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Irving Fisher is mostly remembered, a bit unfortunately, for writing that stock prices were at a permanently high plateau…right before the Great Crash of 1929. He also invented the Rolodex, pioneered early economic statistics-gathering, wrote of the Fisher money equation PY=MV and the Fisher debt-deflation cycle. (See Sylvia Nasar’s Grand Pursuit – interesting but wouldn’t consider it must-read.)
For a while, he paid his employees in real wages. When his statistics showed the cost of living went up, their wages went up automatically. This made them very happy and think he was a great guy to work for. But then the price index went down and wages dropped. They weren’t happy about that at all and thought they were worse off.
People clearly aren’t able to make a month-to-month calculation in their head about where their wages stand relative to the economy’s overall price level. If you deem this a blinding glimpse of the obvious, you may not be fit to be an economist. Lots of economic models assume that people do all their thinking in real terms.
It’s all the more astounding that economists think ordinary people can do this, when economists themselves can’t even agree on what price measures to use for different purposes… should the Fed target CPI, the GDP fixed-weight deflator, the PCE chain-weight deflator? And the assumptions that have to go into those about imputed rent, hedonic adjustment, are pretty complicated and at least partly subjective (although they are necessary and smart people do the best they can).
If you’re an economist, you talk about people’s anchored expectations about prices as ‘money illusion,’ as if the actual greenbacks you’re forking over are the illusion, and the ‘real’ numbers analysts conjure up are substantial.