Man, Economy, and State Study Guide Answers Ch. 4

Ch. 4 – Prices and Consumption

  1. What is the significance of the fact that the “number of markets needed is immeasurably reduced” in a money economy? (pp. 233-35)A.  In a direct exchange economy (a hypothetical concept), each good has a price in terms of each and every other good on the market.  When one asks, what is the price of a horse, it begs the question, “In terms of what?”  When a commodity comes into “general use” (not a specifically definable time, see pg. 193), each good has a money price.  Goods relative values to each other can then be quickly estimated by referring to each’s money price.
  2. Why doesn’t every good have a purchasing power that consists of an array, i.e., what is so special about the money commodity? (pp. 236-37)A.  Money is the only good on the market that still possesses a nearly infinite array of prices in terms of each other good.  This was true of all goods in a barter economy, but when money emerged, these arrays were replaced with an individual money price for every good.
  3. What does it mean to “sell” money? To “buy” money?A.  To sell money is simply to exchange it for another marketable good.  This could be a consumer good, producers good, a labor service, or anything else.  To buy money is to exchange a good for money.  If one sells labor or a good on the market for a money price, one has bought money.
  4. Why do individuals hold cash balances? (pp. 264-65)A.  Individuals hold cash balances for multiple reasons, all of which stem from the concept of uncertainty.  Uncertainty is fundamental aspect of human action.  Typically, individuals will hedge against this uncertainty by holding a cash balance for emergencies, because they expect the purchasing power of money to increase, or to accommodate changing preferences in the future.
  5. Why does Rothbard argue that buying more eggs will make the marginal utility of butter increase? (p. 266)A.  As one spends more and more money on eggs, the marginal utility of each quantity of money increases.  The marginal utility of eggs decreases.  In essence, the individual is proceeding down their own value scale.  Eventually the first unit of butter will out rank the nth unit eggs.  This is why the marginal utility of the butter is said to increase as one buys more eggs.
  6. Are money prices a measuring rod of subjective value?A.  Money prices are not a measuring rod of subjective value.  One of the most important insights into economics by the Austrians is that utility is ordinal, rather than cardinal.  A goods utility can only be ranked, subjectively, in the mind of an individual, in comparison with other goods.  These utilities cannot be ranked between individuals and they cannot be quantified.
  7. Why did economists before Mises find difficulty with a marginal utility explanation of money demand? (p. 268)A.  The problem with a marginal utility explanation of money demanded is that both sides of the exchange depend on money prices in order to make their valuations.  The price of a good depends on individual demand schedules, which rely on subjective value rankings, which are determined by each good’s alternative uses, which are explained by the money prices that can be obtained by each good.  On the other side, a hypothetical demand for a good to buy with money assumes money prices in the first place.  This was seen as circular reasoning.  Mises theorem of money regression solves this problem by reasoning that money prices are determined by recent money prices from the past, ad infinitum, until the money economy ceased to be one and was a barter economy, and the commodity called money had value independent than that of being a medium of exchange.
  8. How does Mises’s money regression apply to fiat money?A:  Rothbard is careful to make the distinction that once a good becomes money, even if it loses its use value, the regression theorem still applies.  On the other hand, he is also careful to point out that money must come about first as a good with demand for direct use.  Mises’ regression applies to purely fiat money in this way:  money prices are determined by past money prices again and again, but there is nowhere to trace back to when fiat money had demand for direct use.  Therefore, its value is solely determined by its present demand as a medium of exchange.  Now venturing into speculation, this is a possible explanation of why the State consistently takes a monopoly of money production.  If only the State authorized fiat money can be legally used in an exchange, this stabilizes (so to speak) a nominally unstable currency.
  9. Can an individual really know the true cost of an action, even ex post? (p.277)A:  I find Murphy’s question unclear.  I do not think that an individual can truly know the true “cost” of an action.  Based on Rothbard’s description of the ex ante/ex post phenomenon, an individual can only decide if his or her psychic revenue has increased as a result of action.  This determination can further be used to inform future decisions.
  10. Does the diminishing marginal utility of money prove that a progressive income tax would increase total social utility?  (p. 302)A:  Since all valuations are subjective, it does not follow from the theory of diminishing marginal utility of money that a progressive income tax would increase total social utility.  As previously explained, social utility is a dubious concept because, since utility is ordinal rather than cardinal, it cannot be quantified and added together, especially between different individuals.
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