11/ Part 6: "Welfare effects"

Our hero is now worse off because he has less money in the bank (for reasons that allude me, but Friedman thinks are obvious) and... "He has a lower real income because productive resources have been substituted for cash-balances, raising the price of consumption services relative to the price of production services."

I don’t understand, feel free to explain it to me. Anyway, lets continue.

Ah, he is trying to play with functions so apparently the bank account thing is wealth and is a part of the "utility function" and the income thing something something "production function".

Oh dear I'm losing interest...

We'll put a pin in it. I'll pick it up tomorrow, maybe I can muster more interest in the worst Star Trek episode ever then.

12/ Cont. Part 6: "Welfare effects"

Ok, I'm back. Lets try it again!

I thnk where he lost me was with the errand boy story in the previous section. So lets look at that.

14/ Return to Part 5: "Effect of a continuous increase in quantity of money"

So maybe it's my English not being at native speaker level, but I can't parse that. Can anyone explain what it is that he is saying?

15/ Return to Part 5: "Effect of a continuous increase in quantity of money"

So the context seems to be that we have inflation of 10% so that means that prices increase at a rate of 10% per year, which to me would suggest that it is better to keep "your money" or "wealth" in stuff that would maintain their value because they would increase with the other prices.

So maybe he is saying that he doesn't want to hold petty cash, or keep it very low, because any constant cash amount is losing it's value. So the retailer thinks that keeping very little cash and instead hiring someone to run to the bank when needed, will be more profitable?

Is that a reasonable interpretation?

16/ Back to Part 6: "Welfare effects"

Ok, based on the previous interpretation that also explains why our hero reduced his savings by 20% (feels a bit arbitrary, but most people like to have some buffer at least, if they can), since keeping money (in the bank or in cash) means it loses 10% in value every year, so it makes sense to me that he doesn't feel like saving more than necessary.

17/ Cont. Part 6: "Welfare effects"

So the assertion is that he is worse off in two ways:
1. He is poorer because he has less savings

And the thing I didn't understand yesterday.

18/ Cont. Part 6: "Welfare effects"

I don't know what that means, but I think it is related to the previous story of the errand boy. That businesses are hiring people (productive resources?) over keeping cash around. But I don't know why that would affect prices of anything, and I don't think I know what "consumption services" and "productive services" are.

19/ Cont. Part 6: "Welfare effects"

Lets see if we can continue anyway.

Looks up English words:
non·​pecuniary. : not consisting of money.

21/ Cont. Part 6: "Welfare effects"

Ok, lets try: Nobody wants to hold cash because cash is rotting at 10% a year. So for our hero personally he has reduced his savings to what he needs short term, and so has businesses.

consumption services:

"Consumption differs from consumption expenditure primarily because durable goods, such as automobiles, generate an expenditure mainly in the period when they are purchased, but they generate “consumption services” (for example, an automobile provides transportation services) until they are replaced or scrapped. "
https://www.britannica.com/money/consumption

So the car loses in value, but the "utility" of "having a car" is not losing value? Maybe?

22/ Cont. Part 6: "Welfare effects"

How is this paragraph so hard to grok? I'm starting to think I'm missing some assumed definitions.

The page cited in the previous post has some explanations further down and I think maybe we have hit a central concept: "The rational optimization framework"

"consumers’ preferences are assumed to be captured by a utility function"

And breaks down that function:

1. "that the urgency of consumption needs will decline as the level of consumption increases (this is known as a declining marginal utility of consumption)"

2. "that people prefer to face less rather than more risk in their consumption (people are risk-averse)"

3. "that unavoidable uncertainty in future income generates some degree of precautionary saving."

So maybe this is about 3? The utility of savings is less when money loses value?

23/ Cont. Part 6: "Welfare effects"

Maybe: that he has less savings feels bad because he is less secure in the event he might lose his job? And something about having money in your account and productive services, which I'm just going to give up on.

I'm giving up on this whole section to be honest.

What makes sense to me is:
A) savings (in money) make little sense when they are falling in value
B) stuff that is useful over time makes sense to buy because the use you get is constant and buying a new one is progressively more expensive.
C) Tbh buying stuff seems like a good idea in general, especially durable stuff that might be resold later, because prices are increasing, it's just money that is losing value.

So spend your money fast for all your daily needs, and save in things, like your home or gold or whatever.

25/ my maternal grandmother got a small inheritance long before I was born. She used the money to buy silverware. The way I remember it told, she said that this was her insurance, as a housewife, she kept her “money” in the kitchen 😅

And her parents, who had 5 daughters, insisted they all get an education. Also an insurance against the risk of being a woman, because a housewife could at any time lose her entire life if her husband left her. Or if she left him (oh the scandal). So an education and savings was protection and possibly leverage at a time when women had fewer rights and options.

27/ Cont. Part 6: "Welfare effects"

Basically the rest of this section is talking about how if you save you can't spend, but the people you save with (bank) can spend it. And when someone spends, someone else gets and so basically it all ends up in zero. A very boring graph made an appearance.

28/ Part 6: "Effect of a continuous decrease in the quantity of money"

He starts with asking if deflation causes a "welfare gain" if inflation causes a "welfare loss". So instead of a helicopter we will burn money in a furnace.

29/ Cont. Part 6: "Effect of a continuous decrease in the quantity of money"

The furnace is tax. Our society has a tax of 10% and it seems that that means 10% of the money disappears a year.

He says that prices would then decrease with 10% - I am assuming this is the "magic equilibrium" again.

So under "deflation" prices go down or in other words: money is more valuable.

Now saving makes sense, because just sitting on cash means it will be worth 10% more in a year.

And he says that prices have to drop low enough that it's possible for people to start doing the saving.

30/ I have questions.

Firstly, he keeps on assuming everyone can save and everyone has income.

Secondly, a lot of your "consumption" is because you have to do it. Like food, shelter, healthcare, whatever. That is not very elastic.

Thirdly, he seems to think that people who get more will immediately spend it. But in my experience poor people tend to spend (they are running in negative already), rich people tend to save (they have all they need).

I have a lot more, like political unrest and addiction, how about Instagram as a mechanism that affects consumption?

31/ Cont. Part 6: "Effect of a continuous decrease in the quantity of money"

Of course once our society of extremely average immortal beings have built up their savings to "appropriate levels" (which according to Friedman is now 12% of their yearly income) it will return to its "equilibrium".

So seemingly they are all better off, but there is a twist!

32/ Cont. Part 6: "Effect of a continuous decrease in the quantity of money"

If prices decrease a lot, suddenly we have all this extra cash. And now we have to protect all of the money.

This doesn't really make sense to me because if everyone got rich why would anyone bother to rob you? I would assume crime would be way down. People would probably work less and lay on the beach instead.

33/ Cont. Part 6: "Effect of a continuous decrease in the quantity of money"

ROFL mr Friedman seems to think that people will stop hoarding cash because it's a hassle.

And from this ridiculous assumption he concludes that at a certain point falling prices will be a bad thing for the society. Dear lord.

And then a lot of text which seems to be about interest rates and how if you have stuff in the bank then you get interest on it. So using it instead means that you lose all the future interest you could've gotten if it was in the bank.

34/ Cont. Part 6: "Effect of a continuous decrease in the quantity of money"

He introduces a thing I don't understand:

Internal Rate of Discount (IRD)

If he saves more then IRD < 10%
If he keeps his savings the same IRD = 10%
if he saves less IRD > 10%

Maybe IRD is the cost of spending your savings? You lose the value increase in the deflation + interest

36/ I think I need to nail down the lingo. So here are some short YouTube videos.

Utility: https://youtu.be/UnX8RPB5vFM?si=KVISInzh_v_6SFod

38/ let’s do that a bit more.

Marginal utility: https://youtu.be/Kf9KhwryQNE?si=QVATujJv6xoI6jNC

@Patricia I remember how my friend, who is interested in economics, told me about some article that supposedly was a big deal in their field, where for some probabilistic game you always lose money on average, but you always win money in practice.

Turned out they just didn't understand averages (i.e. the central limit theorem).

@Patricia Ah, I think I got it backwards: you should win on average, but you actually always lose.

It goes like this. Each turn you either gain +20% of your money, or you lose, say, 18%, both with equal probability. So on average you gain 2%, and should win money, right?

The trick is that the central limit theorem (CRT), which is basically the meaning behind averages, only applies to adding random variables, but here we're multiplying them (1.2 or 0.82 with 50/50 chance).