Economic theory, part the first

First off, let me say that I am not in any way a trained economist. This may be a significant disadvantage when formulating an economic theory, or maybe not. It's entirely possible that my ideas are taught to every economics student in Econ 101. It's entirely possible that they are taught as an example of how to be horribly, terribly, wrong. Of course there's always some small chance that I'll think of something both novel and interesting. I wouldn't bet on it myself, but I do hope that it will be at the very least interesting and thought-provoking.

Some time ago, I was thinking about the nature of value. I thought some about what goes into anything of value. I wondered where it came from. This led me initially past the labor theory of value. I thought that it would be possible to dissect the value of a thing down to its component parts, which are necessarily some combination of labor and the use of land. While true that all value derives from these things, it didn't seem particularly useful to think in those terms. The price of a thing is what the market will bear, and if you happen to be wandering across your small property and stub your toe on a diamond the size of a baseball, the market will bear a high price for it even though you've put very little labor or land towards it. On the other end of the spectrum, though you may spend weeks putting a fine polished shine on a ball of poop, unless you're the Mythbusters, the market will probably be uninterested.

It was at this point that I came to a realization. That realization is that I was conflating several related, but distinctly different concepts. These concepts I will refer to as cost, price, and value. The value of a thing is the most subjective of the three. At an individual level, it is what someone is willing to pay to acquire a thing. On a population level, it is a distribution curve of what people are willing to pay for a thing. This is related to demand, and when combined with what people or populations are able to pay for a thing is related to effective demand. On the other side lies cost, which is most closely similar to the labor theory of value. While value is defined on the side of the buyer as what he is willing to pay, cost is defined on the side of the seller as what he has already paid. For a person providing a pure service, it is the labor he provides. For the builder, the artisan, or the machinist, it is the cost of his raw materials plus the labor that he adds to them to craft his work. For the pure trader, it is the cost he paid for a thing himself, plus any labor he has expended in the process of executing his trades. The third component is price, and this is what the market will bear. From the perspective of the seller, he has the freedom to set this as he sees fit, but his realistic constraints are that it must not be higher than the effective value assigned to it by his potential buyers, else he will not be able to sell it. It must also be above his cost, else he will incur losses with each sale. This is a situation which cannot endure. With a population both of sellers and buyers, this will also form a distribution curve. A post for a different day will hopefully contain pretty graphs to illustrate this, as soon as I can find the right software to show what I see so clearly in my mind's eye.

Note that these three distributions form one point in an overall flow of value. In general, a flow of money in one direction will induce a flow of value in the other. This value may be created, consumed, or pass through an individual. So a thing may be created at a labor cost to an individual, who will then assign it a price according to the value buyers place on it. That price then becomes the buyer's cost, which he will use to assign his own price. This flow in its own right has interesting analogs to electrical flow. When a current flows from one end of a wire to another, electrons do not move the entire length of the wire. Similarly, a flow of money in one direction (note that a particular dollar, much like an electron, does not make the whole trip) will induce a flow of value in the other, but that value does not necessarily flow all the way through. There is a certain flexibility in the value flow, corresponding the the capacity of each individual in the chain for saving and debt, but generally a person will consume value at the same rate that he creates it.

Note also that I use the term person loosely. I say individual, but is could be a family, a company, a town, or a nation. I suppose in theory you could go the other direction and analyze cellular economics, but as metabolic processes operate purely on the barter system, things become a bit more muddied and are probably best left to biologists and chemists.

And finally note that there is no particular point that I am trying to make here, it's merely a bit of insight as to how I see economics, and a reference that I can use in later posts on related topics.

Have some pie

I recently heard someone talking about economics, taxation, wealth redistribution, et cetera... She said that some people have too big a slice of the pie. I posit that anyone who ever uses the phrase "their piece of the pie" in reference to economics, does not actually understand money at all. Pie is fundamentally different than money. Let me illustrate. Has anyone ever offered you some used pie? If someone came to you and said that they had some pie yesterday, passed it through their digestive tract, deposited what remained back in the original pie tin, and saved it just for you, would you find that offer offensive? Disgusting? More than a little bit odd? Perhaps all of the above?

Now, for contrast, say that you were in a job interview. The company obviously liked you, and was attempting to woo you by extolling upon their own virtues. What if they told you that, while they may not pay quite as much as some other companies, their pay was of higher quality, because unlike those other companies that pay their employees with "used" money, they print their money up fresh every payday so that their employees only get brand new never-before-used money. Would your first instinct be to take that job on the spot, or to perhaps call the secret service?

Pie and money are fundamentally different. When you phrase things in terms of a piece of the pie, it makes people think that there's $14 Trillion dollars out there in the economy, and if someone makes a billion of it, there's less for everyone else, just like if Alice, Bob, Carol, and Dave are sharing some pie, and Alice takes a huge half-pie slice, that means Bob Carol and Dave aren't going to have quite so much left. But money isn't like that. Money flows. It doesn't decrease in value as it does so. Quite the contrary, the byproduct of that flow is that useful things get done. So say I give $20 to the neighbor kid to mow my lawn. How much value would you say that $20 has lost in the transaction? Interestingly, none. The size of the "pie" is still the same, but now my lawn has been mowed. If I go to the store and pay them a dollar for a soda, how much value has it lost? Well, in that case, it's actually lost 7 cents. Sales tax, you know. And I suppose if the neighbor's kid reports that $20 to the IRS, he'll lose some of it too.

So, someone who's making a million dollars a year isn't doing it by going out and taking a big slice of pie before anyone else has even got their forks out. Even the phrase "making money" is misleading. Unless you're the US mint or that fictional company I was talking about that was offering the "fresh" paychecks, no one can actually "make" money. In order to get money, you have to do something so useful for someone else that they give you their money. There are really only three exceptions to this rule. The first is charity, which I think that everyone of any political leaning would tend to think is good all around, and is in a class of its own. The other two ways are by theft, extortion, blackmail, or other sorts of illegal forcible coercion; or by taxation. I will leave the definition of what differentiates those two as an exercise to the reader, as I have yet to figure it out. If you aren't doing one of those things, then your income measures how much good you have done for other people. (or at least measures the lowest amount of good you might have done. It's entirely possible to do good for someone without being paid. It is not, however, possible to have someone pay you for doing something they don't want, unless you are a crook or a government.)

So basically, what I'm saying here is that other people making money shouldn't be seen as a financial detriment. Sure, it's no fun if you have a tendency towards envy, but if you're concerned primarily with your own well-being, then the more money other people earn, the more money there is out there for me to earn from them, and the more good those people are doing in order to earn the money they have.