Revisiting Simon-Ehrlich

Paul Kedrosky revisits the famous Simon-Ehrlich bet:

Without getting into it too deeply, here are some things worth knowing. Given
the above graph of the five commodities’ prices in inflation-adjusted terms, it
will surprise no-one that the bet’s payoff was highly dependent on its start
date. Simon famously offered to bet comers on any timeline longer than a year,
and on any commodity, but the bet itself was over a decade, from 1980-1990. If
you started the bet any year during the 1980s Simon won eight of the ten decadal
start years. During the 1990s things changed, however, with Simon the decadal
winners in four start years and Ehrlich winning six – 60% of the time. And if we
extend the bet into the current decade, taking Simon at his word that he was
happy to bet on any period from a year on up (we don’t have enough data to do a
full 21st century decade), then Ehrlich won every start-year bet in the 2000s.
He looks like he’ll be a perfect Simon/Ehrlich ten-for-ten.

So, what does all this mean? A few things. First, and most importantly, it
means Simon was right but fairly lucky. There is nothing wrong with being lucky,
of course, but compulsive Simon/Ehrlich-citers need to be reminded that it is no
law of nature (let alone of rickety old economics) that commodity prices
(inflation-adjusted or otherwise) trend inexorably downward, even over a
decade.

If the conclusion is that prices go up as well as down, even over a 10 year period, then there isn't much to complain about in Paul's analysis.  But I think he misses the key point.  The bet was never fundamentally about prices, the bet was about scarcity, living standards and whether we were running out of natural resources–remember that at the time Ehrlich was predicting hundreds of millions would die of starvation and even that England would not exist in the year 2000!  Prices were just a convenient but imperfect way to mark the bet to market.

The reason prices have risen in the 1990s is not that things are getting worse but that things are getting better–especially in China and India where things have been getting much better.  As China and India have become richer demand has increased tremendously in these countries putting upward pressure on prices.  In other words, prices have risen because the value of resources has risen.  That's quite different–indeed the opposite–of what Ehrlich was predicting.

To see this concretely take a good which is really fixed in supply, Picasso paintings.  Now consider two worlds – in one world the price of a typical Picasso is $50,000; in the other, it's $5 million.  Which world would you guess has a higher standard of living?