Thursday, December 14, 2006

Econ: 102

Another Econ lesson. Leave now or you will be forced to either learn something or take a nap.

Things get cheaper over time, in real terms. This is ALWAYS the case. Dont confuse the rising price of something with things actually getting more expensive. Things arent really getting more expensive, your dollar just buys less. That is called inflation. NOT THE SAME THING.

In Econ, "real terms" means you have to adjust the dollar for inflation from one year to the next so that you can compare apples to apples. For instance, the cost of electricity at the local co-op was 5.01 cents per kilowatt hour in 1935. The same per unit price in 2005 was 9.42 cents. But that is misleading. In "real terms" one has to adjust the cost of the two years so that they can be compared properly. If one normalizes the prices to 2005 dollars the cost of electricity in 1935 was 59.09 cents per. Quite the difference, but it is the accurate way to compare the two.So electricity was essentially 6 times higher 70 years ago. In that time the demand for electricity has skyrocketed! Back then it was a single bulb in one or maybe two rooms. Today it is well, everything.

Now you might try to apply another economic principle, that higher demand equals higher price so that it doesn't outstrip supply. Doesn't that conflict with the lower costs we see today?

Not at all. As a technology (or a manufacturing process or product) matures, more ways are found to streamline the process. New technologies are created in an attempt to make more for less. These new processes and technologies build upon each other enabling the manufacturer to make the product more efficiently, with less waste and less labor. This causes the cost of the product to fall as less money is put into the product and allows the manufacturer to sell for less in an attempt to win more market share.

So if I make 100 widgets today at a real cost of $500 today, improved techniques/processes/technologies will most likely allow me to make 100 widgets for only $400 real cost ten years down the road.