The concepts of wealth, money and happiness are often treated as interchangeable when in fact they are separate but related concepts. Many people think that since there is a finite amount of wealth in the world, for one man to become richer he must immiserate another. Where does money come from, and how does it end up in our pockets and bank accounts? Let’s define all three concepts, see how they are related, and then decide whether there truly is only fixed amount of them.
Let’s begin with “wealth”. Wealth is an accumulation of resources, tangible or intangible. A person’s wealth includes their land, possessions, as well as intangible assets like personal relationships and skills.
“Money” is but a type of wealth. Economists usually consider all risk-free highly liquid resources to be money, so dollar bills in a wallet, deposits in a bank account, and debt instruments with original maturities of less than 90 days are also considered money.
“Happiness” – a concept economists call “utility” – depends on a person’s subjective valuation of their wealth, rather than a uniform objective valuation. For example, someone who owns a mansion in Norway might have lower utility than someone with a shack on the beach in Australia if they both enjoy surfing.
These concepts are all related: How much money a good or service (“wealth”) is worth depends on supply and demand, with demand being a function of utility. An extremely rare piece of art will have a price of 0 if no one wants it (i.e. no one derives utility from it).
Now – is there a fixed amount of wealth? Because goods and services are constantly being generated from business processes, it seems clear that our accumulation of resources is not a 0-sum game.
Is there a fixed amount of happiness? In other words, does any economic transaction necessarily enrich one person and impoverish another? Assuming no government intervention, which two parties agree to a transaction they must both believe they are better off undertaking the transaction than doing nothing. When I sell you a couch for $100, I would prefer the money to keeping the couch, and you would prefer to part with $100 a gain a couch than to keep your $100. Therefore, our respective level of utility must have risen. Assuming no externalities, aggregate utility (or happiness), has increased.
Someone unfamiliar with economics might think that there is a fixed amount of money. Since 1949, in Canada the money supply has been controlled exclusively by the Bank of Canada, which has an independent parliamentary charter to make decisions at arm’s length from parliamentary supervision. Economists measure the total amount of money in the economy in various ways. First, there are the actual number of bills and coins in circulation (called “M0”). Add to that the amounts held in demand accounts (chequing and current accounts) to obtain M1. M2 is M1 + savings accounts, money market accounts, and certificates of deposit.
There is virtually no risk that M2 accounts held by a person will not be convertible to M0. Therefore we consider M2 (and consequently M1) to be money in the same way that physical cash is money. Note that the entire M0 supply (using American figures to approximate Canadian ones) is only about $2500 per person, and even M2 is only $23000 per person.
The Canadian Dollar is fiat currency, meaning that it is not redeemable for some tangible asset such as gold. Instead, everyone simply agrees to use it in economic transactions and its value arises from the need to use it in such transactions. You accept a paycheque in Canadian dollars because you know that you can buy goods and services with it. Merchants accept Canadian dollars for the same reason. The whole system depends, however, on there being faith in the value of the dollar. If enough people do not believe that the currency will be valuable, then its value will drop, in a self-fulfilling prophecy.
The Bank of Canada is able to print more M0 at the Royal Canadian Mint. It can also influence the supply of M2 via open market operations and interest rate operations. In a process I will discuss in more detail in a forthcoming article, if they want to increase (decrease) inflation they inject (withdraw) money into (from) the economy.
Now the price level depends on the amount of money in the economy. If the Bank of Canada doubles the M2 supply, it stands to reason that prices will double, and no one will be better off. From this we can see that changing the money supply does not change a person’s wealth, and therefore does not affect a person’s happiness.
