Awkward Utopia

Stigler has the endearing quality that he is amenable to adding the spice of humor to many economics concepts. He does so with examples of economics phenomena or in wry commentary. One of the concepts that this book has hammered home, that I have far too often ignored (and I think we have only mentioned it once or twice in my many years of UES), is the importance of interest as an opportunity cost. I also think a strength of the book is the handy explanation for utility. I don’t remember having a good one from my Intermediate Micro class. So you will have to forgive the excessive excerpt here, but I found the following passage interesting and amusing (pages 90-91):

The holder of a durable commodity has to take account of two elements of return:

1. The marginal utility (measured in money terms) he derives from holding the commodity. Examples are the pleasure of driving a car or of admiring a painting….
2. The change in the price of a product from now to (say) next year, which may be positive or negative.

The total return from holding the commodity then consists of the sum of the utility (u) expressed in dollars and the expected increase in price ((delta)p). The owner of a first edition of Ricardo’s Principles of Political Economy and Taxation (1817), of which there are probably 400 copies in the world, expects its price to rise because the number and wealth of potential owners are increasing. But in the absence of an increased desire for the book, the price cannot on average rise so fast as the interest received ons ums of money invested in securities comparable in riskiness to holding Ricardo’s Principles. If it did, economists would buy the book and have the pleasure of owning it without cost, while receiving the increment of value. In equilibrium, in fact, u + (delta)p, the (marginal) return to the holder, must equal the cost of holding the durable good. This cost is composed of the amount that could be earned on the sum elsewhere, ip (where i is the appropriate interest), plus any cost of possession of the good (insurance of a painting and so forth).

It follows that, when the owner is in equilibrium, the greater the utility to be derived from holding a commodity, the lower must be its rate of increase of price. People will not hoard a keg of nails unless its price is expected to rise by the cost of storage; they will hold the Ricardo if it rises by only … i - (u/p) percent, where u/p is the annual utility of possession per dollar invested int he commodity. Ricardo’s Principles costs more than $5,000, so at a 10 percent interest rate and a (say) 5 percent increase each year in the priceo f the book, an owner needs to get at least $250 of pleasure from its ownership each year.

I do.

I could see that last line coming a mile away! Hilarious. I could totally see myself saying the same thing as this beauty, which I now possess. In any event, I think that the reason we often miss the interest point of discussion is because it deals with time. Time adds another dimension to be reckoned with in terms of human action, one that is extremely formidable but often quite difficult to see.