Smith talks about inflation, ‘Though we express a person’s revenue by the metal pieces which are annually paid to him, it is because the amount of those pieces regulates the extent of his power of purchasing, or the value of the goods which he can annually afford to consume.’ He refers to the idea of inflation many times in The Wealth of Nations, but he never calls it that as such. Inflation is important because it affects the cost of living.
DEFINING IDEA…
Inflation is when you pay fifteen dollars for the ten-dollar haircut you used to get for five dollars when you had hair.
~ SAM EWING, WRITER
When Margaret Thatcher became Prime Minister in May 1979, the UK was struggling under double-digit inflation. Smith would probably have liked the ‘Iron Lady’ as she set about reinventing the economy using his free market principles. One tactic was to increase home ownership in the UK. Mortgage tax relief offered that incentive and tenants in council houses were given the option to buy their homes at rock bottom prices. The idea was simple - if you give people the opportunity to own a stake in the country through property, they will be more inclined to: (a) look after it and (b) work hard to protect it. The free market would encourage entrepreneurial activity and the economy would prosper.
The only real purpose of money is that it allows you to buy the things you need. Yet if inflation is allowed to escalate unchecked, the value or usefulness of that money falls. In the late 1980s, owner-occupier home ownership soared from 54% in 1981 to 67% just ten years later. Unfortunately, so too had interest rates, topping 15% in 1989! The same government that made home ownership possible was also determined to rein in inflation. Raising interest rates doesn’t only depress homeowners; it also depresses spending and therefore lowers inflation. The net effect was one of the most spectacular booms and busts in the history of the property market.
In addition, selling off council houses caused a serious shortfall in social housing because no new homes were built to take their place. Perhaps housing should be added to the list in Chapter 9—where food, water and shelter should never be left in the hands of capitalism.
The trouble with economics is that it’s a balancing act. On the one hand, people need to spend to circulate capital and allow business to thrive. Conversely, too much circulation increases prices, and rising inflation means the money doesn’t go so far. Smith reminds us that, ‘Money is neither a material to work upon, nor a tool to work with; and though the wages of the workman are commonly paid to him in money, his real revenue consists not in the money, but in the money’s worth; not in the metal pieces, but in what can be got for them.’
HERE’S AN IDEA FOR YOU…
When times are good, often people don’t care for bargain hunting, preferring to spend without any discernment. However, that soon changes when inflation eats away at the purchasing power of your pound. If inflation is high, try shopping at discount outlets - if you hunt for bargains, then you can frequently find a similar quality at a fraction of the big brand price.