The Most Important Economic Insight of this Century
Before I get into today’s Daily Prophecy, I want to mention GilderFest (more to come tomorrow). You can find all the GilderFest details here.
For my entire lifetime, the economic profession, the media, and politicians have been wrangling about the price level.
Inflation, deflation, cost push, demand pull, hyperinflation, tight money, loose money — all these brambles of verbiage suggest the multiplicity and malleability of money measures. Much of the debate focused on the various indices used, such as the consumer price index or GDP deflator and whether they over or underestimated the real movements of prices.
People concerned with these matters, wrote noted MIT economist Robert Solow in footnote to his major work on inflation, “can sign up for the course on index theory, but they will find it dull.”
But I never found it dull. It seemed to me that the price level controversies concealed a tangle of mysteries of baskets and money supplies, velocities, and living standards that involved the fundamentals of capitalism and innovation.
In Wealth&Poverty, some 40 years ago, I tried to combat the confusion, by adopting the thesis of Forbes editors David Warsh and the late Laurence Minard that inflation was the normal condition of economic growth during times of structural transition.
They recounted the elaborate historical research of two professors at the London School of Economics, Sir Henry Phelps-Brown (President of the Royal Economic Society) and Sheila V. Hopkins, who had invented a single new standard for measuring historic changes in the price level. Using a single basket of goods containing food, fuel, and cloth, the British scholars enabled the measurement of inflation over hundreds of years.
Following their single basket of human necessities over seven centuries of British history, they compared it with the changing purchasing power of a carpenter or laborer during this period. Extending the analysis back another 300 years, Forbes researchers created a consistent graph depicting one thousand years of the price level of subsistence goods in England.
Amid many ups and downs marked by wars and revolutions, they found that throughout measurable history inflation has never gone back down. It moves from plateau to higher plateau. Their central conclusion was that inflation was the natural condition of a rapidly globalizing and urbanizing economy.
Public complaints about rising prices accompany all the history of capitalism. Most economists confirm the idea that the various price indices used by governments to chart this phenomenon understate rather than exaggerate inflationary forces. Today, with prices apparently rising more slowly than usual, Central Banks attempt to reach an allegedly benign target of 2% inflation.
From the point of view of this prophecy, therefore, the most important economic insight of this century is the discovery of time-prices.
The True Prices
Reducing all prices to a single index of hours and minutes, they offer the possibility of resolving the debate once and for all.
Time-prices are true prices: the number of hours and minutes it takes you to earn the money to buy a good or service. Money is a measuring stick, but it can only convey accurate values to the extent it reflects the ultimate scarcity of time in the economy and in our lives.
Most economic analysis defines interest rates as mediating across time and exchange rates as mediating across space (between countries and currencies). Then, economists estimate “real” values by calculating price indices, such as inflators, deflators, and purchasing power parity comparators. The estimation of changes in time and space become ever more complex and demanding.
Time-prices combine the two indices into one number: the true price, measured in hours and minutes in all regions and over all periods.
The function of money is to serve as a measuring stick. It enables transactions by referring value to a fungible element common to all people in all eras across the world. What remains scarce when all else becomes abundant is time.
From time-prices, we learn that as long as governments permit entrepreneurship and technological advance, investors can be confident that economic growth will continue or even accelerate.
From Marian Tupy and Gale Pooley’s scrupulous researches, we find that time-price improvement — the number of hours needed to earn the money to buy the key commodities of life — declined at a compound annual rate of around 2.2% between 1850 and 2018, 2.5% between 1900 and 2018, 3.1% after 1960, and 3.4% since 1980.
In other words, we see signs of the phenomenon identified by Henry Adams in the 19th century and by Ray Kurzweil in the 20th and 21st centuries: the law of accelerating returns. Through compounding effects, the world is getting richer at an ever-faster pace.
Just on the basis of rough impressions gained as a youth milking cows by hand, throwing bales onto trailers, and chopping boughs into firewood, I always doubted the notion that technological change is accelerating. It seemed to me that the transformation effected by the industrial revolution from farms to cities was more dramatic than anything we gain from Google and other vendors of technology today.
With the proportion of people extracting their living from the earth through farm work dropping from over 90% to under 2%, and average longevity rising from 35 years to 75 years, current changes seem to continue but not accelerate the industrial breakthrough.
Despite Pooley and Tupy’s findings since 1850, however, time-prices may support my view as an acceleration denier. The most spectacular previous use of time-prices came in a 1992 essay by William Nordhaus of Yale entitled “Do Real Income and Real Wage Measures Capture Reality? The History of Lighting Suggests Not.”
Putting Phelps-Brown, Hopkins, and their Forbes exponents to shame, Nordhaus calculated that through half a million years, from cavemen’s fires to the candles that illumined Versailles, the labor cost (measured in hours and minutes) to light a room dropped roughly 75%.
Then after a brief period of stagnation between 1711 and 1750 when Britain maintained a tax on candles and windows, the time-price of light began to plunge. Gas light cost one tenth as much as candlelight and kerosene light one tenth as much as gas light. That meant the time-price of light dropped a hundred-fold. Then the arrival of electricity in the 1880’s brought another thousand-fold drop, for a total of a hundred thousand in some 150 years.
This radical drop in the effective price of a critical service that scarcely changed over centuries manifests deflation or price decline as the natural condition, not rising prices. Since this graph of technical advance was accompanied by an epochal increase in global populations and in longevity, it could not have been counteracted by rises in the time cost of food and fuel.
Time-prices tell us that economic models have been deeply wrong. We live in a universe of abundance, not of scarcity. Only our money as a measuring stick should reflect the residual scarcity of time.
As investors we must learn how to take advantage of the providential abundance in our lives.
Editor, Gilder’s Daily Prophecy