I’ve been playing a city management game called Sim Empire. It’s a lot like the old classics of Pharaoh, Caesar, or Anno Domini. You are building a town out of nothing, lay out the streets, houses, businesses, and municipal buildings – even houses of worship. The more of your citizens’ needs you can satisfy, the more lavish their homes become – and therefore the more you can collect from them in taxes.
The game has made me aware once again of the sheer beauty of the invisible hand of the market. Here then are some random thoughts on the economy of these types of games.
My citizens don’t have enough grain. If I don’t build enough grain farms, they could starve (in some games, yes). It’s a wonder they don’t revolt and throw me out of office! Oh, but I built enough police stations to cover every square pixel, so they daresn’t, and enough military that no outsider feels safe ‘liberating’ them. If only I allowed free markets, though, some entrepreneurial bitizen would notice the price of grain was high, farm some land, and provide for everyone. No tyrant needed!
The one chief advantage my underlings have is a powerful one: if I don’t provide for their every whim, they will refuse to pay taxes. Apparently my military apparatus is not sufficient to take their money by force, despite being strong enough to remain in power. If I’ve neglected the game for a while due to the pressures of real life, I see 75% of the country simply refusing to pay taxes and nothing to do about it.
Actually, there is one thing I can do about it: go to the free market. What? I thought there wasn’t a free market in my empire. Well, there isn’t, but there is a free international market with no tariffs, quotas, or other restrictions. Well, there is one restriction: no trading outside of 6am-6pm. The one chief advantage Sim Empire has over its older cousins is that I can work with other tyrants. If one has too much wood or grain, there is a marketplace where they can sell their excess to me. I can also sell my excess stone or porcelain.
I’ve noticed, though, that this free market is rather odd. The price of raw materials is higher than the price of finished products. Clay, for instance, right now costs 40-45 gold and wood costs 50, while porcelain – made from clay and wood! – costs 35-40. And you get less porcelain than you put in clay and wood! It’s a real money loser. It occurs to me that I should stop my porcelain factories altogether, sell the clay and wood I used to be using on the market, buy porcelain, and pocket the difference. If enough of us do that, the prices ought to revert. … But why are they doing that in the first place?
I am pleased to announce our Empire runs on hard metal money: gold. No fiat currency here! So no inflation, right? I’m actually dubious. There is no actual limit on the amount of gold I personally can amass, nor on the amount other players can create. The developers never come in to take gold out of the system, so I actually predict as the number of players increase and the amount of gold increases faster than the number of goods being traded, the prices of goods ought to go up over time as well. For an example of real life silver and gold-based currencies, economies, and countries being destroyed by inflation, head on over to Crash Course History for Spain and China.
A reminder that being on the gold standard won’t solve all your problems.
The interrogators did not write up charge sheets because no one needed their papers. And whether or not a [prison] sentence would be pasted on was of very little interest. Only one thing was important: Give up your gold, viper! The state needs gold and you don’t.
This is all from Aleksandr Solzhenitsyn’s Gulag Archipelago. There’s more:
If you in fact had no gold, then your situation was hopeless. You would be beaten, burned, tortured, and steamed to the point of death or until they finally came to believe you. But if you had gold, you could determine the extent of your torture, the limits of your endurance, and your own fate.
It’s a good book, so far, but trying to compare the Soviet Union after World War I and a brief civil war to the present-day United States is a bridge too far. The only Americans today who might share the Gulag experience are the black ones, and even then their situation is less of a gulag archipelago and more of a traditional oppressed ethnic minority.
Economics encompasses two realities, the explicit and the implicit. The explicit is visible, obvious, recorded, and quoted. Explicit expenses are paid to others and recorded by accountants. The explicit is also called “nominal,” since that is what is named. For example, nominal interest is what a bank says it is paying, and the money it pays to depositors.
But there is also an implicit realm that is also real. Indeed, the implicit is more real than the explicit. What is explicit is often merely the superficial appearance. But things are often not what they appear to be. The reality beneath is implicit, not visible, not quoted, and not recorded, yet it is the true reality. Economists often use the adjective “economic” to designate the real thing in contrast to the explicit number or the accounting data.
An enterprise has explicit and implicit expenses. The explicit expenses are recorded by bookkeepers and accountants. The implicit expenses are non-recorded opportunity costs, such as what the owner of a business would have earned elsewhere, or what the assets of the firm would yield if sold and converted to bonds. The real cost of oil is not what the buyer pays but also includes the implicit costs of pollution damage not paid for by the customer.
Real interest is the nominal interest minus the inflation rate. Economic profit is accounting profit minus implicit expenses. Real GDP is nominal GDP (in current dollars) adjusted for inflation. Economists deflate prices and include implicit costs to get at the implicit reality. Continue reading
Last [blog post], we examined some propositions about gold as money, drawing from theory and history. [In] this [blog post] we ask whether and how gold might once again serve a monetary function.
Money of any sort, commodity-based or not, derives its value in large part from what economists call a “network effect.” Like a fax machine, whose value depends largely on how many other people have fax machines, we value money because other people value it. We feel confident our money will buy us what we need tomorrow. A strong network effect means that something drastic has to happen before people will give up their familiar form of money.
Something drastic was happening when U.S. Rep. Ron Paul’s Gold Commission was set up in 1979. By the time the commission’s report was issued in 1980, inflation had reached alarming levels: The consumer price index was at 14 percent and rising. The prime rate was over 20 percent, and in 1980 silver exploded to $50 an ounce and gold surpassed $800 (about $2,300 in today’s dollars). Bestselling books urged people to buy gold, silver, diamonds, firearms, and rural hideouts.
We now know that inflation was peaking and that the silver price spike was a fluke caused by a failed attempt to corner the silver market. But none of this was apparent at the time, so it was reasonable to wonder whether our monetary system would survive. What did happen, of course, was that the new Fed chairman, Paul Volcker, stepped on the monetary brakes hard enough to break the back of inflation. Two back-to-back recessions resulted but were followed by a long period of recovery in which both inflation and interest rates dropped steadily. The Gold Commission was largely forgotten, though the U.S. Mint did get into the business of producing gold coins in a big way. Continue reading
Three seemingly unrelated variables are in fact deeply connected. Gold has been the most widely used money, and in a pure free market, gold would most likely come back as the real money. Free-market banking would mostly use money substitutes such as bank notes and bank deposits, but these could be exchanged for gold at a fixed rate. Free banking would combine price stability with money flexibility.
Interest is ultimately based on time preference, the tendency of most people to prefer present-day goods to future goods, due to our limited lifespan and the uncertainty of the future. In a free market, the rate of pure interest would be based on the interplay of savings and borrowing. Interest is not just income and payment, but has a vital job in the market economy. The job of the interest is to equilibrate or make equal the amounts of savings and borrowing. This also equalizes net savings (subtracting borrowing for consumption) and investment. Investment comes from savings, and the job of the interest rate is to make sure that net savings is invested. Continue reading
Nothing seems to arouse passions—pro and con—quite like suggestions that gold should once again play a role in our money. “Only gold is money,” says one side. “It’s a barbarous relic,” says the other. Let’s turn down the heat a bit and look into some propositions about gold. That should lead us to some reasonable ideas about whether or how gold might return.
Propositions About Gold
Gold has intrinsic value. Actually, nothing has intrinsic value. The value of any good or service resides in the minds of individuals contemplating the benefits they might derive from it. What gold does have is some rather remarkable physical properties that make it very likely that people will continue to value it highly: luster, corrosion resistance, divisibility, malleability, high thermal and electrical conductivity, and a high degree of scarcity. All the gold ever mined would only fill one large swimming pool, and most of that gold is still recoverable.
Only gold is money. Although gold was once used as money, that is no longer the case. Money is whatever is generally accepted as a medium of exchange in a particular historical setting. Right now, government-issued fiat money, unbacked by any commodity, is the only kind of money we find anywhere in the world, with some possible obscure exceptions.
Perhaps people who say this mean that gold is the only form of money that can ensure stability. That’s what future Federal Reserve Chairman Alan Greenspan thought in 1967, when he wrote “Gold and Economic Freedom” for Ayn Rand’s newsletter. “In the absence of the gold standard, there is no way to protect savings from confiscation through inflation,” he said. When later asked by U.S. Rep. Ron Paul whether he stood by that article, Greenspan said he did. But he weaseled out by saying a return to gold was unnecessary because central banks had learned to produce the same results gold would produce. Continue reading
That’s the title of this piece in the Freeman by our very own Dr. Gibson. In it, he suggests:
Let’s turn down the heat a bit and look into some propositions about gold. That should lead us to some reasonable ideas about whether or how gold might return.
Indeed. I’m tempted to copy and paste the whole thing, but just check it out.
PS I’ve been a very busy man lately, but I’ve got a bunch of almost-finished writings in the works. Stay tuned!