The Meaning of Price V

By M. Northrup Buechner

January 13, 2013

Another in a series of essays elaborating Objective Economics: How Ayn Rand’s Philosophy Changes Everything about Economics by the author.

The concluding paragraph of my last blog was this: All prices are relative prices. An increase in any price is an increase in a relative price. A decrease in any price is a decrease in a relative price. At the same time, all the prices we encounter in the economy are real prices and nominal prices and absolute prices. Most important, and the key to integrating these four concepts of price, all prices are objective prices, where the meaning of “objective” is the meaning defined by Ayn Rand.

Let us proceed to explain this:

Consider the difference in meaning of these two prices: $500 for a new pair of shoes in New York City and 50,000 toskas for a pair of shoes in Quasiland. Americans know the meaning of $500; they know exactly how much that is. But they do not know how much 50,000 toskas is. Because 50,000 toskas is a price, we know that a toska is the unit of money in Quasiland, and that one must pay 50,000 of those units to buy a pair of shoes. But we have no idea how much that is. We do not know whether shoes are expensive or cheap in Quasiland, whether they can be afforded only by the very rich, or whether they are given away for free when you buy a tank of gas.

What is the value of a sum of money? The meaning of value in this context is “the attributes of consequences of an item that make it a means to an end.” Putting aside the pathology of misers, money is always a means to an end—the end of acquiring goods and services. Rational men save money because it is a means to that end. The value of a particular sum, therefore, is its efficacy as that means. That efficacy is measured by its purchasing power. The value of $500 is what you can buy with it. When you know the purchasing power of $500, you know that with $500, you can buy 250 bars of soap, 200 pounds of rice, 10 dress shirts, 7 pair of jeans, five dinners for two at a nice restaurant, one sixtieth of a new car, one thousandth of a small house, and so on.

If you are an American, when you hear the words “five hundred dollars,” those words have a definite meaning in your mind. It is nothing like hearing the words “fifty thousand toskas.” You know what five hundred dollars means. That knowledge is derived from and flows out of more fundamental knowledge, knowledge almost at the perceptual level, that is, knowledge of the approximate prices of literally hundreds of goods and services that you see, hear, consider, compare, pay, or decide not to pay, in an economy where dollars are the means of making exchanges. With no conscious effort, your subconscious mind records an approximation of each price that you observe and puts those prices together to yield the automatic awareness of the meaning of $500. If you doubt that you have this knowledge, imagine that you were offered $10,000 for every price of every product you could estimate within twenty percent of its actual price.

In most modern economies, prices rise slowly over time. Consequently, as people continuously, repeatedly observe prices of various goods and services, they notice a higher price for first one item and then another. The result is that the meaning of a sum of money in their minds changes slowly to reflect the falling purchasing power of money, the change that later may be measured by economic statistics. The meaning of $500 to the average person in the United States today is certainly less than it was ten years ago, and very much less than it was fifty years ago.

Let us return to the original question: What is the real price? My answer is that the real price of anything is the sum of money stated in the price (such as $1.60 for a can of tomatoes) as grasped by people who buy and sell with that money. More widely, people know the meaning not just of prices, but of all sums of money expressed in the money they use. For each sum, the meaning is its purchasing power, grasped by people by means of the prices of hundreds of goods and services, automatically stored and put together by the subconscious mind of a rational being.

Understood in this way, prices are objective in the exact sense defined by Ayn Rand. To be objective is to be a joint product of consciousness and existence. An objective fact is a fact of reality as grasped by a conceptual consciousness. The meaning of a price is its purchasing power, grasped by the minds of people for whom that money is the means of making exchanges. This is the meaning of “price,” the meaning that is the basis of the functions prices perform in an economy. Every price is an objective price.

Now, let us return to relative prices. Relative prices are about the effect of changes in price. Every price is a relative price in the sense that prices rise and fall only relative to other prices. No price stands alone. In a previous blog, I told the story of what happened to the price of gasoline in the 1970s. Here is another example: At the end of the 19th century in the United States, prices on average fell for about thirty years. Over this period, a price that fell by less than the average represented an increase in relative price with the economic consequences of an increase in price. This was the case with wage rates during that period—wage rates declined, but prices in general fell more, working men were able to buy more with their lower money wages, and their standard of living rose. The workers’ money wages decreased, but their relative wages increased. Since your real wage is what you can buy with your money wage, this was an increase in the real wage.

We can sum this up by saying: every nominal price is a real price. There is no such thing as an unreal price. A nominal price is adjusted for the changing value of money in people’s minds as they register the changing prices they pay and the consequent changing value of money. All the nominal prices that we see every day are real, which nobody (except economists) has ever had any reason to doubt.

Up to this point, we have been looking at the meaning of price as a concept: what we grasp when we grasp a price (its purchasing power); how the meaning of a price depends on its relation to other prices; and why every nominal price is a real price. The definition of price is the sum of money required in exchange for an economic value as grasped by people for whom that money is the means of making exchanges.

Next time I will take up the causes of price. The theory of price is the theory of what causes prices. This is the subject of price theory—the fundamental theory of economics.