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This article proposes the creation of a global price unit/scale independent from currency units as a way to achieve stabilization of the world economy. It is based on the reasoning that prices do not need to be expressed in terms of currency units and that such traditional way of expressing prices is wrong and misguides decisions of investment or disinvestment, leading economies to crises. As an alternative to the use of currency units to express prices, the use of an abstract price unit/scale, similar to other scientific abstract scales, like the Kelvin scale, associated with the use of variable conversion rates to relate the abstract price unit to currency units, is proposed. With such new global price system composed of an independent price unit and conversion rates, markets can lessen monetary effects upon prices and have a clearer view of real relative price variation, achieving economically sound decisions of investment or disinvestment and, thus, stabilization of the world economy. Since this proposal has a enormous potential impact on the global economy, further discussions and experimental tests are still necessary.
Keywords: economics, economic crisis, monetary reform, price theory, price system, price unit, currency reform, poverty solution, economic stabilization.
Separation of currency scales from the price scale, by means of creation of an abstract price unit, is a solution to achieve long-term stabilization of the world economy and prevent economic crises.
The same unit with which quantity of money is expressed, for example, 1000 dollars, is also used to express prices, for example, a thing called X costs 1000 dollars. Is it necessary or even beneficial? This is the central question. To answer it, the following theoretical steps must be understood.
Economic stabilization is not a matter of continuous economic growth. Indefinite growth will lead to overproduction and overpopulation of the world with industrial products. Marginal utility of things will sharply decrease. Economic stabilization is a matter of balanced supply and demand.
Regarding a product, increasing demand pushes for an increase of supply and decreasing demand pushes for a decrease of supply. In order to balance the economy, that is to say, to balance supply and demand, economic agents must perform such movements of increasing or decreasing output according to the increase or decrease of demand.
What happens when such dance of supply around demand is not well performed? (Note that the following discussion is done without citing the concept of prices, further the concept will be introduced.)
Consider an initial balanced economy.
When an increase in supply of some product does not follow an increase in demand, the gap between demand and supply sharpens. Undersupply increases the marginal utility of the product. Consumers will likely dispute the low supply and some of them will get a low portion of the product output, while others will get more. Larger portion of their purchase power will be directed to such dispute, while other products will suffer demand reduction due to less portion of purchase power directed to them. Therefore, the entire economy will be directed to a state of supply and demand for every product conditioned (maintained) by the first unbalance of supply and demand of that first product discussed. Other products will then have their supply and demand unbalanced, and the spiral grows creating an unbalanced economy.
When decrease in supply does not follow a decrease in demand (or, in other words, when supply is increased, but demand has not increased proportionally before), a gap between supply and demand will also be created, there will be oversupply. Oversupply decreases the marginal utility level of the product. Consumers will direct their purchase power to other products, and the entire economy will be directed to a state of supply and demand of every product conditioned by the oversupply of that first product. Other products will then have their supply and demand unbalanced, and the spiral grows creating an unbalanced economy.
More background: Decisions of investing/disinvesting are the causes of increase or decrease of supply. Economic agents take those decisions.
Under a continuous unbalanced economy, with high risk of creating oversupply and, consequently, debt, economic agents will fear decisions of investment and the economy will probably go into a recession or depression: crisis.
How to solve the need of having an efficient balance of supply and demand in the economy? How economic agents know when demand of their products is consistently increasing or decreasing? This is one of the most important theses of this article: Economic agents know when demand of their specific products is consistently increasing or decreasing by looking at changes in the relative prices of those products.
Now the concept of relative price is introduced in the analysis.
Relative price, here, means the quantity of other products exchanged for one unit of a product, given a time and a market.
The most important function of relative prices is information about levels of supply and demand of a product. When the relative price of some product increases, it is a signal for agents to increase supply of the product. When the relative price of some product decreases, it is a signal for agents to decrease supply of the product.
If prices are consistent, which means only affected by real economic factors like market conditions, the economic agents know when to invest or disinvest. Economic decisions are taken on a sound basis, and supply will flow around demand without creating harmful gaps (underproduction or overproduction).
Therefore, economies must have a consistent price system.
The great problem, however, is that prices are not consistent due to a persistent error all economies undergo for a long time: using quantity of money to express prices.
Quantity of money is controlled by monetary authorities and other agents like banks. These agents can vary the quantity of money at their sole discretion. They indeed do that all the time.
When quantity of money increases, prices, expressed in monetary units, also increase. When quantity of money decreases, prices, expressed in monetary units, also decrease. Variation of price levels of a given product due to variation of the amount of circulating money is not real variation of its relative price. Prices then lose their informational function regarding variation of real relative prices and variation of real supply and demand.
The economic agents, however, interpret monetary inflation or deflation as they are set to interpret real inflation or deflation: they use the signal to decide whether invest or disinvest in production. The signal reaches some sectors first.
In the situation above, under or overproduction is likely to occur, since prices are not giving information of actual relative price variation, which is fundamental for correct decisions of investment or disinvestment. They are indeed giving information about monetary manipulation and misguiding economic decisions. Crisis is always ahead that scenario.
In this article, a solution to rehabilitate the original and fundamental informative function of the price system, which is informing variation of the relative price of products, is proposed.
A simple yet very impacting solution: Creation of an entire abstract global price unit/scale in order to separate the scale/unit with which prices are expressed from the scales with which amount of currencies is expressed.
In this solution, an abstract scale/unit of prices would be related to currencies by conversion rates. The process is actually the same as the one used to convert foreign currencies into local prices in markets where foreign currencies are accepted by vendors (for example, in Argentina, where Brazilian Real is informally accepted). Sellers tell buyers what is the exchange rate they are considering.
Prices expressed in such independent units of price would be related to accepted currencies by variable conversion rates. For example, in a given time in a given market, a sandwich would have its price labeled 10 units of price, a glass of water 1 unit of price and so on, with a conversion rate of 2 units of currency (dollars, for example) equals 1 unit of price. Since those conversion rates are freely variable by markets, in another time in the same market, the relation could be, for example, 3:1. If other currencies are accepted in the same market, every accepted currency would have its own conversion rate in a given time.
It is necessary to highlight here that this solution does not mean elimination of currencies. Currencies would exist as they exist today and they would still be very useful to facilitate commerce. The difference, however, is that prices would not be expressed in the same unit currencies are expressed, moreover, they would be related to them through variable conversion rates.
By creating and using an independent price unit/scale and relate it to currencies through variable conversion rates, the new price system will be composed by real relative prices expressed in independent units of prices and by conversion rates relating such independent prices to currencies.
This is a truly meaningful change since markets gain a new way of accommodating variation in the amount of circulating money: they can vary the conversion rates instead of varying prices. Therefore, if in the example above the circulating money increases to a double, the market can simply set the conversion rate in 4 units of currency to 1 unit of price (4:1). The labeled independent price of the sandwich would remain the same 10 units of price, as well as the price of a glass of water would remain 1 unit of price.
In the other scenario: If, for some real reason, demand for water increases, but demand for sandwich stays the same, a real relative change in prices would occur. The price of a glass of water would be labeled, for example, 2 units of price, while the price of the sandwich would remain 10 units of price. Since the amount of circulating money stays the same, there would be no variation of conversion rates; only relative prices would change.
The conversion rates between prices and currencies act as a buffer, just like pH buffers of Chemistry, to reduce the impact of monetary manipulation upon relative prices. Prices then expressed in an independent price unit/scale can keep their original, informative function of signaling to markets the real relative variation in supply and demand, thus, providing the economic agents with a reliable criteria for investment or disinvestment decisions. This is a consistent way towards stabilization of the world economy.
Creation of an abstract, independent price unit/scale seems to be feasible, just like were other abstract scales like the Kelvin scale or even the metric scale. Of course, as in those scales, a starting point is necessary.
A conversion process similar to the described above for a new price system already occurs in markets where foreign currencies are formally or informally accepted by sellers. They use exchange rates to relate prices expressed in local currency to foreign currencies. In such markets, from the foreigner point of view, prices expressed in an amount of local currency act like the entirely abstract price proposed here.
The buffering effect of the conversion rates would lessen the present massive economic power of monetary agents. Monetary devaluation (in terms of conversion rates), in the other hand, would be counteracted by sellers who would compete to offer attractive conversion rates.
A global price unit/scale would facilitate global trade since relative prices would be more evident.
This proposal is a real alternative to the proposals of a single global currency or even those of currency baskets. Currencies would still be diverse and issued the same way they are now.
This is an ambitious proposal. If implemented, it would possibly change the entire global economic environment. This is also the reason why it needs further discussions and scientific tests, for example, empirical tests in closed experimental markets.
Oliveira, F. (2012). A global price unit independent from currency units as a solution for the world economy. Open Science Repository Economics, Online(open-access), e06131923. doi:10.7392/OpenScienceRepository.Economics.2012.06131923
Oliveira, Francisco. “A Global Price Unit Independent from Currency Units as a Solution for the World Economy.” Open Science Repository Economics Online.open-access (2012): e06131923. Web. 2 Sept. 2012.
Oliveira, Francisco. “A Global Price Unit Independent from Currency Units as a Solution for the World Economy.” Open Science Repository Economics Online, no. open-access: e06131923. http://www.open-science-repository.com/a-global-price-unit-independent-from-currency-units-as-a-solution-for-the-economy.html.
Oliveira, F., 2012. A global price unit independent from currency units as a solution for the world economy. Open Science Repository Economics, Online(open-access), p.e06131923. Available at: http://www.open-science-repository.com/a-global-price-unit-independent-from-currency-units-as-a-solution-for-the-economy.html.
1. F. Oliveira, A global price unit independent from currency units as a solution for the world economy, Open Science Repository Economics Online, e06131923 (2012).
1. Oliveira, F. A global price unit independent from currency units as a solution for the world economy. Open Science Repository Economics Online, e06131923 (2012).
Research registered in the DOI resolution system as: 10.7392/OpenScienceRepository.Economics.2012.06131923
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Global Price Unit Equals the Law of One Price!
Mr Oliveira'S proposal assumes same accounting and technological standards. This proposal falls short of reinstating the Law of One Price espoused by …
Nouriel Roubini retweeted this paper to his followers Not rated yet
On August 3, 2013, the famous economist Nouriel Roubini retweeted this paper to his more than 250000 followers on Twitter. See the RT above.