. He offers his labor to me because it has been proven that he can trade his labor for a sufficient amount of food and other supplies as to be able to survive and so he doesn’t need to be coerced into leaving his farm and helping to build my house. We all respect that his labor is worth trading for, so it is simply a question of the instrument for trading labor around. Fiat money does accomplish this goal.

The fourth power of gold is simply unnecessary so long as the first three conditions are met and everyone is willing to go along with it.

The only question that is left unanswered is, how do you value labor via fiat money if fiat money doesn’t–to start with–have any inherent value? That is a problem, if you’re starting an entirely new economy, but for one which has already been able to equalize at some particular accepted worth, it’s not really an issue. Even so, it’s still accomplished easily enough by simply starting with an arbitrary and constant quantity of money. By definition, all of that money becomes worth the entire value of all labor that exists. That will always be true and so money is inherently valuable.

And, remember also that like my sack of salt, when a commodity is used as currency its only value is for its ability to be traded.

“Printing Money”

When an accepted equilibrium of the value of money has been accepted, that money’s value is based on what can be traded for it. If I have a million dollars, I can buy a house. Hence, a million dollars is as valuable as a house. So long as the amount of money in the system changes slowly enough for prices to change with it, there is no issue. If the amount of money in the system changes rapidly, everyone knows that there isn’t really that many more houses or cars or whatever else in the economy, so they consider the money to be worth less than it was. But, seeing that it is changing at a fast rate, they are also afraid to trade because they can’t be certain how much their money will be worth at any given time.

It’s worth pointing out how “printing money” is accomplished. A big stack of money in a warehouse doesn’t affect anything. It must be inserted into the economy via some means. Generally, there are two methods.

Firstly, the central bank can give loans at zero interest. Since we know that 100% of all ventures don’t succeed, we know that not all of that money will be paid back. The money makes its way into the system based on impractical expectations of the future. The second method is by direct investing. That is to say, instead of merely offering loans at the central bank, the government actively goes out and convinces people to take their loans. If there had been enough confidence in the value of offering loans to those people to begin with, or the people had been confident enough of their own ventures to come seeking a loan, this wouldn’t be necessary. These are all going to be highly speculative loans and hence, again, fail at a greater rate than is reliable.

The Gold Standard

As you will recall from Tying it all Together, inflation occurs by giving loans and, essentially, letting the central bank go further and further into debt. This is acceptable because the central bank only loans to reasonably safe investments–charging interest to make up losses–and in end result creates new wealth (i.e. more valuable labor) that can pay itself off.

Now, my dad once told me (back before the internet) that the way that phone cables were set up, at most only 1/3rd of everyone could use their phone at the same time. This was a large enough value that it served all needs without adding unnecessary expense. If everyone did try to make a phone call at the same time, well, what the result might be is unclear, but it certainly wouldn’t work as desired.

A gold-backed system is like that. Everyone should, theoretically, be able to go in and trade all of their money for gold, and hence see that their money is worth something of value. But if you did that precisely, you couldn’t give loans at all. So instead you loan out to the extent that there’s only so much excess money in the economy that when people do come in to trade their money for gold, it can always be given. If everyone came asking for gold, they’d be out of luck, but everyone doesn’t do so, and so the system works.

But, that caps the maximum amount of debt that the central bank can go in to, which means that the number of businesses and individuals they can offer loans to is capped, regardless of whether they have practical and worthwhile ventures that they are planning or not. That those ventures would offer greater wealth to humanity and pay themselves off may be certain, but because there’s a limit to the amount of gold that can be dug up out of the Earth’s crust, you can’t finance them. Obviously, that’s just silly.

No matter what basis you use to value your money, the ultimate purpose of money is to trade labor for labor. Whether the token that is traded about has its own value or not has no relationship to the amount of labor that there is in the economy to be traded. If all of the economies in the world collapsed, yes, gold would have more intrinsic value than a piece of paper and you would rather have it of the two. In practical terms though:

1) There is no reason to think that all of the economies in the world could somehow fail. Firstly, it’s never happened in all history. But more importantly, let’s consider what would really happen as result. Say for example that the US suddenly disappeared from the face of the planet. The US has borrowed money from many countries and holds the money of several countries. Knowing that the US will never return again, will never pay off its debts, and will never give back the money it held, all of the remaining countries can either play through the rules as they currently stand and let their banks all fail and return to the stone age, or they can simply pretend like the US never existed, that there was always only this much money in the world, and otherwise come up with some convenient lies to patch over the issue. There will be real issues with actual valuables like cars or food that was expected to be imported or exported, but money is all just a fiction to begin with. So long as everyone can mutually agree on the rules for patching over, the fiction can be changed however we wish. There simply is no way for “all economies in the world to fail”. If somehow all of the most powerful countries on the planet realized that the economies of all of them were messed up, they’d all mutually agree to pretend the problem doesn’t exist, rewrite all the rules to get rid of it, and proceed on merrily. All that matters is real wealth. So long as we have valuable goods and want to deal with each other, we’ll modify quantity and rules of money to match the real economy of true valuables.

2) A gold standard is more likely to cause economic collapses since it artificially limits the economy, which causes strife.

3) Limiting the economy limits innovation and the rate at which the quality of life on Earth can advance. Given the nigh-impossibility of total global economic collapse, this really just comes for free.

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Methods of Growth / Future Growth

Posted by publius2point0 on 2010/02/12

As we saw in the previous blog, wealth and money are separate things. About the most you can say about there being a link between them is that the only feasible way to value wealth, in a practical sense, is with money though that value will vary with supply, demand, and inflation.

I also showed how money becomes inflated while wealth is being expanded. In a system of never-ending growth, the amount of money in the system will also endlessly grow so long as that growth is predicated on loans (which it almost always is), making the total amount of money in an economy (the GDP) and its rate of growth a decent indicator of the rate at which wealth is expanding.

It’s worth looking at the methods by which wealth can be expanded, though.

(In the Words of Top Gear) More is More

If I have 100 farmers producing 120 food units a day, this is less wealth than 200 farmers producing 240 food units.

While a simple point, it is a very relevant factor in the modern day world. For instance, you’ll see plenty of people saying that if we treat China one way, we should treat Cuba the same–that it makes no sense to embargo one nation for being a tyrannical, socialist state and then be perfectly friendly with another. But even with nothing more than largely untrained labor, China’s wealth is massive. Small increases in efficiency or ability applied on the scale of the total market can have dramatic effects on the global economy. India is in a similar position, having enough people compared to the modernized world, that it’s simply unignorable to the world market.

Of course, excluding factors like this, there is almost no practical difference between 100 farmers making 120 units of food and 200 farmers making 240 units of food. Per capita, neither group is wealthier. They both have the same amount of surplus product, so they are both equally as likely to exhaust all of their stores in a crisis for example.

I say almost however as there is a certain, minor benefit from sheer size. If 1 man out of every 100 is a genius, for every generation you’ll have 1 discovery. Any one discovery might increase production by the whole of society by 10%. So, each 20 years, you get a 10% increase in production. To double production, you need 8 generations (160 years). In a group of 1000, you’ll have ten geniuses with ten discoveries each year, each increasing production by 10%. Your first generation is already capable of producing your doubled growth, let alone waiting hundreds of years.

Again, this is an important consideration when thinking about China and India (or even ourselves). There is a quantifiable advantage in sheer population in terms of the rate of growth, the only question being feasibility and other concerns (like turning the surface of the planet into a concrete sheet).

Growth by Expansion

Any time a product is introduced, it must make its way through the market. You build ten, sell those, use the proceeds to build 15, sell those, use the proceeds to build 20, and so on. The creation of something new still only adds one small item of wealth in the world. You have to copy and distribute the product for it to factor into any particular equation of wealth. For the individual that’s making the product, of course, the difference between selling 10 units and selling 1000 might be enormous though neither value is significant on the global market. The advantage with growth by expansion, for a company, is that for every product sold the cost of development becomes less and less of a factor. Most often, you need to sell some hundreds or thousands of units before you have even recouped the cost of development.

To do all this, though, you need to be able to have better and better methods of trading long distance.

Adam Smith, in The Wealth of Nations, points out the importance of rivers for early commerce. You might be able to get any one item from point A to point B, but the issue is price per mile, not the ability for it to arrive. Between a horse and carriage with total cost of food for all the horses, and limited to the width of a single lane road, and a barge with one fellow with a pole, the fellow on the river might be much slower, but the feasibility of bulk commerce is much greater. Speed is rarely a large issue.

But where speed does come in is with the transmission of information. To deliver our product to more and further regions, eventually you reach a point where you need far-flung stations to oversee sale and often to understand the local peculiarities so that a product can be better specialized for the local needs. But this requires reliable and decently speedy communication with the central company, for proper organization. Fortunately for most companies, much of this work can be handed off to retailers.

As a company expands far enough, eventually the only way to expand is to enter foreign nations, which becomes an issue of diplomatic import and the stability of the local region.

Much of all of this is beyond the abilities of any one company to control, and ultimately it is better for infrastructure and diplomacy to be handled by a single source. But the quality of what is there can strictly limit or prove an immense boon upon commerce.

Efficiency versus Invention

I once saw someone ask why it seems that everyone always focuses on the horsepower of a car when that was only one way to make a car faster. Halving the car’s weight, for example, is as good as doubling its power.

There is a practical difference between these two solutions, though it might be largely specious depending on the instance; there is always a limit to efficiency. If I know a car of a certain volume must pass through gas of a certain density and makeup (like air) at a certain speed, I can create the absolute optimum shape for it to be. If I want to make the car as light as it can be, once I have reached 0, there is no more I can do. There is no optimum amount of power that I can put in the car, however. There might be some physical limitation based on the makeup of the universe, but if there was no limit, more would always be better.

In the business world, an example of efficiency is that of a factory worker versus a generalist. If I have four blacksmiths, I’m better to have one who manages the heat of the forges, one who makes horse shoes, one who makes nails, and one who makes swords than I am to have four blacksmiths each trying to do all four things. When a person does the same task repetitiously, they tend to be faster at it. They don’t move as much and the movements have been so often repeated that the person will have found a way to refine them to be as efficient as possible. When they have multiple tasks, by trying to juggle everything across a single body, they lose efficiency.

Another example would be that of data mining. I fear that I have forgotten the name of the company, but within the last year one of the electronics retailers announced that it had increased sales by some impressive percentile without doing anything beyond re-arranging their floors. When a person came out of an aisle, he’d always be faced with some small shelf of items that were correlated with the sorts of things that a person who wanted things in that aisle would also want. In return, the frequency of impulse buys increased and the store’s sales increased.

Taking only what was already there and reordering it to be more well suited to its task is a key factor of growth.

But, creating what has never been before is also growth, and unlike increased efficiency, it is limitless. If the world had only efficiency by which to grow, the rate of growth would gradually plateau as we slowly crept closer to the ideal–there always a diminishing rate of return for increased efficiency.

Theoretically, with invention, there is no limit to what mankind can accomplish. Eventually some universal limitations might make it forever impossible to improve, but we would still like to increase beyond those if we could. Anything we could ever dream of, we can and eventually hopefully will have. Eventually we might be able to instantly send any product or ourselves to anywhere upon the surface of the planet or any other planet. Communication might be direct from brain to brain at the speed of thought–which thoughts will be created faster than today due to improvements made on the human body. One really can’t know what we shall discover, but for all intents and purposes, with what we know today, I think we can safely say that we are not yet nearly to the physical limits of the universe in any of our endevours.

When you look at the stock market, inflation, or the deficit, the realization that there can always be growth is an important one. The number of people on the planet could be stabilized and each person instantly granted every new product as it is created, and yet there will still be room for growth.

Though speculative, it’s worth noting that we may be near such a point of development. In a simulated environment like World of Warcraft or Second Life, many of the practical limitations of the universe disappear. I could create an office for people to work in, sitting side by side, able to look at each others screens and offer advice, and yet these would only be virtual people looking at virtual monitors. The real people would be sitting thousands of miles away. There would be no need for a commute to work or flying overseas to hold a business meeting. We might not be able to eliminate the time lag it takes to move a person around the planet, but where one cannot feasibly climb the hurdles of the world, you can still circumvent them. As people cease needing to fly or drive about for work or most entertainment, the value of virtual products increases. There may be a limit to the size of the surface of the Earth and so land will always be a scarce resource. But in virtual space, everyone can have a thousand room castle that floats in mid-air if they want it, and AI servants who help them with any task.

As vat-grown meat and plant matter comes into existence, basic food production can be increased significantly and mining and electricity production become the only scarcities that much matter. Given a small enough population compared to our mining operations and power output, one might say that we’ll have reached an end of scarcity.

Personally, I suspect that like horsepower, the more electricity and minerals we have, the more we will want per capita. Still, the move from a physical world to a virtual one–should it happen–is likely our next step in this process. Wars over copyright laws and music sharing will be only the first conflict as this continues.

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