“The serious fact is that the bulk of the really important things that economics has to teach are things that people would see for themselves if they were willing to see. And it is hard to believe in the utility of trying to teach what men refuse to learn or even seriously listen to.” — Frank H. Knight
Conflating the words money and wealth is an easy mistake to make because in most everyday parlance we use the two interchangeably — if you are wealthy, you have a lot of money, and if you have a lot of money, you are wealthy — without loss of comprehension.
But money is a measure of wealth, not wealth itself, just like kilogram is a measure of mass but is not itself mass. They are not the same. They have to be distinguished if we are to reason cogently about the nature and causes of wealth of people (and progress in our “inquiry into the nature and causes of the wealth of nations.”)
I have written a fair bit about wealth and money over the years. Time for a TL;DR version.
Money refers to wealth, the referent. Money comes into existence through conventions. Like language, it’s a social construct. Agreement among people engaged in economic exchange is the irreducible foundation that supports the use of some thing as money. It could be cowrie shells, or salt, or gold, etc. (commodity money) or pieces of paper (promissory bank notes, IOUs), or even just pieces of paper with no commodity backing (fiat money), or entries in a ledger (perhaps cryptographically maintained on the internet), or whatever the next technological advance becomes the next convention.
If wealth, the referent, did not exist, there’d be no need for money. Stranded on a deserted island, all your money is no good if there’s nothing on the island you could exchange the money for. Money is worthless without wealth, but there can be wealth without money.
What is wealth? Anything that is of value. Value is subjective. Therefore there has to be a subject to do the evaluating. The existence of people (sentient, evaluating beings such as us) is prior to the existence of wealth.
Before the arrival of Robinson Crusoe, there’s no wealth on the island. After he arrives, he “creates” the wealth by valuing the coconuts, the freshwater streams, the fish. Certainly, he did not “manufacture” the stuff provided by nature. But that stuff became wealth only because he found it to be of some value.
Imagine that Crusoe had found a rich deposit of U-235 (the stuff that goes boom! beyond a critical mass) on the island. That’s not wealth because it’s of no use to him. That stuff would became wealth only after the arrival on the island of the Canadian-American physicist Arthur Jeffrey Dempster in 1935. (It’s labeled “235” because it was discovered in 1935. Just kidding.)
Does wealth exist on Mars? In theory yes, because some (not all) of the people of earth today (none in the distant past) value some (not all) of the existing stuff on Mars; but in practice no, because we don’t yet have the ability to grab the stuff we value. But soon enough, Martian stuff will become wealth when humans get there and start using it.
Understanding what wealth is is not rocket science. Wealth is one of the core concepts of economics. Even I — admittedly not the brightest mind on earth — have been able to understand what wealth is with a bit of pondering the matter for about 25 years, and this is my modest attempt to convey that understanding to those who care to learn.
In a recent post (Inequality – Part 2) I made the claim that “that wealth does not exist in nature. Wealth is created by people.” In a comment to that post, Raghuram wrote,
… the vast bulk of the wealth is given for free by nature.
To which Prabhudesai replied in a comment:
The notion of wealth is 100% human creation.
Gasoline was in earth for millions of years yet it was not considered wealth until some humans figured out how to use it in a way that other people would pay for it. At that point it became wealth.
To which Raghuram replied with a thought experiment:
Suppose there is a river, passing through a village, carrying clean drinkable water. Let’s say one day, a group of bandits get the bright idea that if they block access to the only road leading to the river and charge a rent from the villagers to get water, they can make a lot of money.
What you are saying is that, until the bandits’ got their bright idea, the clean water was not considered wealth, but then all of a sudden it became wealth after the bandits “figured out how to use it in a way that other people would pay for it“.
Like Knight, I fail to see any utility in attempting to teach in the face of an insistent refusal to learn. But we economists are a masochistically stubborn lot. Having embarked on this futile venture to explain what wealth is, let me give it one parting shot before conceding defeat.
Raghuram’s conclusion suffers from an inability to distinguish between what I call “an economic good” and wealth. Everything we humans value for some purpose is wealth. What we value may be nature provided (clean water, air, fertile land, etc.) — in which case it is “free.” Next to a huge source of clean water, we have wealth. It’s not an economic good. Simple test: Can I sell it to you? No. You too can grab as much as you need. An economic good is something to acquire which you have to give up some other economic good. The operative principle is scarcity. Only if something of value is scarce, does it become an economic good.
Clean water available in unlimited quantities (meaning, the supply far exceeds the demand) is wealth but it is not an economic good. If the supply is constrained to be less than the demand, the clean water (wealth) becomes an economic good, and therefore it has a positive price. The higher the price, the greater is the demand relative to supply.
Here’s a paradoxical idea. An increase of wealth (an increase in the supply of stuff that we value) can lead to a decrease in economic goods. Imagine that the village gets its fresh water from a stream. That water is wealth (people cannot do without it and therefore they value it) and is an economic good (because the demand exceeds the supply.) One day, the villagers drill a well that taps into an immense aquifer. This increases the supply of water far beyond any conceivable use the village has. Water continues to be valuable (and therefore wealth) but it stops being an economic good because it’s no longer scarce. I can no longer sell you a gallon of water from the well because you can get as much as you want without paying me anything.
The river water in Raghuram’s story was wealth before the bandits showed up, and continues to be wealth after they captured the only road to the river. What changed was that the water became an economic good because the bandits restricted the supply — and people were forced to pay a price for something they had had for free.
So if that’s the TL;DR version, you may wonder what the longer version is. They’re here:
- What’s Wealth and Where Does it Come From?
- Competition and the Creation of Wealth.
- Nature of Wealth.
- The Cost of Things.
Concrete minds (all mixed up and permanently set) are impossible to change. Why bother? Because many minds retain their plasticity even after they’ve been subjected to mindless schooling. It’s meant for those alone.
In a future post, I will explore the paradox of wealth: With superabundance, there will be an increase of wealth and a decrease of economic goods.