From nol.net!news.sprintlink.net!howland.reston.ans.net!agate!news.ucdavis.edu!csus.edu!netcom.com!atanu Tue May 16 01:33:55 1995 Newsgroups: alt.buddha.short.fat.guy Path: nol.net!news.sprintlink.net!howland.reston.ans.net!agate!news.ucdavis.edu!csus.edu!netcom.com!atanu From: atanu@netcom.com (Atanu Dey) Subject: A puzzle. Who paid for the Englishman's Vacation? Message-ID: Organization: the Center of the Known Universe X-Newsreader: TIN [version 1.2 PL1] Date: Sat, 13 May 1995 18:25:30 GMT Lines: 131 Sender: atanu@netcom16.netcom.com I found this on sci.econ and liked the viewpoint of the author. I asked for his permission to cross-post it to my favorite group. I hope you like it too. Cheers, Atanu ---------------------------------------------- [ Article crossposted from sci.econ ] [ Author was Gustave Rabson ] [ Posted on Thu, 11 May 1995 15:04:02 GMT ] I have a puzzle for you. According to Maurice Levi in his book "Economics Deciphered" it was a Ph.D. exam question in economics at the University of Chicago. I guess I would never have gotten my Ph.D. in Economics from the University of Chicago because I think their answer is wrong. But more of that later. First let me present the question. I will use Maurice Levi's wording verbatim: "There once was an upright and very proper Englishman who regularly took his summer vacation on a tiny, agreeable, Aegean island. The Englishman had returned to the island so many times that his credit worthiness had been established beyond any possible doubt. There was absolutely no chance that this Englishman's bank would fail to honor his checks and, indeed, all of them had always been honored promptly. "Since the Englishman's credit was so sound, the islanders were totally happy to allow him to pay by check, with the certain knowledge that they were good checks. Indeed, so well known and trusted was the Englishman on this tiny island that the islanders were happy to accept the Englishman's checks from each other. For example, if the restaurateur wished to pay the grocer partly with a check he had received in payment for a meal, the grocer was happy to accept the check. The grocer was then able to buy gas with the check, and the Englishman's checks circulated in this way around the island. Indeed, the checks were never returned to the Englishman's London bank for collection. "Who paid for the Englishman's holiday?" Well, who did? Here is Maurice Levi's answer: "Clearly, the Englishman did not pay, since the checks were never returned to London. Then it was obviously the islanders, but which one of them? Because there is no last person to hold the checks - since everyone can spend the checks and everyone will accept them - it is not the last people holding the checks. O.K., then, who? "The answer is that all the islanders paid, and not just the ones who sold things to the Englishman. They all paid because their willingness to accept the Englishman's checks had put the Englishman in the position of being able to "print" money. He had become like the central bank in every country, which can print money that people are willing to hold. (Indeed, they must hold central bank money since it is legal tender. It is against the law not to accept it.) By "printing" money, the Englishman had raised the tiny island's money supply. And as we know from the quantity theory of money, if we print more money, we raise prices. How, then, had the islanders paid for the holiday? They paid by being left with reduced buying power because of the higher prices. They paid through the inflation brought about by the circulation of the checks. "The goods and services consumed by the Englishman with his newly created 'money' - **given an unchanged output of goods and services on the island** [emphasis mine, G.R.] - leaves fewer goods and services for the islanders to enjoy." My Comment: Well - it sounds reasonable. The Englishman increased inflation on the island and that was essentially a tax that everybody paid. But wait. What if the "output of goods and services on the island" increased because of the influx of capital. What if the waiter who served the Englishman his kippers every morning used the checks he got from the Englishman to complete the down payment on a new ceramics factory he had dreamed about opening. Suppose the general wealth (in goods and services) of the islanders increased because the Englishman's "money" made investments possible that were not possible before. Then inflation would have hurt nobody. Who paid in that case? In fact, is that so different from what happens when an American entrepreneur borrows $60,000 to modernize his factory. The bank loans him the money, that is they add $60,000 to his account. But who paid for that $60,000? Well, the Federal Reserve System requires that the bank have $10,000 in reserve, but where does the extra $50,000 come from? [See Secrets of the Temple by William Greider, pp.59 - 61.] And who pays the banker's salary? The bank can create money because people trust it. Just like the Englishman on his beloved Aegean island. On the other hand, suppose the Englishman (by the way, no racial slurs are intended, some of my best friends are English) had paid with pound notes, instead of personal checks. Then everybody would say that HE clearly paid. But the islanders would circulate the pound notes among themselves, just like his checks. And if the notes never left the island the situation with respect to them would have been exactly the same as it was with the checks. Would you say that, in this case, the Englishman's holiday was paid for twice? Once by the Englishman himself and once by the islanders? So what's the answer? The answer is that the question is wrong. The crowd that calls itself conservative has been trying to convince us that everything must be paid for. That, in any interaction somebody wins and somebody loses. If something good happens then something bad has to happen in order to balance the books. Somebody must pay. They seem to believe this although it is plain to everybody who cares to look that the air is free, the sunrise is free, the rain is free. Good friends are free. Love is free. Water used to be free. Wild berries are free. Who pays the wood thrush for his concert? Who pays for the wonderful gifts of our forbears? Language, literature, art, music, mathematics, the wheel, the idea of money, science, central heating, plumbing, the idea of machines - all that. We accept it all and exploit it, yet nobody pays. It is the task of economists to trace and explain the flow of goods and money. To do this they must deal with the fact that sometimes goods and money are created out of nothing more than trust, sometimes not even that - and sometimes they are destroyed. But the question "who pays" is a religious question not an economic one. I believe this is always the case. I believe that asking who is going to pay for health care, welfare, education, etc. makes no more sense than asking "who pays for our delight when we spend an evening with our friends?" Or "who paid for the Englishman's vacation?" I believe that there is such a thing as a free lunch. Indeed we are all guests, every moment of our lives, at a sumptuous free feast. We can contribute to it, if we wish, and make it even more sumptuous for everybody. All it takes is a certain amount of respect for our fellow guests at the banquet table. -- Show me a business that is not in debt and I will show you a business headed for bankruptcy. Gus