It would be nice to have a post explaining the distinction between money and wealth. They got confused when money was gold, I suppose, but money has always been a debt, owed to the owner of money, to be repaid in wealth on demand.
i.e. to a greater degree than anyone cares to admit, wealth is a shared, cognitive construct - one we choose to believe in... and when we believe too much, we get 'tulip fever', and when we stop believing we get an Enron...
Jeez. I never thought this would have needed to be explained. But I saw the tweet that (likely) prompted that post. Scary.
"Third, in my opinion this should make people reconsider their support for taxing unrealized capital gains."
Yes, yes, yes. Tax the wealth by taking some portion of the assets themselves, tax inheritance to the nth degree past a certain threshold, tax all of the forms of income rich people use but don't tax unrealised capital gains, that's just stupid.
Good article. Should talk about discounted cash flow—that’s the main way things are valued. Your house example, for instance, what’s the DCF of the rental income? That also provides a metric in an illiquid market.
Easier example for for crypto. You have a baseball card the routinely trades for $100 and the trading price goes to $50, where did the $50 in value go? Nowhere. Now, what happens when people realize it’s just a picture on a piece of cardboard that they can make themselves and generates no DCF? Well, that’s another question.
I've always loved Michael Lewis' parable about wealth creation.
Suppose you have a dog, and I have a cat. I sell you my cat for a billion dollars, and you sell me your dog for a billion dollars. Now we each have _collateral_. We are no longer pet owners; we are Icelandic banks.
This is like a better version of the Econ class I fell asleep in. I was wondering if you ever considered doing like a Q and A post or some way for your readers to ask you economic specific questions
One way I like to think about this is that an asset price (and thus market cap) is really a measure of comparative rates as opposed to an accumulated amount of dollars flowing in and out of an account. More specifically, the volume averaged price of an asset over a period can be reduced down to "sum of the dollar size of the trades" divided by "sum of the share volumes of the trades" for that period.
Once you have that it's straight forward to see prices going down (or wealth disappearing) just means that either fewer dollars are being traded or more shares are being traded. To the first order that explains why when Noah sells sharew out of his reserve, if everybody else behaves the same, the price goes down.
Hence the phrase "flows before pros" when looking to understand market prices. If you know all the rates (like savings rates) you can get to aggregate market prices. Of course this is non-trivial since the rates are also informed by perceptions, and the prices themselves. But it does help to hypothesize what drove prices up and down after the fact. Just look at the flows.
Really enjoyed this post. I realised that someone being worth x means little more than *notionally* worth x under circumstances that are generally unlikely to emerge.
There are price impacts, but there are also control premia -- if Noah found an acquirer for Noahcorp, he'd likely get more than the current market price for his 99.9% stake.
Thanks; that was a good refreshing. I sometimes wonder about a progressive consumption tax with a high deductible. It would lower the price of things at the top, especially status items, be a source of government income, and decrease a certain amount of unnecessary consumption, which would be good for the Earth. Obviously there would be some powerful opponents. I'm not sure whether it would cause the economy to crash, though. Good idea for an experiment, though, right?
This is easy to explain using calculus. The price is the derivative, the instantaneous ratio of the value of one thing to another thing. Value is the integral, the area under the curve of the price as it varies with the quantity as one thing is exchanged for another. Integration is like multiplication when the price doesn't change, but as one thing is exchanged for another the price usually changes. Since they don't tend to use calculus in ECON 101, they talk about marginal values which is a way of saying derivatives without scaring too many non-STEM people.
If you already know calculus, you immediately realize that the integrals under those supply and demand curves get you way different results from those used in common accounting work or even in high finance. It is only in certain special cases or narrow operating regimes that one can multiply a price by a quantity and get a value. Luckily, there are lots of cases where this works, but even in a supermarket, the big package is usually cheaper per unit. They rarely show you the full curve in ECON 101, partly because that's where things get complicated and also because that's where things get interesting.
Rather than ask where did the value go when the stock price went down, it makes more sense to ask why anyone believed all that value was there in the first place. If you only think about the supply and demand curves near where they meet, you won't see this. If you think about what the curves actually look like, even just in theory, you get a different picture.
What happens when someone buys 100% of a company? This gets reported in the business press often enough. As the acquisition proceeds, odds are, the value of the remaining minority shares collapses completely. (You may even have a few oddly named companies priced at fractions of a penny in your brokerage account if a company you once owned has been acquired.)
What happens when someone sells 100% of a company? The price starts going up at first, assuming the company is perceived as likely to become increasingly profitable, but then the price goes down as more and more shares appear on the market. (Recently, this has been masked by a massive capital glut, but that mask can only stay on for so long.) It only makes sense to multiply the number of shares by a recent price to compute some "value" when the number of shares is small.
I think ECON 101 does a disservice by not exploring the far ends of those glibly drawn curves. It's not as if their shapes are a secret or incomprehensible. The business press is full of stories about acquisitions and collapses. They're much more interesting than the service stories about minor changes in quarterly earnings, and they're much more informative. There's a reason biologists study extreme organisms, physicists explore high energy particles and chemists test out dramatic reactions. That's how one finds out what is actually happening.
I'm not saying everyone needs to learn calculus to understand economics, but they have to understand the way calculus lets one to think about problems. Economics already does this, but in such a limited domain as to be nearly useless as a reasoning tool.
P.S. A good recent example is Elon Musk, a purported trillionaire, having trouble raising $40B to buy Twitter. If I have $100 in my wallet, odds are I'd have no problem buying $40 worth of groceries. Matt Levine, who has worked in and reported on finance for years, caught on quickly and anticipated that Musk would have trouble raising the money for the acquisition and would likely try to get out of the purchase. This is ongoing, but this is only mysterious to people who calculated Musk's wealth by multiplying price by quantity.
Understanding leveraged wealth is the biggest impact though. Like if someone guarantees a loan with an overinflated asset
Very informative.
It would be nice to have a post explaining the distinction between money and wealth. They got confused when money was gold, I suppose, but money has always been a debt, owed to the owner of money, to be repaid in wealth on demand.
i.e. to a greater degree than anyone cares to admit, wealth is a shared, cognitive construct - one we choose to believe in... and when we believe too much, we get 'tulip fever', and when we stop believing we get an Enron...
Jeez. I never thought this would have needed to be explained. But I saw the tweet that (likely) prompted that post. Scary.
"Third, in my opinion this should make people reconsider their support for taxing unrealized capital gains."
Yes, yes, yes. Tax the wealth by taking some portion of the assets themselves, tax inheritance to the nth degree past a certain threshold, tax all of the forms of income rich people use but don't tax unrealised capital gains, that's just stupid.
Good article. Should talk about discounted cash flow—that’s the main way things are valued. Your house example, for instance, what’s the DCF of the rental income? That also provides a metric in an illiquid market.
Easier example for for crypto. You have a baseball card the routinely trades for $100 and the trading price goes to $50, where did the $50 in value go? Nowhere. Now, what happens when people realize it’s just a picture on a piece of cardboard that they can make themselves and generates no DCF? Well, that’s another question.
I've always loved Michael Lewis' parable about wealth creation.
Suppose you have a dog, and I have a cat. I sell you my cat for a billion dollars, and you sell me your dog for a billion dollars. Now we each have _collateral_. We are no longer pet owners; we are Icelandic banks.
These are my favorite type of posts! It's all new to me.
This is like a better version of the Econ class I fell asleep in. I was wondering if you ever considered doing like a Q and A post or some way for your readers to ask you economic specific questions
Love this post.
One way I like to think about this is that an asset price (and thus market cap) is really a measure of comparative rates as opposed to an accumulated amount of dollars flowing in and out of an account. More specifically, the volume averaged price of an asset over a period can be reduced down to "sum of the dollar size of the trades" divided by "sum of the share volumes of the trades" for that period.
Once you have that it's straight forward to see prices going down (or wealth disappearing) just means that either fewer dollars are being traded or more shares are being traded. To the first order that explains why when Noah sells sharew out of his reserve, if everybody else behaves the same, the price goes down.
Hence the phrase "flows before pros" when looking to understand market prices. If you know all the rates (like savings rates) you can get to aggregate market prices. Of course this is non-trivial since the rates are also informed by perceptions, and the prices themselves. But it does help to hypothesize what drove prices up and down after the fact. Just look at the flows.
Really enjoyed this post. I realised that someone being worth x means little more than *notionally* worth x under circumstances that are generally unlikely to emerge.
Truly excellent and timely. Thanks.
Nice job on this explainer Noah, well done. Clear and on point.
There are price impacts, but there are also control premia -- if Noah found an acquirer for Noahcorp, he'd likely get more than the current market price for his 99.9% stake.
Thanks; that was a good refreshing. I sometimes wonder about a progressive consumption tax with a high deductible. It would lower the price of things at the top, especially status items, be a source of government income, and decrease a certain amount of unnecessary consumption, which would be good for the Earth. Obviously there would be some powerful opponents. I'm not sure whether it would cause the economy to crash, though. Good idea for an experiment, though, right?
This is easy to explain using calculus. The price is the derivative, the instantaneous ratio of the value of one thing to another thing. Value is the integral, the area under the curve of the price as it varies with the quantity as one thing is exchanged for another. Integration is like multiplication when the price doesn't change, but as one thing is exchanged for another the price usually changes. Since they don't tend to use calculus in ECON 101, they talk about marginal values which is a way of saying derivatives without scaring too many non-STEM people.
If you already know calculus, you immediately realize that the integrals under those supply and demand curves get you way different results from those used in common accounting work or even in high finance. It is only in certain special cases or narrow operating regimes that one can multiply a price by a quantity and get a value. Luckily, there are lots of cases where this works, but even in a supermarket, the big package is usually cheaper per unit. They rarely show you the full curve in ECON 101, partly because that's where things get complicated and also because that's where things get interesting.
Rather than ask where did the value go when the stock price went down, it makes more sense to ask why anyone believed all that value was there in the first place. If you only think about the supply and demand curves near where they meet, you won't see this. If you think about what the curves actually look like, even just in theory, you get a different picture.
What happens when someone buys 100% of a company? This gets reported in the business press often enough. As the acquisition proceeds, odds are, the value of the remaining minority shares collapses completely. (You may even have a few oddly named companies priced at fractions of a penny in your brokerage account if a company you once owned has been acquired.)
What happens when someone sells 100% of a company? The price starts going up at first, assuming the company is perceived as likely to become increasingly profitable, but then the price goes down as more and more shares appear on the market. (Recently, this has been masked by a massive capital glut, but that mask can only stay on for so long.) It only makes sense to multiply the number of shares by a recent price to compute some "value" when the number of shares is small.
I think ECON 101 does a disservice by not exploring the far ends of those glibly drawn curves. It's not as if their shapes are a secret or incomprehensible. The business press is full of stories about acquisitions and collapses. They're much more interesting than the service stories about minor changes in quarterly earnings, and they're much more informative. There's a reason biologists study extreme organisms, physicists explore high energy particles and chemists test out dramatic reactions. That's how one finds out what is actually happening.
I'm not saying everyone needs to learn calculus to understand economics, but they have to understand the way calculus lets one to think about problems. Economics already does this, but in such a limited domain as to be nearly useless as a reasoning tool.
P.S. A good recent example is Elon Musk, a purported trillionaire, having trouble raising $40B to buy Twitter. If I have $100 in my wallet, odds are I'd have no problem buying $40 worth of groceries. Matt Levine, who has worked in and reported on finance for years, caught on quickly and anticipated that Musk would have trouble raising the money for the acquisition and would likely try to get out of the purchase. This is ongoing, but this is only mysterious to people who calculated Musk's wealth by multiplying price by quantity.
So that is where it went .