4.01. Prices and Consumption: Money Prices

0:00Chapter 4. Prices and Consumption 1. Money Prices We have seen the enormous importance of the money prices of goods in an economy of indirect exchange. The money income of the producer or laborer and the psychic income of the consumer depend on the configuration of these prices. How are they determined? In this investigation we may draw extensively from almost all of the discussion in Chapter 2. There we saw how the prices of one good in terms of others are determined under conditions of direct exchange. The reason for devoting so much consideration to a state of affairs that can have only a very limited existence was that a similar analysis can be applied to conditions of indirect exchange.

0:55In a society of barter, the markets that established prices, assuming that the system could operate, were innumerable markets of one good for every other good. With the establishment of a money economy, the number of markets needed is immeasurably reduced. A large variety of goods exchange against the money commodity, and the money commodity exchanges for a large variety of goods. Every single market, then, with the exception of isolated instances of barter, includes the money commodity as one of the two elements. Aside from loans and claims, which will be considered later, the following types of exchange are made against money.

1:43Old consumer goods against money. New consumer goods and services against money. Capital goods against money. For durable goods, each unit may be sold in total or it may be hired out for its services over a certain period of time. Now we remember from Chapter 2 that the price of one good in terms of another is the amount of the other good divided by the amount of the first good in the exchange. If in a certain exchange 150 barrels of fish exchanged for three horses, then the price of horses in terms of fish, the fish price of horses, was 50 barrels of fish per horse in that exchange.

2:38Now suppose that in a money economy three horses exchange for 15 ounces of gold, money. The money price of horses in this exchange is five ounces per horse. The money price of a good in an exchange, therefore, is the quantity of units of gold divided by the quantity of units of the good, yielding a numerical ratio. To illustrate how money prices may be computed for any exchange, suppose that the following Banking Exchanges are made 15 ounces of gold for three horses, 5 ounces of gold for 100 barrels of fish, 1 eighth ounce of gold for two dozen eggs, 24 ounces of gold for 8 hours of excess labor.

3:28The money prices of these various exchanges were 15 ounces of gold for three horses equals Equals 5 ounces per horse. 5 ounces of gold for 100 barrels of fish equals 1 ounce of gold for 20 barrels of fish or 1 twentieth ounce of gold for 1 barrel of fish. 1 eighth ounce of gold for 2 dozen eggs equals 1 sixteenth ounce of gold for 1 dozen. 24 ounces of gold Gold for 8 hours of excess labor equals 3 ounces of gold for 1 hour of excess labor. It is evident that with money being used for all exchanges, money prices serve as a common denominator of all exchange ratios.

4:21Thus, with the money prices now under discussion, anyone can calculate that if one horse exchanges Exchanges for five ounces and one barrel of fish exchanges for one twentieth of an ounce, then one horse can indirectly exchange for one hundred barrels of fish, or for eighty dozen eggs, or for one and two thirds hours of excess labor, etc. Instead of a myriad of isolated markets for each good and every other good, each good Exchanges for Money, and the exchange ratios between every good and every other good can easily be estimated by observing their money prices.

5:07Here it must be emphasized that these exchange ratios are only hypothetical and can be computed at all only because of the exchanges against money. It is only through the use of money that we can hypothetically estimate these barter ratios, and it is only by intermediate exchanges against money that one good can finally be exchanged for the other at the hypothetical ratio. The exceptions are direct exchanges that might be made between two goods on the basis of their hypothetical exchange ratios on the market. These exchanges, however, are relatively isolated and unimportant, and depend on the money prices of the two goods.

5:56Many writers have erred in believing that money can somehow be abstracted from the formation of money prices, and that analysis can accurately describe affairs as if exchanges really took in a direct place by way of barter. With money and money prices pervading all exchanges, there can be no abstraction from money in analyzing the formation of prices in an economy of indirect exchange. Just as in the case of direct exchange, there will always be a tendency on the market for one money price to be established for each good. We have seen that the basic rule is that each seller tries to sell his good for the highest attainable money price, and each buyer tries to buy the good for the lowest attainable money price.

6:52The actions of the buyers and sellers will always and rapidly tend to establish one price on the market at any given time. If the ruling market price for 100 barrels of fish, for example, is 5 ounces, that is, if sellers and buyers believe that they can sell and buy the fish they desire for 5 ounces per 100 barrels, then no buyer will pay 6 ounces, and no seller will accept 4 ounces for the fish. Such action will obtain for all goods on the market, establishing the rule that, for the What, then, are the forces that determine at what point this uniform money price for each good tends to be set?

7:52We shall soon see that, as demonstrated in Chapter 2, the determinants are the individual In the course of determining the fish price of horses in the direct exchange of fish as against horses, at the same time there was also determined the horse price of fish. In the exchanges of a money economy, what is the goods price of money and how is it determined? Let us consider the foregoing list of typical exchanges against money. These exchanges establish the money prices of four different goods on the market.

8:40Now let us reverse the process and divide the quantities of goods by the quantity of money in the exchange. This gives us one-fifth horse per ounce of gold, twenty barrels of fish per ounce of This sort of list or array goes on and on for each of the myriad exchanges of goods against money. The inverse of the money price of any good gives us the goods price of money in terms of that particular good. Money in a sense is the only good that remains, as far as its prices are concerned, in the same state that every good was in a regime of barter.

9:34In barter, every good had only its ruling market price in terms of every other good – fish price of eggs, horse price of movies, etc. In a money economy, every good except money now has one market price in terms of money. Money on the other hand still has an almost infinite array of goods prices that establish the goods price of money. The entire array considered together yields us the general goods price of money. For if we consider the whole array of goods prices, we know what one ounce of money will buy in terms of any desired combination of goods.

10:23That is, we know what that ounce's worth of money, which figures so largely in consumers' decisions, will be. Alternatively, we may say that the money price of any good discloses what its purchasing power on the market will be. Suppose a man possesses 200 barrels of fish. He estimates that the ruling market price for fish is 6 ounces per 100 barrels, and that therefore he can sell the 200 barrels for 12 ounces. The purchasing power of 100 barrels on the market is 6 ounces of money. Similarly, the purchasing power of a horse may be 5 ounces, etc. The purchasing power Power of a stock of any good is equal to the amount of money it can buy on the market, and is therefore directly determined by the money price that it can obtain.

11:22As a matter of fact, the purchasing power of a unit of any quantity of a good is equal to its money price. If the market money price of a dozen eggs, the unit, is one-eighth ounce of gold, then Then the purchasing power of the dozen eggs is also one-eighth of an ounce. Similarly, the purchasing power of a horse was five ounces, of an hour of X's labor, three ounces, etc. For every good except money, then, the purchasing power of its unit is identical to the money price that it can obtain on the market. What is the purchasing power of the monetary unit? Obviously the purchasing power of, for example, an ounce of gold can be considered only in relation to all the goods that the ounce could purchase or help to purchase.

12:20The purchasing power of the monetary unit consists of an array of all the particular goods prices in the society in terms of the unit. Many writers interpret the purchasing power of the monetary unit as being some sort of price level, a measurable entity consisting of some sort of average of all goods combined. The major classical economists did not take this fallacious position. As Jacob Weiner writes, when they speak of the value of money or of the level of prices In other words, without explicit qualification, they mean the array of prices of both commodities and services in all its particularity and without conscious implication of any kind of statistical average.

13:13It consists of a huge array of the type above, one-fifth horse per ounce, twenty barrels of fish per ounce, sixteen dozen eggs per ounce, etc. It is evident that the money commodity and the determinants of its purchasing power introduce a complication in the demand and supply schedules of Chapter 2 that must be worked out. There cannot be a mere duplication of the demand and supply schedules of barter conditions, since the demand and supply situation for money is a unique one. Before investigating the price of money and its determinants, we must first take a long detour and investigate the determination of the money prices of all the other goods in the economy.