22 Feb 2012

In Which I Charge Into Kling’s Red Cape

Economics 31 Comments

Arnold Kling, after telling MMT proponents that sometimes printing money can cause prices to rise too quickly:

Consider another group of crackpots, the gold standard advocates. They say that a dollar should be a physical unit of measurement, meaning x grams of gold. Having the value of the dollar fluctuate is like having the length of an inch fluctuate–how can you conduct business when that is happening?

I would much rather turn my country over to gold-standard crackpots than to MMT crackpots, thank you very much. (By a crackpot, I mean someone with the characteristics that Huemer associates with irrationality. I expect to see a lot of comments on this post with those characteristics.)

To now quote from the leader of these crackpots:

What has been said should have made sufficiently plain the unscientific nature of the practice of attributing to money the function of acting as a measure of price or even of value. Subjective value is not measured, but graded….Money has thus become an aid that the human mind is no longer able to dispense with in making economic calculations. If in this sense we wish to attribute to money the function of being a measure of prices, there is no reason why we should not do so. Nevertheless, it is better to avoid the use of a term which might so easily be misunderstood as this. In any case the usage certainly cannot be called correct – we do not usually describe the determination of latitude and longitude as a ‘function’ of the stars.—-Ludwig von Mises, Theory of Money and Credit p. 47 and 49

31 Responses to “In Which I Charge Into Kling’s Red Cape”

  1. Rick Hull says:

    Great quote. It occurred to me today that we would have a hard time meaningfully measuring the world’s wealth in terms of gold. It would always be equivalent to above-ground stocks, no?

    Seeing money valuations as relative measurements eases this concern. Still left is the question of how we might measure (or detect) an increase of wealth.

    • Bob Murphy says:

      It would always be equivalent to above-ground stocks, no?

      No. The world’s wealth calculated in dollars isn’t always equivalent to M1 or M2 or whatever.

      • RS says:

        Ahem, wouldn’t it be more clear to say that the worlds wealth is equivalent to all of the goods and services that a given weight of gold can buy, which changes second by second a la market forces?

        So then what Mises means (or should mean) is that the price of 1oz of gold (or dollar etc.), in terms of other goods/services, provides information to all market actors regarding the entire productive capacity of the planet at any given moment in the same way that a foot or an inch provides an observer with information regarding the size of all the objects around him.

        Isn’t that what he means by the stars not determining latitude and longitude? Its a standard of measurment used to convey productive information, both present and future potential.

        • Gene Callahan says:

          “So then what Mises means (or should mean) is that the price of 1oz of gold (or dollar etc.), in terms of other goods/services, provides information to all market actors regarding the entire productive capacity of the planet at any given moment in the same way that a foot or an inch provides an observer with information regarding the size of all the objects around him.”

          Well, I hope he didn’t mean that, because the productive capacity could remain exactly the same and the price of money change! But feet and inches never change (leaving relativistic effects aside!).

          • RS says:

            Really Gene? So price is not function of supply and demand? thats a new one, perhaps you would care to elaborate how that is possible…

            • Bob Murphy says:

              I’m guessing Gene will say that’s not what he was saying, and that your original statement relied on more than just an endorsement of supply and demand. Let’s see if I can pass the Gene Turing test…

              • RS says:

                Is this an econ blog or is it not? These are very abstract concepts so of course it relied on more than just that. The point that Gene failed to acknowledge is the fact that the value of money is derived from the supply/demand of goods/services, which is production. Either he purposefully evaded that fact or he is just playing around with word games.

                Moreover, the analogy of gold and inches holds. A fixed amount of gold, say 1 oz, performs the same function as 1 inch/foot. It measures the size of the economy, which changes constantly just as a fixed length measures the size of “things” around you, which changes depending on the “thing” being measured.

              • Gene Callahan says:

                “Moreover, the analogy of gold and inches holds. A fixed amount of gold, say 1 oz, performs the same function as 1 inch/foot. It measures the size of the economy…”

                No, RS, gold does not “measure” anything — it is one good exchanged against other goods. Its value not being constant, it is nothing like a yardstick or a scale.

            • Gene Callahan says:

              Yeah, I really have no idea how my statement denied that price is a function of supply and demand! Let’s say gold-hungry space aliens arrived on earth in 1850, and sucked half the planet’s gold up into their spaceship. We’d expect the price level to fall by about half — but this certainly wouldn’t mean the earth only had half of the productive capacity it did before the aliens arrived!

              • RS says:

                Are you really that dense? The only reason that money IS “money” is because its value depends on the goods it can command so if the quantity of money drops by half it is the same as if the quantity of goods had been doubled.

              • Richard Moss says:

                RS,

                How, exactly, is Gene being dense?

                Say it wasn’t space aliens. Say people decided, for whatever reason, to increase their cash-holdings (gold) by 25%, while the proportion they spent on consumer and producer goods remained the same as it had before.

                ‘Earth’ would produce the same number of goods (same productive capacity), but prices overall would fall.

                So, an oz. of gold would now buy more goods than before, though ‘productive capacity’ hadn’t changed. And, even though a single oz of gold could buy more goods than before, gold ozs would still be used to ‘calculate’; to objectively rank the value of goods in the economy.

              • RS says:

                @Richard Moss

                “Say people decided, for whatever reason, to increase their cash-holdings (gold) by 25%…”

                Any increase in cash holdings would raise the cost of capital and reduce investment spending so how exactly does both spending and production suddenly become divorced from the rising price of investment capital????

              • Richard Moss says:

                RS,

                RS,

                “Any increase in cash holdings would raise the cost of capital…

                I disagree. If, to increase their cash balances, people reduced their spending on consumer goods in proportion to the amount they reduced their spending on producer goods, then the ‘cost of capital’ would not increase.

              • RS says:

                @Richard Moss

                If the proportion did not change then yes, the cost of capital would be the same however, in order to do that BOTH would have to be REDUCED as you said so then the “world” is both consuming less and producing less when those cash balances are increased. Productivity changed did it not? The increase in demand for cash/gold holdings reduced overall productive capacity. The price of gold would go up because there would be LESS goods out there for it to command.

              • Richard Moss says:

                RS,

                No. There are the same amount of producer and consumer goods, but their prices have fallen because people have increased their cash balances. Overall spending is less, but the stock of goods remains the same.

                When Gene wrote about aliens taking half the earths gold, and productive capacity remaining the same, you did not call that into question. Why do you do so now?

              • RS says:

                @ Richard Moss

                Ah, now I think I see where we differ.

                You wrote above that a reduction in consumer and producer spending is required in order to increase cash balances and that this reduction must be proportional between the two in order to keep the cost of capital constant. OK.

                But, what your missing is that this essentially represents a reduction in future production because people are exchanging an expansion of production capacity in favor cash hoarding. People have ceased reinvesting their capital for whatever reason, this excess capital goes to buy more gold/cash right? Doesn’t this mean that the increase in the price of gold/cash today represents a charge against the price of goods tomorrow? Needed things that would have been made sooner are now pushed out further into the future. Time is wasted.

                And therein lies my point that the price of a currency is a direct measurement of an economies total current and future productive capacity. Changes in the market price of a currency (or of anything for that matter) cannot be evaluated as somehow apart or separate from changes in peoples choices regarding current or future production (i.e. outside of the division of labor). “Goods” and “Money” are both means and not ends and as such they represent, in an economic context, how much *time* people choose to spend on consumption vs production.

              • RS says:

                @ Richard,

                This statement still bothers me:

                ” If, to increase their cash balances, people reduced their spending on consumer goods in proportion to the amount they reduced their spending on producer goods, then the ‘cost of capital’ would not increase”

                I find it hard to conceptualize how it is possible to proportionally cut spending and investing and still have the same amount of goods available as before.

                If I stop buying milk and/or some farmer stops raising a proportional number of cows then it is still true that the total consumption and production of milk has decreased from before. If I buy gold as opposed to milk then the rise in the price of gold reflects the fact that there is now LESS milk and cows in the world.

              • Richard Moss says:

                RS,

                You wrote “But, what your missing is that this essentially represents a reduction in future production because people are exchanging an expansion of production capacity in favor cash hoarding.”

                I don’t believe I am missing anything. People are reducing their spending on producer goods (investment) AND consumer goods. Yes, investment spending falls, but so does consumer spending. It is relative prices that matter here – factor prices fall with consumer prices preserving the return on investment. ‘Productive capacity’ is preserved as long as the proportion spent on investment and consumer goods is the same.

                So, the answer to all the questions that follow your statement I quoted above is ‘No’.

                I don’t know what to say to your statement that follows; (beginning with And therein lies my point…). I can’t make heads or tails of it.

                Money, as the most common media of exchange, simply allows people to objectively rank the value of goods. It doesn’t measure anything. It isn’t a ‘fixed’ unit of measurement.

              • RS says:

                @ Richard Moss

                Please see below. I will create a new thread as this is too narrow to read properly.

                -thanks

  2. MamMoTh says:

    The crackkettle calling the crackpot black…

    • Bob Murphy says:

      Mammoth, what gives man? I actually took your guys’ side on this one. I was saying Kling wasn’t telling you anything new by pointing out that Zimbabwe happened.

  3. AC says:

    This is a rather crackpot-like response. Do you think Kling is not aware of subjective value?

    Mises is saying you need money to make economic calculations. What’s the disagreement?

    • Bob Murphy says:

      AC here’s what happened:

      (1) Kling calls people who advocate the gold standard crackpots because (he claims) they argue that under a gold standard, money would serve as a fixed measure of value. He doesn’t spell it out, but presumably Kling’s argument is, “That’s absurd, of course gold isn’t a measuring rod of value, what a bunch of crackpots these goldbugs are.”

      (2) I show that Mises–in the Bible of goldbugs–makes that exact point, and says we should be careful to avoid talking about measuring value or prices with (gold) money, to avoid any possible confusion. I didn’t spell it out, but my point was, “Kling is silly for thinking goldbugs rely on this argument. Of course they don’t.”

      (3) You call me a crackpot for citing something that Kling agrees with.

      Is that a fair summary of what happened here?

      [AC, it looks like you are responding to my post. If instead you were responding to MamMoTh, then my apologies.]

      • AC says:

        OK, I think the problem is that no one is spelling out exactly what their criticisms are — don’t be like Tyler Cowen! I was thinking Kling’s issue was about fluctuations in the value of gold affecting monetary calculation. I guess that wasn’t his point?

  4. RS says:

    @ Richard Moss

    Clearly we are talking past each other. Ill try again to make my point about currency as a method of measurement.

    Look at it from this perspective. The quantity of gold above ground is limitted, it does not change by very much or to any significant extent. It is in this respect that it is “fixed”, just like a ruler is a “fixed” lenght. Both are used in the same way. They are standards that measure. And while a ruler allows one to measure the lenght of any three dimensional object, gold, as a currency, allows one to measure the size of the economy, in total. How so? By its ability to command all of the “things” that make up that economy i.e. by its price relative to any single specific good or service.

    It is from this perspective that I question the idea that you and Gene have put forward, that it is only “relative prices that matter”. NO! Its not relative prices that matter but real GOODS produced.

    Look at your own example, a 25% reduction in both consumption and investment means that 25% of goods currently being produced are no longer consumed, they “stay” in the market, they are still available for sale but no longer have any buyers.

    Moreover, a 25% reduction in investment means that producers are no longer buying producer goods, they too “stay” in the market and are still available for sale. This means that the quantity of goods has increased releative to the quantity of gold/currency in circulation and therefore ALL prices for both consumer and producer goods MUST go down while gold/currency prices will rise.

    The corresponding changes in the price of gold/currency relative to the goods in the economy is measuring all of this and is signaling to the producers that everyone MUST cut production to match consumption or else face disasterous consequences.

    If producers do not cut production prices will drop so much that profits will be threatened, marginal companies will go out of business, economic collapse will soon follow.

    None of this is really anything new, ABCT pretty much covers it, but I serously take issue when the discussions of prices, especially the price of a currency, drops the context that we are talking about goods actually produced and not just floating in the clouds of “relative prices”.

    • RS says:

      Also, in regards to the Mises paragraph in the original post.

      It should be noted that the “things” we are talking about that make up an economy are all of the goods/services that people have “graded” in regards to their own teleological hierarchies. Mises like to call it “subjective value” but I disagree, a debate for another time perhaps but regardless of what it’s called, those choices are FACTS, which can and are measured by the changes in prices as I have described.

      The Mises paragraph is highly contradictory. In the first sentence he calls the practice of using money as a measure of value/price unscientific but then he follows that with a statement that the human mind “cannot make economic calculations without it”. Well, what else is an “economic calculation” if it is not somehow somewhere a measure of value? It is, as I have described.

    • Richard Moss says:

      RS,

      Look at it from this perspective. The quantity of gold above ground is limitted, it does not change by very much or to any significant extent. It is in this respect that it is “fixed”, just like a ruler is a “fixed” lenght.

      I can’t look at it from your ‘perspective’ because it doesn’t make sense. All economic goods are limited, (scarce), or they aren’t economic goods. That does not make them in any respect ‘fixed’ like a ruler is fixed in length. From what I have read, today’s ruler of 12 inches has been so since 1859. According to data I have found, the amount of mined gold has increased at least 8x since then. Fiat money has increased several times more than that. In what possible sense is gold (or fiat money) fixed in quantity like a ruler is fixed in length?

      Both are used in the same way. They are standards that measure. And while a ruler allows one to measure the lenght of any three dimensional object, gold, as a currency, allows one to measure the size of the economy, in total. How so? By its ability to command all of the “things” that make up that economy i.e. by its price relative to any single specific good or service.

      A ruler and money are not used in the same way at all. I don’t measure things by exchanging a ruler for them. I don’t purchase goods by measuring them with a dollar bill or a gold coin.

      I don’t command things with money. I make offers for things with money. I am able to buy them if the person I buy from values the money I offer more than the good he is giving up. Neither of us gets out a dollar bill and measures anything. Neither of us has to know how big the economy we are in is in order to make the exchange. Neither of us measures the value of what we give up or what we get. We only know (at the time) we value the other’s good(s) more than our good(s).

      It is from this perspective that I question the idea that you and Gene have put forward, that it is only “relative prices that matter”. NO! Its not relative prices that matter but real GOODS produced.

      Well, I say your perspective is wrong. But, even accepting it as true, I can’t tell how the perspective I presented with respect to relative prices implies the amount of real goods produced doesn’t matter.

      Look at your own example, a 25% reduction in both consumption and investment means that 25% of goods currently being produced are no longer consumed, they “stay” in the market, they are still available for sale but no longer have any buyers.

      Why don’t they have any buyers? Why can’t their owners lower their prices in order to sell the same amount of *real* goods?

      Moreover, a 25% reduction in investment means that producers are no longer buying producer goods, they too “stay” in the market and are still available for sale.

      Producers can still buy the same amount of *real* producer goods – at lower prices.

      This means that the quantity of goods has increased releative to the quantity of gold/currency in circulation and therefore ALL prices for both consumer and producer goods MUST go down while gold/currency prices will rise.

      You just wrote above that consumer and producer goods would stay on the market unsold. You didn’t say they could be sold if their prices were lowered. Now you write that their prices have gone down. When did this happen? Why did it happen – because they were sold at lower prices? And if so, why weren’t the same amount of *real* producer and consumer goods sold as before but with less money?

      The corresponding changes …. collapse will soon follow.

      Production does not have to be cut. Consumer goods prices are imputed to factor prices. Consumer goods prices fall, factor prices fall. The amount of goods produced can be maintained despite a fall in consumer goods prices as long as there is enough real savings (deferred consumption) to maintain the existing structure of production.

      None of this is really anything new, ABCT pretty much covers it… “relative prices”.

      ABCT covers this? You can’t be referring to Austrian Business Cycle Theory. What we have been discussing has nothing to do with ABCT. ABCT has to do with the issue of fiduciary media by banks and how they promote mal-investment. It has nothing to do with a drop in overall spending on consumer and producer goods due to an increase in the demand to hold cash balances.

      And, again, I don’t see how I dismiss real goods produced by bringing up relative prices.

    • Richard Moss says:

      RS,

      You wrote “Also, in regards to the Mises paragraph in the original post…. It is, as I have described.”

      The Mises paragraph is not contradictory.

      I don’t value goods by measuring them. I value goods based on comparing them with the value of other goods. Money makes economic calculation possible because I can objectively compare the value of goods in an economy based on the how much money they have exchanged for based on the valuations made by others.

      As Mises also wrote, you can’t measure value any more than you can measure friendship. But, I can value the friendship of one person more than another. There is nothing unscientific about that.

  5. RS says:

    @ Richard Mos,

    sorry this is so long :-(

    “From what I have read, today’s ruler of 12 inches has been so since 1859. According to data I have found, the amount of mined gold has increased at least 8x since then. Fiat money has increased several times more than that. In what possible sense is gold (or fiat money) fixed in quantity like a ruler is fixed in length?”

    My perspective makes perfect sense, you just don’t see it because you are focusing on the wrong things. Consider your statement above. You think that the size or weight of our chosen standards of weight or length have not changed since they were adopted? Well, it may come as a shock to you that they have in fact changed, it’s just that the changes have been so small that it does not materially affect the everyday measurements that they are used for. See this article by NPR.

    http://www.npr.org/templates/story/story.php?storyId=112003322

    The relatively small changes in the quantity of gold above ground over time does not materially impact its ability to serve as a standard of measurement, just as the slight changes in the length of a yard or weight of an ounce does not materially impact the ability of those quantities to serve as a standard of measurement for size or weight. The fact that they both change over time is inconsequential to the purposes that they serve, easily demonstrated by the fact that they still work and are in use. That is a fact. However, ignoring this fact leads you to overlook the role that gold/currency serves as a fixed unit of measurement and that is the reason why you do not believe that this perspective makes any sense, but it does. Indeed, as further evidence of this fact I submit that the very reason “money” works as a medium of exchange is precisely because of its stable purchasing power, a power which depends on, among other things, a relatively fixed quantity.

    “I don’t command things with money. I make offers for things with money. I am able to buy them if the person I buy from values the money I offer more than the good he is giving up.”

    By “command” I mean the ability to trade. The more money one has the more resources one can “command”. The only, and I do mean THE ONLY, reason people exchange things for money is because they expect to exchange the money for something else at a later point in time. That’s a fundamental fact. No one trades things for money without that expectation, anyone who does is either clinically insane or a liberal, which is about the same thing.

    That being said, the “value” of the goods being exchanged is in fact being measured, just in a way that you probably don’t expect. This may be a bit too abstract but ultimately, the value that is measured is the utilization of time, how valuable was each person’s time spent producing the goods being offered? The more efficient the time was spent the more valuable the good. The point is that each person evaluates the other’s use of time i.e. their choice as to how well they participated in the division of labor. This is usually what is called “utility” but this formulation is more revealing. It illustrates the fact that the, and I do mean THE, only way anyone can make such an evaluation (i.e. measurement) outside of a direct barter economy, is by the market prices, quoted in terms of a fixed currency, for all of the goods that people produce.

    The “economic calculation” that is described by Mises is only one’s own internal ranking of those goods BY their prices, prices which are only created against a standard that does not significantly change. Indeed, such a ranking would be impossible without those prices. ALL the facts of history can attest to this. Take any instance of an economic collapse caused by currency manipulation and you will find that the reason it did so was precisely because no one could tell i.e. measure which “things” needed to be produced and which did not. This is why I referred to ABCT in my prior post.

    “The amount of goods produced can be maintained despite a fall in consumer goods prices as long as there is enough real savings (deferred consumption) to maintain the existing structure of production.”

    Now, see, here again is where I think we are talking past each other. The fact that you had to qualify that production could only remain constant so long as there was enough savings to maintain the capital structure makes my point. Cutting prices by 25% proportionally between consumer/producer goods puts an expiration date on 25% of the entire economy as there is no way that the existing structure of production can produce at that level without a corresponding amount of reinvestment, which was diverted into the very non-producing cash balances. So, whether the cuts to production are taken today or tomorrow they WILL be taken and the corresponding rise in the price of gold/currency *reflects* that fact.

    Consider that on your own grounds you acknowledge the fact that continued production depends on a certain capital structure which in turn depends on capital investment which in turn depends on deferred consumption, but yet an immediate 25% reduction in capital investment in favor of non-producing cash balances is somehow NOT supposed to affect the structure of production that is responsible for the current level of production? How is this possible? It isn’t. Production must be cut at some point, the rise in the price of gold/cash reflects the long term unsustainability of the current capital structure, it “tells” us that production must be reduced.

    • RS says:

      @ Richard Moss,

      Oh, and in regards to how your position dismisses real goods produced vis a vis relative prices, if the change in the relative prices of goods vs. gold/currency does not reflect any long term changes in the structure of production as you assert then the absurdity that production of those goods/services can be dispensed with entirely follows directly because its all “relative”.

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