Does money make us rich, economist?
P: Hey, economist.
E: Hey, photographer.
P: We've recently talked about inflation, do you remember?
E: I do.
P: Ever since, one thing has been stuck in my head.
E: Let's unstuck it.
P: It's about the relation between money and wealth; more precisely, the question if money itself is wealth.
E: What are you heading to?
P: You would call someone with a lot of money rich, right?
E: Right.
P: So what's wrong with printing money and giving it to the people? Assuming we doubled the amount of money, wouldn't we be twice as rich?
E: The answer is: no.
P: Why?
E: Imagine a mini economy. Only three people live in it. One has chickens, one grows potatoes, and a third is a craftsman. In this economy, 100 coins of the same denomination are in circulation.
P: Cute.
E: The three want to increase their wealth and therefore decide to double the money supply. So the crafter mines 100 extra coins. The money supply rises to 200 coins. Does this increase the prosperity of the mini economy?
P: Probably not.
E: Exactly. The notion that more money increases overall wealth is misguided but understandable. It comes from the individual point of view on the topic. “If I have more money, I can buy more.” However, this only works if the total money supply does not increase, so someone has to have less money if I have more.
P: That makes sense, but I still don't find it entirely plausible.
E: What might help is to understand the relationship between money and goods. This relationship was first formulated by the American economist Irving Fisher, who lived from 1867 to 1947. In the equation he brought up, the quantity of money in circulation is denoted by M, the velocity of money by V, the price level by P, and the volume of trade by T, that is all goods and services traded in a period. So Fisher's quantity theory of money formulated in a straightforward equation goes like this: MxV=PxT with money on the left and goods on the right side.
P: Seems too complicated for me.
E: You had asked.
P: Do I understand this quantity of money equation correctly, that if the money supply M were to double, the price level P would also double?
E: The photographer masters basic arithmetic! The expansion of the money would only lead to inflation without the quantity of goods – which is the same as wealth – increasing.
P: Interesting. But enough for me today. I'll ask you another time what this V, the velocity of money thing, is about.
E: Anytime.
< silence >
P: Hey, economist, would you like to be rich, I mean, really rich?
E: I don't know. What about you?
P: I was recently eavesdropping on a conversation in a café. A woman talked about the many apartments she rents out and the effort and trouble she has with them. I was pretty glad that I didn't own these apartments. On the other hand, I asked myself whether I wasn't just trying to dress up my situation, that I was saying to myself that wealth doesn't make you happy because I'm not wealthy. What do you think?
E: You probably framed it a bit. That's what economics knows about, more preciously empirical economics: Wealth can bring happiness in two different ways. First, wealth goes along with happiness during the process of getting rich. Second, wealth can make you happy when you are richer than other people around you. But: People in rich countries are no happier than those in poor countries. So if people with different living standards live too far apart, they no longer have any influence on the feeling of happiness.
P: People are strange.
E: People are social beings. It makes them happy when they are better off.
P: You still haven't answered my question. Would you like to be rich?
E: Maybe. But maybe it's more important not to compare yourself constantly. Learning to be happy with what you have matters.
P: Sometimes you don't sound like an economist, economist.
E: That's because you think in stereotypes. Talking about stereotypes, photographer: Am I correct in assuming you are poor as a church mouse?
P: Poor but happy. And rich in imagination and freedom. I do what I want.
E: That doesn't seem like the worst thing to me.
P: Not the worst thing at all.