Economics is the dismal science, as Thomas Carlyle infamously said, reprising John Stuart Mill for defending the abolishment of slavery in the British Empire. But if being a “dismal science” includes respecting individual rights and standing up for early ideas of subjective, revealed, preferences – sign me up! Indeed, British economist Diane Coyle wisely pointed out that we should probably wear the charge as a badge of honor.

Non-economists, quite wrongly, attack economics for considering itself the “Queen of the Social Science”, firing up slurs, insults and contours: Economism, economic imperialism, heartless money-grabbers. Instead, I posit, one of our great contributions to mankind lies in clarity and, quoting Joseph Persky “an acute sensitivity to budget constraints and opportunity costs.”

Now, clarity requires one to be specific. To clearly define the terms of use, and refrain from the vague generality of unmeasurable and undefinable concepts so common among the subjects over whom economics is the queen. When economists do their best to be specific, they sometimes use terms that also have a colloquial meaning, seriously confusing the layman while remaining perfectly clear for those of us who “speak the language”. I realize the irony here, and therefore attempt my best to straighten out some of these things, giving the examples of 1) money and 2) investments.

An age-old way to see this mismatch is measuring the beliefs held by the vast majority of economists and the general public (Browsing the Chicago IGM surveys gives some examples of this). Bryan Caplan illustrates this very well in his 2006 book The Myth of the Rational Voter:

Noneconomists and economists appear to systematically disagree on an array of topics. The SAEE [“Survey of Americans and Economists on the Economy”] shows that they do. Economists appear to base their beliefs on logic and evidence. The SAEE rules out the competing theories that economists primarily rationalize their self-interest or political ideology. Economists appear to know more about economics than the public. (p. 83)

Harvard Professor Greg Mankiw lists some well-known positions where the beliefs of economists and laymen diverge significantly (rent control, tariffs, agricultural subsidies and minimum wages). The case I, Mankiw, Caplan and pretty much any economist would make is one of appeal to authority: if people who spent their lives studying something overwelmingly agree on the consequences of a certain position within their area of expertise (tariffs, minimum wage, subsidies etc) and in stark opposition to people who at best read a few newspapers now and again, you may wanna go with the learned folk. Just sayin’.

Caplan even humorously compared the ‘appeal to authority’ of other professions to economists:

In principle, experts could be mistaken instead of the public. But if mathematicians, logicians, or statisticians say the public is wrong, who would dream of “blaming the experts”? Economists get a lot less respect. (p. 53)

Money, Wealth, Income

The average public confusingly uses all of these terms interchangeably. A rich person has ‘money’, and being rich is either a reference to income or to wealth, or sometimes both – sometimes even in the same sentence. Economists, being specialists, should naturally have a more precise and clear meaning attached to these words. For us Income refers to a flow of purchasing power over a certain period (=wage, interest payments), whereas Wealth is a stock of assets or “fixed” purchasing power; my monthly salary is income whereas the ownership of my house is wealth (the confusion here may be attributable to the fact that prices of wealth – shares, house prices etc – can and often do change over short periods of time, and that people who specialize in trading assets can thereby create income for themselves).

‘Money’, which to the average public means either wealth or income, is to the economist simply the metric we use, the medium of exchange, the physical/digital object we pass forth and back in order to clear transactions; representing the unit of account, the thing in which we calculate money (=dollars). That little green-ish piece of paper we instantly think of as ‘money’. To illustrate the difference: As a poor student, I may currently have very little income and even negative wealth, but I still possess money with which I pay my rent and groceries. In the same way, Bill Gates with massive amounts of wealth can lack ‘money’, simply meaning that he would need to stop by the ATM.

Investment

A lot like money, the practice of calling everything an ‘investment’ is annoying to most economists: the misuse drives us nuts! We’re commonly told that some durable consumption good was an investment, simply because I use it often; I’ve had major disagreements friends over the investment or consumption status of a) cars, b) houses, c) clothes, and d) every other object under the sun. Much like ‘money’, ‘investment’ to the general public seem to mean anything that gives you some form of benefit or pleasure. Or it may more narrowly mean buying financial assets (stocks, shares, derivatives…). For economists, it means something much more specific. Investopedia brilliantly explains it: The definition has two components; first, it generates an income (or is hoped to appreciate in value); secondly, it is not consumed today but used to create wealth:

An investment is an asset or item that is purchased with the hope that it will generate income or will appreciate in the future. In an economic sense, an investment is the purchase of goods that are not consumed today but are used in the future to create wealth.

This definition clearly shows why clothes, yoga mats and cars are not investments; they are clearly consumption goods that, although giving us lots of joy and benefits, generates zero income, won’t appreciate and is gradually worn out (i.e. consumed). Almost as clearly, houses (bought to live in) aren’t investments (newsflash a decade after the financial crisis); they generate no income for the occupants (but lots of costs!) and deteriorates over time as they are consumed. The only confusing element here is the appreciation in value, which is an abnormal feature of the last say four decades: the general trend in history has been that housing prices move with price inflation, i.e. don’t lose value other than through deterioration. In fact, Adam Smith said the very same thing about housing as an investment:

A dwelling-house, as such, contributed nothing to the revenue of its inhabitant; and though it is no doubt extremely useful to him, it is as his cloaths and household furniture are useful to him, which however make a part of his expence, and not his revenue. (AS, Wealth of Nations, II.1.12)

Cars are even worse, depreciating significantly the minute you leave the parking lot of the dealership. Where the Investopedia definition above comes up short is for business investments; when my local bakery purchases a new oven, it passes the first criteria (generates incomes, in terms of bread I can sell), but not the second, since it is generally consumed today. Some other tricky example are cases where political interests attempt to capture the persuasive language of economists for their own purposes: that we need to invest in our future, either meaning non-fossil fuel energy production, health care or some form of publicly-funded education. It is much less clear that these are investments, since they seldom generate an income and are more like extremely durable consumption goods (if they do classify on some kind of societal level, they seem like very bad ones).

In summary, economists think of investments as something yielding monetary returns in one way or another. Either directly like interest paid on bonds or deposits (or dividends on stocks) or like companies transforming inputs into revenue-generating output. It is, however, clear that most things the public refer to as investments (cars, clothes, houses) are very far from the economists’ understanding.

Economists and the general public often don’t see eye-to-eye. But improving the communication between the two should hopefully allow them to – indeed, the clarity with which we do so is our claim to fame in the first place.

Revised version of blog post originally published in Nov 2016 on Life of an Econ Student as a reflection on Establishment-General Public Divide.