Wednesday , June 19 2024

Wealth creation is not a zero-sum game

A “zero-sum game” means that everyone’s gains are accounted for by someone else’s loss.

Apparently, this is what socialists believe:

“Capitalists cannot keep making money forever, because eventually they will have taken all the value from the world and would have to start taking money from the poor.” – Socialism 101

Perhaps Socialism 101 needs to take a course in Economics 101!

When someone gets rich, a popular belief is that they are achieving this at the cost of wealth taken from other people, such as by charging high prices from the consumer, and paying low wages to their employees. Certainly, if the employer could get away with deploying such practices to maximise their profit, they will. But in an open market, where there is no compulsion, all transactions are voluntary. So you have to ask the question… Why would the consumer pay high prices voluntarily? And why would the employee work for low wages voluntarily?

The answer is that people pay high prices and work for low wages because it benefits them
The consumer is only willing to pay a high price of the product if they perceive the value of owning the product to be at least equal to or greater than the value of the money they are paying for it. Likewise, the employee is willing to work for low wages because the money they earn is worth their time and effort. If it were not so, they would not be compelled to partake in such transactions. After all, we do not live in a communist society.

Even the employee benefits from a low wage
An employee will not work for an employer unless the amount they pay is higher than the employee values his time. Imagine Tom a factory operator. For Tom, the calculation is simple: unless he is so self-sufficient that he can grow his own food and make everything he needs by himself, getting paid is better than not getting paid. Of course, the owner of the factory will only want to pay Tom the lowest amount he has to. But if the owner is underpaying Tom, he can simply go and find a job elsewhere. The only way that is prevented from finding a job that doesn’t underpay is if the entire industry colludes to underpay their workers. However, this would be counterproductive to everyone involved: as the industry is in competition with one another, employers who raise the wage they pay gains an the edge over their competitors in attracting the best workers. Thus the factory owner has to pay Tom a competitive and attractive wage to keep him from working for a competitor. However, if nowhere else is willing to pay Tom a higher wage than his current employer, that means that Tom is already getting paid the market value for his work. This applies in any industry sector: if your work is competitive, you will get paid good money for it.

Conversely, employers will not be able to raise the salary they offer their employees indefinitely either. If paying the employee costs more than the value the employee adds to the employer’s business, it would be more economical if the employer did the work himself, or introduce machinery that performs the same task. If the employer did not have the capacity to do so, they would simply go out of business, resulting in material loss for both employer and employee.

How wealth creation manifests itself
Most consumers will only buy a product that they value more than the money they are paying out for it (unless they are forced into it or if they are incredibly stupid). By spending, they are actually adding value to their own lives. They have lost money, but gained in wealth. How does this work? Imagine a seamstress named Fliss. She buys her first sewing machine, which increases her productivity by tenfold. So, Fliss may have lost money in paying for the product, but the resultant increase in productivity has vastly increased her personal wealth: she is now able to produce and many more wedding dresses for sale. Correspondingly, Fliss is able to reduce the prices of the wedding dresses she produces, making her wedding addresses affordable to more people, and increasing the volume of her sales. The reduction in prices means many more brides-to-be are able to indulge in the joy of wearing the beautiful wedding dresses made by Fliss. Thus we have a cascading effect: the sewing machine manufacturer gets rich, whilst Fliss earns more money, and Fliss’ customers get lower prices. Result: the richest get richer because everyone else also gets materially richer.

Money is not limited
How can everybody get richer simultaneously? A popular misconception is that everybody has a limited amount of spending power, and that the way this spending power is distributed affects how some people get rich and others get poor. However, this is a horribly misguided way of understanding the nature of finance. We have to understand what money is. Money in itself has no intrinsic value. Money is a representation of debt. When someone pays you money, it means you are owed that money’s equivalent of a product or service. When you start off in life, you have no money, because nobody owes you anything. It is only when you start working that you start accumulating money; how much money you possess represents how much society is indebted to you. Thus your spending power is directly related to how much benefit you contribute to society.

When the poor get richer, the rich get even richer
If an entrepreneur creates a product that can materially benefit everyone’s life, they have will get rich because other people will benefit from paying for that product. The more competitively priced the product, the better off the consumers who purchase that product. This means greater the demand for that product, resulting in greater sales and wealth for the entrepreneur. The wealth that the entrepreneur has gained is representative of the wealth he has contributed to society (unless, of course, that wealth is ill-gotten via theft, fraud, or gambling).

When society is bettered materially, the wealth creators responsible get rich. If the entrepreneur fails to better society, they will not get rich. How society benefits is in the form of improved quality, increased quantity, and lower costs of goods. What this means is that even if an individual’s wage does not grow, the goods available to consumers will either improve or become more affordable (or a blend of both). In short, quality of life improves. Furthermore, such economic development frees up more wealth by the average consumer to spend on other things, which increases economic activity, the growth of which ultimately contributes to increasing real-time wages.

Wealth creation is not exempt from economic fluctuations
A caveat to this cascading cycle of economic development is that the rate of growth is almost never stable. The rate of economic development has its peaks and troughs, periods of moderate growth punctuated by tremendous booms and busts. Due to the vast complexity of the economy, these fluctuations are not preventable nor are they predictable. Though governments can set policy in attempt to minimise such fluctuations, it is dangerous to assume that governments have the power to prevent them happening. As economic downturns have a natural tendency to re-balance and stabilise the economy, government interventions have a propensity to protract or even worsen recessions out of an incomplete understanding of the economic picture.

You cannot prevent economic recessions
The danger for economists and public policy-makers is that they believe they can control these periodic boom-and-bust cycles. A national economy isn’t isolated – it is constantly engaging in international trade, performing transactions with extremely high frequency. With 7 billion people and tens of millions of businesses on the planet, it is impossible to account for every transaction that occurs every day, making it impossible to predict the consequences of any action with sufficient accuracy to be able to control the medium to long term outcomes of the economy. You may as well attempt to control the weather.

A pretender to wealth creation: rent-seeking
So far I have talked about getting rich in the form of wealth creation, or entrepreneurial spirit. However, there is another method to getting rich, or staying rich, that does not create wealth. This form is called rent-seeking. The expression comes from the old perception that landed gentry gained wealth by simply letting out their property for others to work on, thus gaining rent without actually contributing any work. The basic idea is that rent-seekers have an accumulation of resources that they leverage to increase their material benefit, without needing to add value to society. A modern example of rent-seeking: when an industry interest group successfully lobbies the government for legislation to require industry participants to be regulated by that organisation. Thus entrepreneurs in that sector are required to pay subscription fees to the interest group (now a regulator) without the interest group actually contributing any value to the economy or society. Such instances of wealth accumulation does not necessarily contribute to societal betterment, which is why I would differentiate it from wealth creation. It is also why I am highly sceptical of regulatory bodies.

This post was originally published by the author on his personal blog:

About Hoong-Wai

Software analyst. Engineering graduate. A social progressive at heart, and a former atheist. Believes in protecting life and liberty. Recently developed a strong interest in economics despite having given up the subject many moons ago. UKIP parliamentary candidate for 2017. Emigrated from Malaysia to the UK in 1998.

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One comment

  1. Hi,
    If the world economy isn’t a zero sum game and money can be created then why do some ppl still beleive it is?