help a layman understand money and price

February 4, 2013 12:03 PM

If a bucket of bolts (BOB) costs $10 today and $23 a month later, is the BOB worth more or is money worth less? How do I know when money is worth less or more, or the thing it's buying is worth more or less. Or am I saying the same thing? Arghhhh. Please be gentle.
posted by larry_darrell to work & money (11 answers total)

I'm no economist, but I think figuring out the difference between the two situations involves looking at other the prices of other goods. Looking at only a single price, it's impossible to tell if the thing costs more or the money is worth less. But if you look at, say, 100 different prices, you can see if they've all changed following the same patterns (change in the value of money) or if they've changed independently (change in value of goods).
posted by duien at 12:06 PM on February 4

The way to figure it out is to buy a bunch of stuff, and see how the average price has moved. And then if your BOB is more than the average, that means it's actually worth more. But if it is matching the average, then money is worth less.

In fact, this is actually how they calculate inflation.
posted by smackfu at 12:07 PM on February 4

If the money is worth less (i.e., inflation has occurred) then all goods, across the board, would be expected to show a similar rise in price. So economists take what's called a "market basket" of goods -- a combination of a bunch of consumer items -- and calculate how much the price of that has risen or fallen. Then you can compare the rate of inflation to the change in the cost of your BOB to see how much it's inflation and how much it's due to bolts getting more valuable (e.g., because there was a sudden shortage of the metal used to make the bolts.)
posted by katemonster at 12:08 PM on February 4 [4 favorites]

It depends. If you live in a storm ravaged area where all building supplies are scarce, they may cost more because they are "worth" more. If all other things are equal, they may cost more because of larger inflationary pressures that mean that money is worth less. Sometimes there is a combination of the two in effect, as in a rising stock price. Presumably the price of stock rises because a company creates value that translates into greater worth, but over the course of a company's life, regular old inflation may well be a factor as well. Indeed, investing can act as a hedge against inflation in this way. (E.g., my grandmother's shares of IBM, the price of which has certainly been affected by inflation over the course of her holding them, are better for her to have than the amount of money that she originally paid for them because when she sells she will get to take advantage of the inflated price [leaving aside the rise attributed to worth].)
posted by OmieWise at 12:09 PM on February 4

So say we divide everything in the economy into two groups, BOB and everything else. We develop a price index so we can keep track of the price of everything else. If BOB goes from $10 to $23 then, indeed, BOB is increasing in price. If the price of everything else increases by the same percentage then inflation is going up, USD10 used to buy a BOB but now will only buy 10/23 buckets.
posted by shothotbot at 12:09 PM on February 4

(An example of the opposite phenomenon: the VCR my parents bought in 1980 cost $1,000. Now you can easily find a new one for $50. That doesn't mean that $1,000 in 1980 money = $50 in today's money, or else the car they bought that year would today cost $500 to buy new. So VCRs are an example where the good has gotten less valuable, rather than money getting dramatically more valuable.)
posted by katemonster at 12:11 PM on February 4 [1 favorite]

Pick your point of reference.

1. How long do you need to work to buy a BOB? If you need to work an hour in the first case and 2.3 hours in the second case, then the BOB has gotten more expensive relative to your wages. For most people, this is probably the most relevant point of reference.

2. If you can buy a BOB for $10 or ¥10,000 in the first case, and in the second case it costs $23, but over in Japan it still only costs ¥10,000, then the currency has gotten weaker.

3. Price relative to other goods in the same economy, as suggested already.

Obviously all this stuff gets tangled up, since most finished goods are the products of numerous labor and material inputs, some possibly imported.
posted by adamrice at 12:14 PM on February 4

You've created a two good economy, with only buckets of bolts and dollars as your two goods. In what you described, the bucket of bolts has become relatively more valuable than dollars.

In a more general context, you'll need to compare your bucket of bolts (and your dollars) to other goods/services. Maybe you traded a bucket of bolts for 3 brooms at the beginning of the period, and can still trade it for 3 brooms at the end. In this case, the dollars are worth less than they had been before, whereas the other goods haven't changed relative to each other. This would typically be called inflation, where the dollar amounts have increased, but the "real" goods have not changed in relative price.

Maybe, at end of the period, you could trade the bucket for 9 brooms. In this case, the bolts/dollars comparison shows that dollars are worth less than before, but brooms have declined relative to bolts even more (and, consequentially, dollars are relatively more valuable than brooms). You can extend this further out to include more goods (and services, say, your labor, which was priced at $10/hour before, etc.)

The changes in relative value may be due to any number of reasons. Say, a fire devastates the bolt factory and the local government prohibits the import of bolts from Canada. In this case, bolts may be in high demand, and the relative price of bolts may increase compared to dollars, and, say, San Francisco 49er Superbowl Champion t-shirts. This would be a supply shock. Alternatively, a rumor goes around about a magic bolt that will grant wishes causes a demand shock. In either case, the price of bolts will go up.
posted by chengjih at 12:42 PM on February 4 [1 favorite]

If you want to know more about the "market basket" approach to figuring out how much money is worth, you might start with the Wikipedia entry for the Consumer Price Index. It's a neat problem to try figure out what stuff on average costs -- for example, do you compare the price of an iPod to the price of a record player and say that things cost more now? Fun stuff.

But what might be more helpful is why we care whether the price has changed on its own, or has changed along with everything else:

Let's say you were paying $3 a gallon for gas in 2000, and now you're paying $6. Is that a problem? Well, it depends how much you're making. If you're getting paid twice as much for the same work, it's no problem at all. If you haven't had a raise in ten years, it's a big problem.

Now let's say you're a supermarket chain and your trucks cost twice as much to run because of gas prices. Is that a problem? Well, it's a big problem if the prices you can charge for food haven't changed in the last ten years. But if you can charge twice as much for food (because people are being paid twice as much for their work), it's no problem at all.

Now let's say you're a restaurant, and supermarkets are charging twice as much for the ingredients you buy to serve to your customers. Is that a problem? If your customers are willing to pay twice as much for a meal, it's no problem. Otherwise it's a big problem ...

See where this is going? If all the prices double at the same time, nothing has actually changed. But if just one price changes (say, because gas just costs more to get out of the ground than it used to), then there will be a huge adjustment while people try to use less gas and raise their prices for things that use a lot of gas (or ask their boss for a raise), and the effects ripple out through the economy.

What tends to happen is that both kinds of change are happening at the same time. The prices for everything are gradually changing in lockstep, because they're all joined together: slightly more expensive gas causes slightly more expensive food causes slightly more expensive restaurants causes people who ask for slightly higher wages causes slightly more expensive bolt production causes a slightly more expensive bucket of bolts causes slightly more expensive tanker trucks causes slightly more expensive gas .... But at the same time people are always looking for a cheaper way to make bolts or a way to make better bolts, and whenever they find one the price of bolts goes down or up in relation to everything else.

So the answer to your question is, it's probably both at the same time. Which is the best answer to any question.
posted by jhc at 1:01 PM on February 4

I hesitate to add to the existing answers, but I don't think any of the previous responses were both clear and complete.

So:

1) The price of a good is simply how much a good costs. In the example, the price increased from $10 to $23.

2) "Worth" is not an economic term. Economists would probably use "utility" or "willingness to pay," which varies depending on the situation and individual. If you are very thirsty, you might be willing to pay $10 for a glass of water, but fortunately the price is generally much lower.

3) If the item is worth less to you than its price, you won't buy it. If it's worth more, you will.

4) As explained by others, if the only thing you can buy with your money is bolts, then the value of money has declined and is only worth 10/23 of its previous value.

5) In reality, people buy a lot of things. Price inflation (in the United States, frequently measured by growth in the consumer price index) is measured by taking the growth in prices of a "basket" of all the things that people buy.

Extra credit:
- This assumes that you're buying the same bolts. But maybe the new bolts are made of a different kind of metal, in which case you'd have to account for the increase in quality. (For example, the price of a typical heart surgery is much higher than it was in 1960. But you're a lot more likely to survive. It's entirely possible that the quality-adjusted price of heart surgery has declined.)
posted by Mr.Know-it-some at 1:31 PM on February 4 [1 favorite]

Check out the Cartoon Guide to Economics. I have it and it clarifies this stuff for the layperson and isn't too annoying.
posted by windykites at 2:52 PM on February 4