THE FINAL WORD BY TIM WORSTALL

A distinction worth making

Speculation moves prices through time

It's always slightly dangerous for a columnist to argue with the stated editorial line of his employer, the newspaper. And yet here goes: Stockpiling of goods in a time of shortages is a good thing. As opposed to something that must be stamped out by the authorities as this newspaper recently insisted

The argument in favour of such stockpiling is that speculation moves prices through time. This is the argument that Adam Smith used in favour of it at least and while he wasn't in fact correct on everything -- that standard joke that all economics is either footnotes to Smith or wrong is indeed just a joke -- being in opposition to his reasoning should only be done after considerable thought. 

He uses wheat as his example. The speculator is the grain merchant who buys just after harvest when wheat is, naturally, quite cheap. He then sells later in the year when wheat is more expensive. He has taken wheat off the market, stockpiled it ,and made a profit. We can indeed describe him as a speculator making his profit from making goods more expensive.

Many do exactly that too.

But it's necessary to grasp the other interacting parts of the whole system too. Humans tend to use, consume, buy, more of things that are cheaper, less of those more expensive. So, we can imagine that just after harvest, when wheat is cheap, folk will eat a lot of bread. Smith was talking about Britain where there is only one harvest a year. It’s possible that so much bread will be eaten when wheat is cheap that there will not be enough to last until the next harvest in 11 or so months’ time. 

Historically this was about how it worked too. The “hungry time” was June into July, just before the next harvest could be gathered in, this is when the population would be at least hungry, if not near to starvation. 

So, what's the effect of our speculator buying cheap? The price rises -- perhaps only a bit, depending upon the size of his purchases -- as a result. The price is higher during that time of plenty, leading to lower consumption. Then he sells, later, at the higher prices of the time of dearth. He makes his profit. But his sales then reduce the prices during that time of dearth. If everyone had eaten it all just after harvest then there would be none -- he stored it and now he sells so prices are lower than they would have been without his actions.

It's not his intention, at all -- he’s after profit, nothing else -- but the limited supply has now been spread through the year. The lowest prices have been raised, the highest prices reduced. The speculation has moved some of the high price of late season back to just after the harvest. And, of course, vice versa, some of the low prices of just post-harvest have been moved to the time of shortage.

Speculation moves prices through time. It also moderates price movements in both directions. Speculation is, in fact, a pretty good thing to have going on.

Now it’s also possible to consider what happens if the speculator gets things wrong. Perhaps the harvest is so large that there will be plenty until the next one. In which case the speculator loses his money, doesn’t he? At which point we don’t care -- capitalists losing cash? Shrug. That is, our speculator only does make money if he moves prices across time from the time of plenty to the time of dearth.

There is one other little piece of economics we should add here though. Which is that it's often true that some of something is a good idea but more of it is worse. A little bit of inflation -- 2% is the current modern rule of thumb -- is a good idea as it eases the pains of other changes in the economy. 10% worse though, and 50% a disaster. So too with speculation and stockpiling. A certain amount of it does that job of moving prices through time. Some price gouging is the efficient allocation of scarce resources. But too much of either becomes that bad idea again. We might say that stockpiling is good, hoarding is wrong. The truth is somewhere in the spectrum between the emotional meanings of those two words perhaps.

So I'm not not quite directly arguing against the editorial line of the very newspaper I'm writing for. Rather, saying that at the extreme the editor is correct. It's what we define as that extreme that matters.


Tim Worstall is a senior fellow at the Adam Smith Institute in London

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