Velocity Wanted: Sticky Prices yet Flexible Price Level 03

 

To be fair, macroeconomics, supposedly “empirical,” was conceived by a certain thought leader who first differentiated the run between “short” and “long.” Afterwards come forward numerous models of “equilibrium” (T⁰) have.

             Alas, 千慮一失 (qiānlǜyīshī)! Master and disciples do take the metaphorical run (L for length in the space dimension) for the real run (T for length in the time dimension). Providentially in Cambridge, the time flies literally like an arrow over the space (L^-1).

             Down (0) with the time dimension (T)!

             Ever since in Cambridge, any race when longer than the 50m dash can be named as “the long run” upon the choice of convenience; 100m is longer, 400m is still longer and the like indefinitely. Such naming surely is true and legitimate inasmuch all names are by definition true. For instance, there is no way whatsoever to claim, much less “empirically verify,” that a boy named “Sue” is false. 

 

“Declaration of Fallacy.” The rest of us wouldn’t need “so many words” as in macroeconomic models in general and those of “equilibrium” in particular.

             Open any textbook of economics at the middle school, and we can find the “equilibrium” price. Is each price sticky or flexible? All of us, a macroeconomist or otherwise, would choose “sticky” out of the two: the metaphorical one price ex post facto. The rest of us would conclude that all prices are sticky by the very definition of “equilibrium.”

             Warmly accepted is such a claim that macroeconomics be all about the gross national income per year in full as opposed to day, week, fortnight, month or quarter. Nice try all in all, but for the fact that there is no ground at all to make any claim about the shape of the aggregate price (P for price level) out of the individual shapes of prices.                                                                                      

             The rest of us solemnly declare independently from Cambridge: “Each price is sticky but the price level is flexible.”

No Clap with One Hand. Those macroeconomists are no less human than the others in having blind spots at the visionary system. Alas, they forget, honestly or otherwise, that sticky prices shall affect the AD curve as well. In effect of disregarding the AD, they clap with one hand!

             Top secret among the rest of us: The individual market has two hands while the aggregate market has one. There is no such things as AS or AD, but just GDP.

 

Back to the Future. Let us make a trip to an ancient kingdom.

             Once upon a time in a kingdom by the sea, 15 acorns stamped with the royal seal was legal tender with the name 10 thalers on the face. The nominal GDP of the kingdom was reported to be 600 thalers in the year 2525 by the royal income accountancy. According to the classical “quantity equation,” the velocity of money was V≡ P∙Y/ M= 600/ 150= 4 turns per annum.  

             In the following year 2526, undisputedly out of the “short run,” the nominal GDP was 750 thalers ceteris paribus but for V= 5. Voila, the economy was in the “natural level” of 60 “real acorns.”

             In Cambridge where P be sticky and V= 1/ k be constant “in the short run” over a year of time, the story would be a whole lot different: The economy grew 25% in “real quantities,” that is, 0.25=750/ 600 – 1.00. What a wonderful world!

What A Beautiful Name!