A two person closed economy
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Transcript of A two person closed economy
A Two Person Closed Economy
Illustration of key macroeconomic principles Property boom, benefits from trade and
inflation
It worked well for years but one fine day, RC developed an appreciation for
fresh fruits and vegetables which were a rarity for him unlike MF
Sadly MF had no use for grains mid-
season. RC and MF sat together and agreed on a
monetary measure to facilitate mid-
season transactions
They gathered all the pebbles of a rare kind on the island (100) and
split them equally between them. The pebbles were to be used as the money
for exchange.
50 50
Now RC freely took fruits & vegetables
from MF around the year
They exchanged goods worth 40
pebbles each year
RC being the smart Alex he was,
figured that he may purchase a small
portion of the orchard for the 10 pebbles that were
always in spare
MF was very happy that year for he had
20 pebbles in reserve after
buying all the grain he needed.
RC too was full of
joy for he now owned a little more than what he had.
Next year MF discovered that his
reserve has depleted to 12
pebbles only as RC bought lesser fruits
& vegetables
RC was very happy as he had 20
pebbles in reserve now and owned assets worth 120
pebbles.
MF too was quite happy as he now had 16 pebbles in reserve in addition to assets equal to
RC.
Next year, RC approached MF
with a proposal to buy a further tenth
of his orchard. MF realizing his folly last time, demanded 20
pebbles this time, which RC readily
agreed to.
Now RC was very happy that he owned assets
worth 220 pebbles.
MF was also overflowing with
joy for he now had 36 pebbles in
reserve in addition to assets slightly
less than RC.
BLACK SWAN – HELICOPTER MONEY
A tsunami struck the island that year. Fortunately both the arable land and orchard remained safe.
MF while gaping in awe at the damage to the trees on the seaside on which Tsunami struck discovered to his amazement 30 rare pebbles of the same kind
he and RC were using as money.
MF with his coffers over-flowing with pebbles ran to RC
and offered to purchase a further tenth of the arable
land
RC with no great want of pebbles
casually asked for 30 pebbles to
which MF surprisingly (to RC)
agreed
RC was very happy now for he had assets valued at
300 pebbles along with 30 pebbles in
reserve
MF too was overjoyed as he
also had similarly valued assets with
36 pebbles in reserve
After a few years, both RC and MF owned half of
arable land and half of orchard - assets
valued at 500 pebbles each
Their trend analysis also suggested that assets will continue
to rise at 20% in value.
In the meantime, RC with no great
aptitude for maintaining an
orchard saw the production of fruit & vegetables in his owned part come
down to half
Elsewhere food-grain yields halved
in MF owned arable land for MF did not
know how to properly maintain
the right mix of manures in the soil.
RC suffering from lack of fruits &
vegetables in his diet and MF from
lack of grains started trading again with their
pebbles.
The prices they settled at now was 3x higher than the
initial price.
They could only afford to trade half
the initial trade volumes now.
Since there was no scope for further
improvement, they learnt to keep them satisfied with 75% of the grains and
fruits & vegetables now.
Yet each of them was content that he owns assets valued
at 500 pebbles growing at 20%. And he owns 65 pebbles, up from
50. And he sells goods worth 60 pebbles annually, up from
40 pebbles.
Lessons Trade improves specialization Means of production should be managed by people
best qualified to do so Price rise does not equate with rise in value Helicopter money may stimulate investment and
consumption temporarily but cannot be a substitute for greater specialization and technological improvement /innovation
It is important to decide whether to live well or to live seemingly well, both may not necessarily be the same depending on perspectives