The Error of Pricing Goods in Gold


We’ve all heard experts, pundits and talk show hosts pontificating about gold and silver. We’ve heard examples of their so called “intrinsic” value, about how gold and silver retain their value over time. Aside from any intrinsic value, this is accurate, except when these people attempt to make price comparisons of goods in gold or silver terms. We’re again going to rely on Austrian economic analysis and determine something new about their claims. Hopefully, this analysis won’t lead to me becoming a sort of pariah in hard money circles.

Subjectivity and Prices

In a previous article, “The Batmobile, Value and Prices” we discovered the difference between value and prices. Whereas, value is subjective to the individual and prices are objective. For the sake of this article I won’t go into lengthy detail about that subject. Suffice it to say that, as Carl Menger and the marginalists had demonstrated, consumer subjectivity is the basis for all economic activity.

People, who interact in an exchange economy do so to be left better off. It’s not because of some instinctual drive to exchange or, “animal spirits”, as John Maynard Keynes described it. In reality it’s because consumers make rational decisions on how to employ their scarce means to achieve their desired ends. Each individual has his or her own personal value scale of desired ends and ranks them accordingly in their mind. These personal subjective valuations manifest themselves through the process known as price discovery into the objective prices of goods. When buyers and sellers enter into an exchange, prices for goods are bid up or down according to subjective valuations. Buyers attempt to be left better off by expending as little money as possible, reflecting in a downward pressure on prices. On the other side of the exchange, sellers are attempting to be left better off by receiving the highest price as possible. The price is arrived at when those goods meet the market clearing price. That is, when a specific amount of money is agreed upon to clear an inventory of a given good. This is just a short description of how an unhampered exchange economy functions.

Subjectivity and Price Terms

All of this talk of subjectivity and prices must be understood in the monetary terms of each exchange. When consumers talk of prices they are relating those prices in terms of the currency that is being exchanged. Moreover, like a language, price terms translate into a certain amount of either labor or capital that must be expended in order to meet the required price. As an example, in the US, consumers understand prices in dollar terms. A wage earner subconsciously understands the amount of labor that must be performed in order to afford the price of goods and services. They understand the amount of their scarce time they must give up in order to perform the labor required to receive the required money, in dollar terms, to meet that price. A retailer understands how much money in profits that must be met, a lawyer may understand the amount of legal services that would have to be provided and so on.

Another point, wage earners also understand the cost of living at any given time in the same currency terms. A US wage earner understands how many dollars per hour, week, month or year that must be earned in order to meet their subjective goals. Prices are set in dollar terms and consumers understand the cost of living and any further expenditures in those terms. When someone earns $10/hour he rationally wouldn’t expect to afford $3,000/month in rent on a home. To summarize, prices to consumers translate into a cost and benefit. Something must be given up in order to meet the agreed upon price and still be left better off.

Gold and Silver Prices

The US economy has been rolling along in fiat dollar terms ever since President Franklin Roosevelt decoupled gold from the dollar in the early 1930s and the last vestiges of silver coinage ended after 1964. The Bretton Woods Agreement of the 1940s only established a gold exchange standard to settle accounts between sovereign nations. Over time people have been making subjective valuations of goods and services in fiat dollar terms. Today, consumers do not compare the dollar price of a gallon of gas or a loaf of bread in ounces of silver. As previously demonstrated, they simply don’t calculate the cost of living in those terms anymore.

When we hear people talk of current dollar prices in either gold or silver terms they are simply demonstrating the loss of purchasing power the dollar has undergone over a certain length of time in relation to that commodity. No one, by any means, can say with any certainty, the exact price of a good in either gold or silver terms. When someone says that a 1964 silver dime would buy $3.00 worth of gas today they are making interpersonal comparisons of utility. They are assuming the subjective valuations of millions of people over decades of time. The only way that 1964 dime would purchase $3.00 worth of gas today would be if the owner of the dime sold it to a coin dealer. What he would receive would be the commodity price for that specific weight of silver in fiat dollar terms. No goods have intrinsic value, only subjective value. These kinds of price assumptions are only possible by ceteris peribus, meaning, all things being held constant. A theoretical construct that economist Alfred Marshall used to isolate an economic anomaly. It was never intended to be a reflection of reality.

Gold and silver have been evaluated in terms of their respective commodity prices, not money prices, since the US went on a pure fiat standard. Prices in this inflationary fiat economy have been discovered in paper dollar terms ever since the government killed the gold dollar. That is the reality.

Conclusion

Not to be misunderstood, this article was to demonstrate that people cannot assume the price of current goods and services by using the commodity prices of gold or silver. For that matter we could easily assume prices in terms of wheat, corn or pork bellies. Gold and silver have lost their place in the minds of consumers as money long ago. As a mental experiment they are demonstrating the loss of purchasing power the fiat currency has had over time by comparing it to what it once was, real money. Of course the rational choice would be to return to a hard money standard. That is the assertion these advocates of gold and silver money are making. By holding all things constant, that is, excluding any subjective valuations of people in the economy over decades and decades, that 1964 dime would buy you a loaf of bread or $3.00 worth of gas. The fact of the matter is, we really don’t know what the price of gas, bread or anything else would be today had the dollar been on a hard money standard all along. We can’t assume the pretense of knowledge that is required to make any accurate price predictions. Personally, I would assume prices would actually be much lower as purchasing power would be much higher. In closing, let us agree that the fiat dollar isn’t worth a Continental and hard money is as good as gold. Let consumers determine what type of money they want to exchange in, not governments or elitist central bankers.

[Image credit: www.crisisboom.com]

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