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Money is Not Wealth

After many years – some would say perhaps 80 – of being inundated with Keynesian theories, it seems that more and more people are coming around to the idea that the aggregation model is severely limited.  Especially in light of the recent financial crisis, which has seen many of the seemingly all-important economic indicators bounce back completely without a comcomitant bounce-back in real wealth, mainline Keynesianism has come under increased scrutiny of late.  Over at Reason, Tim Cavanaugh has an article called “Savers Hate America” that addresses this very topic.  A quote:

Without more consumers flushing ever larger numbers of devalued dollars down ever greater numbers of drains, the Fed’s bubble-centered growth strategy (or for that matter the Treasury Department’s own trillions in fiscal stimulus) is a bust.

That this is the same pneumatic strategy employed by Bernanke’s predecessor—and by secretaries of the Treasury long before Tim Geithner—does not mean it makes any sense. As Mark Skousen argued last year, economic growth proceeds from value, savings, and investment. Follow a strategy of spurring and riding the American consumer and you’ll just end up continuing a succession of bubbles: from energy to real estate to financial services to dotcoms to real estate again and now (possibly) back to financial services.

…In the Keynesian universe of policy-making, boosting “aggregate demand” is the only goal, and economic activity, no matter how frenzied or nonsensical, is the only tool.

 

The key question, of course, is not whether economic indicators are rising.  Saying the GDP went up by x%, or the S&P 500 index rose by y% is just as irrelevant as saying “the recession is over because I have found a job.”  This is the case because, according to the real world if not to macroeconomists, money is not wealthMoney is related to wealth.  (Note that I am still thinking in material terms here; I have no idea how to quantify health, happiness, love, etc., and so I am leaving them out of my definition.  Nonetheless, the principle still holds.)

Consider a scenario wherein GDP rises by roughly 3% (this may be considered similar to our current situation, but I am taking liberties).  If concurrent inflation rates top 3%, the public experiences a real wealth reduction, all else being equal.  However, all else may not be equal – although GDP is rising unemployment may not be budging, companies may be sitting on cash due to regime uncertainty and hostile tax policy, and investment may be stagnating.  However, if spending in nominal dollars increases the GDP figure, many macroeconomists will simply declare victory and head to happy hour.

Of course, the idea that consumption spending growth “helps” the economy is based on a misreading of what spending means.  The shifts between consumption and investment merely indicate time preferences; however if your entire macroeconomic strategy involves goosing spending numbers, you’ll do whatever it takes to shift people’s time preferences to the here and now, even if it means destroying the value of the currency and their savings.

Ultimately, it is easy to lose sight of what wealth is if we allow ourselves to be dazzled by economic indicators that change by the second and often amount to nothing but static in the economic signal.  Wealth is rising standards of living, availability of goods and services that previously were not, and yes, falling real prices.  It does nobody any good to hand out dollars while cutting the dollar’s value, but a singular focus on aggregate demand, GDP, and other minor indicators obscures the relationship between the dollar and actual, real-life wealth.

It is encouraging to see so many beginning to question this.

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