From the Economist: Economics focus / The new (improved) Gilded Age

[Guy Berger]

Economics focus

The new (improved) Gilded Age

Dec 19th 2007

From The Economist print edition

The very rich are not that different from you and me; or less different, perhaps, than they used to be

Illustration by Jac

IN 1904 Willie Vanderbilt hit a thrilling 92.3 mph (147.7 kph) in his new German motorcar, smashing the land-speed record. His older brother's sprawling North Carolina manse, Biltmore, could accommodate up to 500 pounds of meat in its electrical refrigerators. In miserable contrast, the below-average Gilded Age American had to make do with a pair of shoes and a melting block of ice. If he could somehow save enough for an icebox, a day's wage would not have bought a pound of meat to put in it. Paul Krugman, of Princeton University, has recently argued* that contemporary America's widening income gap is ushering in a new age of invidious inequalities. But a peek at the numbers behind the numbers suggests that Mr Krugman has been misled: far from a new Gilded Age, America is experiencing a period of unprecedented material equality.

This is not to deny that income inequality is rising: it is. But measures of income inequality are misleading because an individual's income is, at best, a rough proxy for his or her real economic wellbeing. Because we can save, draw down savings, or run up debt, our income may tell us little about how we're faring. Consumption surveys, which track what people actually spend, sketch a more lifelike portrait of the material quality of life. According to one 2006 study**, by Dirk Krueger of the University of Pennsylvania and Fabrizio Perri of New York University, consumption inequality has barely budged for several decades, despite a sharp upswing in income inequality.

But consumption numbers, too, conceal as much as they illuminate. They can record only that we have spent, but not the value—the pleasure or health—gained in the spending. A stable trend in nominal consumption inequality can mask a narrowing of real or “utility-adjusted” consumption inequality. Indeed, according to happiness researchers, inequality in self-reported “life satisfaction” has been shrinking in wealthy market democracies, America included, suggesting that the quality of lives across the income scale are becoming more similar, not less.

You can see this levelling at work in markets for transport and appliances. You no longer need be a Vanderbilt to own a refrigerator or a car. Refrigerators are now all but universal in America, even though refrigerator inequality continues to grow. The Sub-Zero PRO 48, which the manufacturer calls “a monument to food preservation”, costs about $11,000, compared with a paltry $350 for the IKEA Energisk B18 W. The lived difference, however, is rather smaller than that between having fresh meat and milk and having none. Similarly, more than 70% of Americans under the official poverty line own at least one car. And the distance between driving a used Hyundai Elantra and a new Jaguar XJ is well nigh undetectable compared with the difference between motoring and hiking through the muck. The vast spread of prices often distracts from a narrowing range of experience.

Save money. Live better

This compression is not a thing of the past. To take one recent example, Jerry Hausman of the Massachusetts Institute of Technology and Ephraim Leibtag of the United States Department of Agriculture, show† that Wal-Mart's move into the grocery business has lowered food prices. Because the poorest spend the largest part of their budget on food, lower prices have benefited them most. The official statistics do not capture these gains.

As a rule, when the prices of food, clothing and basic modern conveniences drop relative to the price of luxury goods, real consumption inequality drops. But the point is not that in America the relatively poor suffer no painful indignities, which would be absurd. It is that, over time, the everyday experience of consumption among the less fortunate has become in many ways more similar to that of their wealthier compatriots. A widescreen plasma television is lovely, but you do not need one to laugh at “Shrek”.

This compression is the predictable consequence of innovations in production and distribution that have improved the quality of goods at the lower range of prices faster than at the top. New technologies and knock-off fashions now spread down the price scale too fast to distinguish the rich from the aspiring for long.

This increasing equality in real consumption mirrors a dramatic narrowing of other inequalities between rich and poor, such as the inequalities in height, life expectancy and leisure. William Robert Fogel, a Nobel prize-winning economic historian, argues†† that nominal measures of economic well-being often miss such huge changes in the conditions of life. “In every measure that we have bearing on the standard of living...the gains of the lower classes have been far greater than those experienced by the population as a whole,” Mr Fogel observes.

Some worrying inequalities, such as the access to a good education, may indeed be widening, arresting economic mobility for the least fortunate and exacerbating income-inequality trends. Yet even if you care about those aspects of income inequality, the idea can send misleading signals about the underlying trends in real consumption and the real quality of life. Contrary to Mr Krugman's implications, today's Gilded Age income gaps do not imply Gilded Age lifestyle gaps. On the contrary, those intrepid souls who make vast fortunes turning out ever higher-quality goods at ever lower prices widen the income gap while reducing the differences that matter most.

*“The Conscience of a Liberal” by Paul Krugman. W.W. Norton, 2007.

**“Does Income Inequality Lead to Consumption Inequality? Evidence and Theory” by Dirk Krueger and Fabrizio Perri. Review of Economic Studies, 2006.

†“Consumer Benefits from Increased Competition in Shopping Outlets: Measuring the Effect of Wal-Mart” by Jerry Hausman and Ephraim Leibtag. Journal of Applied Econometrics, forthcoming.

††“The Escape from Hunger and Premature Death, 1700-2100” by Robert William Fogel. Cambridge University Press, 2004.

[The Magnificent Goldberg]

I smell a slight rat.

I had a butch at the Amazon write-ups of the Krugman book. Haven't read the book itself, though it might not be a bad idea. Nothing in the write-ups, or indeed in this article, suggests that Krugman's focus is welfare. The other articles referred to definitely focus on welfare. And they make a decent argument about narrowing welfare inequalities. I am pretty sure that most people realise that, once a certain level of income is reached, addidtional income brings no, or the most tenuous, welfare benefits. What is the welfare benefit in having two yatchs rather than one? The point about earning big money is not to live large. It is first, to keep the score, to show how good a player one is. And second, it is a measure, and the instrument, of power.

So why associate Krugman's book with these others? Got to say, of course, that the Economist is on the side of people who make a lot of money; people who don't, don't buy the economist (though, like me, they might read bits - thanks once again, Guy ) There's a clear suggestion here that the arguments showing narrowing welfare differences are a counter to Krugman's complaints about income inequality; even though it doesn't seem that he's arguing a welfare point.

It seems to me that income inequality, of the grosser sort, is not bad because of welfare issues but for other reasons.

The larger the proportion of national earnings that falls into the pockets of a small group of very rich people, the greater the proportion of national income that is going to be spent on luxuries (with a negligible, or non-existent, welfare benefit. While any spending will give rise to employment and enable some people to go to Walmart very week, luxury spending is very easily cut, should there be an economic shock; it's inherently unreliable. So the greater the income inequality, the greater the proportion of the economy that is reliant on inherently unreliable spending.

Of course, this is mitigated to some extent by the fact that a lot of this spending is abroad (particularly, though not exclusively, in the form of investment). The economy isn't relying on the whole of this unreliable spending. One can look at that situation as denying America (or Europe) the use of that earning power. Africa presented, and continues to present, extreme examples of the super rich (heads of state usually) whose spending did and does nothing whatever for the people of those countries. America and Europe have not reached such extremes - and maybe won't. But do we have to reach such extremes before we notice what's happening?

MG

[Chas]

More transparently plutocratic apologetics from The Economist .

Their argument that income inequality doesn't matter absent any concomitant inequality in subjective economic wellbeing , is unconvincing . To argue that a focus on subjectively-measured consumption instead of income gives us a better picture of relative economic wellbeing ignores the extent to which so much present day consumption is debt-fueled . Against a backdrop of stagnant real wages , as debt loads and debt service increase , the ability to consume in the future is diminished , meaning that a focus on present consumption overstates economic wellbeing . Additionally , even if Americans' ability to purchase whizzy new electronics or appliances whose costs have been deflated by globalization makes them better off with respect to the richest consumers in their own country , they might still collectively have lower life satisfaction than economically poorer countries with more equitable income distributions . The article glosses over the very real growth in inequality of access to arguably the two most important bulwarks of economic wellbeing , namely higher education and health . It also ignores the disproportionate effects of food and energy inflation on economic wellbeing . The claim is made that food prices are not rising because of Wal-Mart's entry into the grocery business , yet official measures show prices rising rather dramatically . To the extent that Wal-Mart have not passed through the price increases , this is because they are still in the process of using food as a loss-leader to gain market share against existing grocery chains . It is completely indefensible ( if revealing ) for The Economist to ignore the impact of wealth inequality as opposed to income inequality on wellbeing . What kind of wellbeing can one have if one doesn't have the security that wealth affords against twists of fate such as job loss or other interruptions of income or catastrophic illness ? The inequality in wealth is far greater than the inequality in income and it too is growing rapidly . This grossly maldistributed wealth also has political ramifications , such that if one feels that wellbeing includes some democratic civic component as well , then one will be further inclined to see that Economist piece for the apologia it is .

[J Larsen]

It is completely indefensible ( if revealing ) for The Economist to ignore the impact of wealth inequality as opposed to income inequality on wellbeing . What kind of wellbeing can one have if one doesn't have the security that wealth affords against twists of fate such as job loss or other interruptions of income or catastrophic illness ?

While I do not share your general antipathy for The Economist, I thought this article missed the mark, largely for the reason you described above.

[Guy Berger]

Their argument that income inequality doesn't matter absent any concomitant inequality in subjective economic wellbeing , is unconvincing . To argue that a focus on subjectively-measured consumption instead of income gives us a better picture of relative economic wellbeing ignores the extent to which so much present day consumption is debt-fueled .

A few things:

1) Consumption isn't necessarily subjectively-measured -- it's an economic statistic like income.

2) In principle, consumption is a better measure than income because people derive their welfare from what they consume, not from what they earn. It can also take into account that the basket of available goods isn't staying static over time.

3) That said, you are 100% correct that any sort of snapshot, static number will give at best an imperfect sense of economic well-being -- we care about the "stream" of consumption, not just consumption at any point in time.

4) Debt-fueled consumption is not necessarily a problem.

The article itself -- well, I think it is fundamentally right that in strictly economic terms "material" inequality is much lower now than it was 150, 100, 50 years ago. I don't think this is the only important measure of inequality, but I do think it is important.

Unlike MG expenditure on "unproductive" consumption doesn't really bother me.

Against a backdrop of stagnant real wages , as debt loads and debt service increase , the ability to consume in the future is diminished , meaning that a focus on present consumption overstates economic wellbeing . Additionally , even if Americans' ability to purchase whizzy new electronics or appliances whose costs have been deflated by globalization makes them better off with respect to the richest consumers in their own country , they might still collectively have lower life satisfaction than economically poorer countries with more equitable income distributions . The article glosses over the very real growth in inequality of access to arguably the two most important bulwarks of economic wellbeing , namely higher education and health . It also ignores the disproportionate effects of food and energy inflation on economic wellbeing . The claim is made that food prices are not rising because of Wal-Mart's entry into the grocery business , yet official measures show prices rising rather dramatically . To the extent that Wal-Mart have not passed through the price increases , this is because they are still in the process of using food as a loss-leader to gain market share against existing grocery chains . It is completely indefensible ( if revealing ) for The Economist to ignore the impact of wealth inequality as opposed to income inequality on wellbeing . What kind of wellbeing can one have if one doesn't have the security that wealth affords against twists of fate such as job loss or other interruptions of income or catastrophic illness ? The inequality in wealth is far greater than the inequality in income and it too is growing rapidly . This grossly maldistributed wealth also has political ramifications , such that if one feels that wellbeing includes some democratic civic component as well , then one will be further inclined to see that Economist piece for the apologia it is .

[Guy Berger]

One thing to add -- Chas is 100% right that any consideration of welfare measures which disregards risk/volatility is highly flawed. If the median household now has superior consumption on average, but the distribution of possible consumption levels for that household is much wider, they could be worse off.

Guy

[The Magnificent Goldberg]

Unlike MG expenditure on "unproductive" consumption doesn't really bother me.

I don't think I said anything about consumption being unproductive. Greater expenditure meets diminishing returns in terms of its welfare effect (this is what the Economist article correctly argues) and therefore can be avoided without serious welfare loss when there is a crisis; so it's unreliable and therefore contributes to instability.

MG

[J Larsen]

I'm still with Chas on this one (assuming I understand Chas correctly, and I have to admit I've misunderstood him in the past).

I'm coming at this one from personal experience. I grew up about as poor as one can be in America without being homeless - welfare checks and food stamps were our primary source of income. That said, we had a four room apartment, TV, VCR (it was 1990 by the time we had one, but still, we had one), I had my own stereo, etc.

I'm 14 years into my adult life now. I have been affluent for about three years, by which I mean I have an income that would make the overwhelming majority of the population envious. I am absolutley happier now, but it has nothing to do with the fact that my stereo, TV, apartment, etc are "high class." In that sense The Economist is correct. I derive my "excess happiness" from the fact that I am no longer stressed out about what might happen if things go just a little wrong. I am competely coinfident that I can withstand economic shocks now - in fact I withstood one earlier this year when I missed a significant amount of time at work because I needed to undergo a series of breathtakingly expensive medical procedures. Simply put, I am no longer worried about the future, short term or long term. With all due respect to anyone who may be reading this, I don't think that anyone who has never been truly poor is in any position to judge the value in that.

[The Magnificent Goldberg]

I think you're right there. The first ten years after I left school were like that. I really appreciated the rest of my life

MG

[Jazzmoose]

http://www.newsweek.com/id/81808 Yeah, consumption is the real measure. Uh huh.

[The Magnificent Goldberg]

http://www.newsweek.com/id/81808 Yeah, consumption is the real measure. Uh huh.

Happy Christmas! It's the same over here. I posted something a couple of weeks ago reporting that something like 14% of British families haven't yet paid off last Christmas' Credit Card splurge.

Madness! But you have to wonder what the western economies would be like were it not for all this easy credit of the past 25 or so years, given that we're a consumer society.

MG

[Guy Berger]

Unlike MG expenditure on "unproductive" consumption doesn't really bother me.

I don't think I said anything about consumption being unproductive. Greater expenditure meets diminishing returns in terms of its welfare effect (this is what the Economist article correctly argues) and therefore can be avoided without serious welfare loss when there is a crisis; so it's unreliable and therefore contributes to instability.

MG

OK, won't disagree with anything you just said -- I misunderstood. Apologies.

Guy

[Guy Berger]

I'm still with Chas on this one (assuming I understand Chas correctly, and I have to admit I've misunderstood him in the past).

I'm coming at this one from personal experience. I grew up about as poor as one can be in America without being homeless - welfare checks and food stamps were our primary source of income. That said, we had a four room apartment, TV, VCR (it was 1990 by the time we had one, but still, we had one), I had my own stereo, etc.

I'm 14 years into my adult life now. I have been affluent for about three years, by which I mean I have an income that would make the overwhelming majority of the population envious. I am absolutley happier now, but it has nothing to do with the fact that my stereo, TV, apartment, etc are "high class." In that sense The Economist is correct. I derive my "excess happiness" from the fact that I am no longer stressed out about what might happen if things go just a little wrong. I am competely coinfident that I can withstand economic shocks now - in fact I withstood one earlier this year when I missed a significant amount of time at work because I needed to undergo a series of breathtakingly expensive medical procedures. Simply put, I am no longer worried about the future, short term or long term. With all due respect to anyone who may be reading this, I don't think that anyone who has never been truly poor is in any position to judge the value in that.

OK -- I don't think this contests the main thrust of the article, which is that in material terms inequality in this country is much lower than it was during the Gilded Age. Being poor in this country is tough, and "things aren't as bad as they were 100 years ago" would be a laughable excuse to avoid anti-poverty policy.

Guy

[The Magnificent Goldberg]

What period to Americans regard as "the gilded age"?

MG

[J Larsen]

Late 19th century.

I actually do think that I disagree with the main thrust of the article. The article states that "the differences that matter most" relate to material inequality. I agree that material inequality is diminishing, but I regard these as the least important differencies. If the point of the article is that the least important differences are decreasing, then there really isn't much of a thrust to the argument at all.

[The Magnificent Goldberg]

Late 19th century.

I actually do think that I disagree with the main thrust of the article. The article states that "the differences that matter most" relate to material inequality. I agree that material inequality is diminishing, but I regard these as the least important differencies. If the point of the article is that the least important differences are decreasing, then there really isn't much of a thrust to the argument at all.

I agree with you utterly. Power, security and access (to education and healthcare, but also to an inner circle of enormously influential and powerful contacts) are enormously important differences which are NOT diminishing at all - in fact growing.

MG

[Chas]

4) Debt-fueled consumption is not necessarily a problem.

Debt-fueled consumption or consumption untethered from income or personal savings , is financially ruinous both individually and collectively . On an individual level , it is axiomatic that borrowing only makes economic sense if the borrowing is used to earn a return greater than the cost of borrowing . As there is no return on consumption , debt-enabled consumption today is purchased at the cost of reduced consumption and a reduced standard of living in the future . Collectively , debt-based consumption results in a grievous misallocation of savings away from economically productive investment of the kind needed to ensure future income growth and consumption .

Substituting 'credit-fueled' for 'debt-fueled' in 'Debt-fueled consumption is not necessarily a problem' doesn't change anything either , for while the statement is true strictly speaking ( since grace periods allow disciplined consumers to avoid turning credit-based consumption into financed consumption ) , there would be no consumer credit industry if credit-based consumption didn't in practice become debt-based consumption .

[The Magnificent Goldberg]

4) Debt-fueled consumption is not necessarily a problem.

Debt-fueled consumption or consumption untethered from income or personal savings , is financially ruinous both individually and collectively . On an individual level , it is axiomatic that borrowing only makes economic sense if the borrowing is used to earn a return greater than the cost of borrowing . As there is no return on consumption , debt-enabled consumption today is purchased at the cost of reduced consumption and a reduced standard of living in the future . Collectively , debt-based consumption results in a grievous misallocation of savings away from economically productive investment of the kind needed to ensure future income growth and consumption .

Substituting 'credit-fueled' for 'debt-fueled' in 'Debt-fueled consumption is not necessarily a problem' doesn't change anything either , for while the statement is true strictly speaking ( since grace periods allow disciplined consumers to avoid turning credit-based consumption into financed consumption ) , there would be no consumer credit industry if credit-based consumption didn't in practice become debt-based consumption .

It looks like you're answering the question I posed on Christmas Day

But you have to wonder what the western economies would be like were it not for all this easy credit of the past 25 or so years, given that we're a consumer society.

And it looks like you're saying that the consumer debt business is diverting resources away from more productive uses so that, had there not been a relaxation of credit restrictions in the early eighties, our economies would be better off than they are now, because they'd be able to produce more. But the paradox is that, without the easy credit, that production couldn't be sold, and so wouldn't be produced anyway.

MG

[Jazzmoose]

Maybe I just don't understand the issues, but it seems to me that easy credit helps everyone except the recipient. Not in all cases, of course, but the people who can manage the credit properly could get credit even if things were tightened up. But the more people who are eligible for credit, the more 'fringe cases' you get, and those are the ones who are hurt in the long run. In the meantime, everyone's making money off of them, though, so who cares?

Edited December 29, 2007 by Jazzmoose

[The Magnificent Goldberg]

Maybe I just don't understand the issues, but it seems to me that easy credit helps everyone except the recipient. Not in all cases, of course, but the people who can manage the credit properly could get credit even if things were tightened up. But the more people who are eligible for credit, the more 'fringe cases' you get, and those are the ones who are hurt in the long run. In the meantime, everyone's making money off of them, though, so who cares?

I'm not certain that's true - Guy posted something interesting a few weeks ago that seemed to show that many poor people in South Africa were better off if they could get credit - even if they were paying enormous interest rates for it - than if they couldn't. This is VERY counter-intuitive.

Of course, it seems they'd be even better off if they could get credit at a reasonable price, but that would be to ignore the risk factor which is evidently high in such cases.

I think, with credit, it's not the ease of getting it, or the price in interest rate terms that matters; it's whether the debtor actually understands what he/she is getting into. I think a lot don't.

MG

[Jazzmoose]

You're right, of course. And your last sentence does state the problem well, I think.

[Guy Berger]

4) Debt-fueled consumption is not necessarily a problem.

Debt-fueled consumption or consumption untethered from income or personal savings , is financially ruinous both individually and collectively . On an individual level , it is axiomatic that borrowing only makes economic sense if the borrowing is used to earn a return greater than the cost of borrowing . As there is no return on consumption , debt-enabled consumption today is purchased at the cost of reduced consumption and a reduced standard of living in the future . Collectively , debt-based consumption results in a grievous misallocation of savings away from economically productive investment of the kind needed to ensure future income growth and consumption .

Substituting 'credit-fueled' for 'debt-fueled' in 'Debt-fueled consumption is not necessarily a problem' doesn't change anything either , for while the statement is true strictly speaking ( since grace periods allow disciplined consumers to avoid turning credit-based consumption into financed consumption ) , there would be no consumer credit industry if credit-based consumption didn't in practice become debt-based consumption .

It looks like you're answering the question I posed on Christmas Day

But you have to wonder what the western economies would be like were it not for all this easy credit of the past 25 or so years, given that we're a consumer society.

And it looks like you're saying that the consumer debt business is diverting resources away from more productive uses so that, had there not been a relaxation of credit restrictions in the early eighties, our economies would be better off than they are now, because they'd be able to produce more. But the paradox is that, without the easy credit, that production couldn't be sold, and so wouldn't be produced anyway.

MG

Well, we'd probably be able to consume more today, but at the cost of consuming less yesterday. But that's just stating a tradeoff, not an argument in favor of reallocating consumption to/from the future (which is what saving really is).

Guy

[Guy Berger]

4) Debt-fueled consumption is not necessarily a problem.

Debt-fueled consumption or consumption untethered from income or personal savings , is financially ruinous both individually and collectively . On an individual level , it is axiomatic that borrowing only makes economic sense if the borrowing is used to earn a return greater than the cost of borrowing . As there is no return on consumption , debt-enabled consumption today is purchased at the cost of reduced consumption and a reduced standard of living in the future . Collectively , debt-based consumption results in a grievous misallocation of savings away from economically productive investment of the kind needed to ensure future income growth and consumption .

This is simply not true. The reason we produce stuff is to generate consumption, either now (current consumption) or in the future (investment => capacity for future consumption). The idea that there is "no return on consumption" is false, as any of us listening to a jazz CD, eating a tasty hamburger or watching an episode of Seinfeld will attest to. When an individual chooses to save (or not save), they are comparing the worth of consuming that marginal dollar now vs the worth of consuming the returns from investing it.

I'll agree that consumption-oriented borrowing which is completely untethered from one's future income stream is a problem... but aside from that, individuals are just making a decision on how to reallocate consumption over time. It's not irrational to forgo future consumption for current consumption (which we all do every day), or to choose a lower standard of living in the future in order to achieve a higher standard of living today.

Guy

[Chas]

The idea that there is "no return on consumption" is false, as any of us listening to a jazz CD, eating a tasty hamburger or watching an episode of Seinfeld will attest to.

This is disingenuous . You know very well that I was speaking of an economic return of the kind that could justify borrowing .

It looks like you're answering the question I posed on Christmas Day . And it looks like you're saying that the consumer debt business is diverting resources away from more productive uses so that, had there not been a relaxation of credit restrictions in the early eighties, our economies would be better off than they are now, because they'd be able to produce more. But the paradox is that, without the easy credit, that production couldn't be sold, and so wouldn't be produced anyway.

Well, we'd probably be able to consume more today, but at the cost of consuming less yesterday. But that's just stating a tradeoff, not an argument in favor of reallocating consumption to/from the future (which is what saving really is).....When an individual chooses to save (or not save), they are comparing the worth of consuming that marginal dollar now vs the worth of consuming the returns from investing it...... It's not irrational to forgo future consumption for current consumption (which we all do every day), or to choose a lower standard of living in the future in order to achieve a higher standard of living today.

To say that this is , "just stating a tradeoff" implies that it is just a temporal preference when it is not . The cost of consuming less yesterday is not equivalent to the benefit of consuming more today . A dollar of past consumption forgone , can be worth two dollars of future consumption , meaning we ( both individually and collectively ) are better off overall when we don't seek to maximize current consumption . Thus it is irrational to forgo future consumption for current consumption when doing so leads to less consumption over a lifetime . It is all the more irrational to borrow to effect this temporal redistribution of consumption , since doing so further reduces the overall level of consumption .

I find it difficult to square your objection to my latest post with your approval of my earlier post which made the same point :

That said, you are 100% correct that any sort of snapshot, static number will give at best an imperfect sense of economic well-being -- we care about the "stream" of consumption, not just consumption at any point in time.

[Guy Berger]

The idea that there is "no return on consumption" is false, as any of us listening to a jazz CD, eating a tasty hamburger or watching an episode of Seinfeld will attest to.

This is disingenuous . You know very well that I was speaking of an economic return of the kind that could justify borrowing .

Return from consumption IS an economic return.

It looks like you're answering the question I posed on Christmas Day . And it looks like you're saying that the consumer debt business is diverting resources away from more productive uses so that, had there not been a relaxation of credit restrictions in the early eighties, our economies would be better off than they are now, because they'd be able to produce more. But the paradox is that, without the easy credit, that production couldn't be sold, and so wouldn't be produced anyway.

Well, we'd probably be able to consume more today, but at the cost of consuming less yesterday. But that's just stating a tradeoff, not an argument in favor of reallocating consumption to/from the future (which is what saving really is).....When an individual chooses to save (or not save), they are comparing the worth of consuming that marginal dollar now vs the worth of consuming the returns from investing it...... It's not irrational to forgo future consumption for current consumption (which we all do every day), or to choose a lower standard of living in the future in order to achieve a higher standard of living today.

To say that this is , "just stating a tradeoff" implies that it is just a temporal preference when it is not .

But of course it is. Given the choice between $1 today and $1.10 next year (let's assume a very optimistic risk-free rate of return), the decision rests on temporal preference. Some people would prefer to consume that dollar today, others the $1.10 in a year. There's nothing that inherently favors one over the other.

The cost of consuming less yesterday is not equivalent to the benefit of consuming more today .

Agreed, a dollar today is more valuable than a dollar tomorrow.

A dollar of past consumption forgone , can be worth two dollars of future consumption , meaning we ( both individually and collectively ) are better off overall when we don't seek to maximize current consumption .

Well, the point that it is irrational to starve oneself to death tomorrow in order to maximize current consumption -- I can't disagree with that. But we are not discussing that straw man.

It's trivially true that as long as there are investments that offer positive risk-free rates of return, we'll be better off tomorrow by reducing current consumption -- but at the cost of being less well-off today. Whether the trade-off makes sense depends on personal preferences.

People make this decision all the time. Surely not all of us are living in cardboard huts and subsisting on ramen in order to spend the last two years of our lives in a huge orgy of consumption.

Thus it is irrational to forgo future consumption for current consumption when doing so leads to less consumption over a lifetime .

Again, not true. Excepting those living in cardboard huts and subsisting on ramen in order finance the end-of-life consumption orgy, every single person you meet could increase lifetime total consumption by switching to the hut+cardboard lifestyle. This is a trivial point as long as there are investment opportunities that over positive risk-free rates of return.

It is all the more irrational to borrow to effect this temporal redistribution of consumption , since doing so further reduces the overall level of consumption .

I find it difficult to square your objection to my latest post with your approval of my earlier post which made the same point :

That said, you are 100% correct that any sort of snapshot, static number will give at best an imperfect sense of economic well-being -- we care about the "stream" of consumption, not just consumption at any point in time.

The two are perfectly consistent. To the person making their decisions, the consumption stream from t=now to t=death is what matters -- but the shape of that stream will vary according from person to person.

Guy

Edited January 3, 2008 by Guy