Metrological Aspects of an Energy-Based Currency System

1. Steivan Defilla (steivan.defilla@unifr.ch) Metrological Aspects of an Energy-Based Currency System First International Social Transformation Conference 10 – 12 July 2012, Split, Croatia Theme: Energy Currency – Energy as the Fundamental Measure of Price, Cost and Value

2. Abstract An energy-based currency or currency system is the only one to implement clearly defined metrological principles as they apply in physical sciences. In metrological terms, money is needed as measurement instrument for economic activity, which is a complex supply and demand driven “income game”. A measurement instrument is however distinct from the measurement unit upon which it is calibrated or standardized and which may designate basic quantities measured in economics such as wealth and value. Energy is the basis for defining a measurement unit for these quantities. This author has proposed an energy-based definition for value called walras in 2007. This definition is materially compatible with the System of International units (SI) administered by the Bureau International des Poids et Mesures in Paris. The exchange rate between the walras and any currency can be called energetic or physiological purchasing power (PhPP) of the currency. Its inverse is the hedonic energy price (HEP) or hedonic walras price (HWP). Both, PhPP and HWP are estimated by hedonic statistical methods. This author has estimated the PhPP and HWP of the Swiss franc in 2003 and plans in his current research to estimate the PhPP and HWP of some further currencies and years. The paper shows that even with an energy-based definition of a wealth or value unit, wealth and value remain clearly distinct from energy.

3. Contents • Challenges of measurement in economics and finance • Basic metrological principles • Definition of walras as unit for real wealth or real value • Pilot estimation of PhPP (physiological or physical purchasing power) • Implementing options for Energy Standard

4. 1.Challenges of measurement in economics and finance • Economic activity: „income game“ (cf. popular marathon, cycling, skiing, yachting or motor racing competition) • Generic rules (property rules, exchange principle), define the game • Accompanying rules (e.g. Labour and environmental conditions); „dumping“ corresponds to „doping“

5. Three classical market failures(NB: failures that allow some form of cheating) • Dominant positions, capability to set or influence prices • External (= not paid for) effects, negative (e.g. from environmental damage) or positive (public goods, public services, no rivalry of consumption) • Assymetry of information; special case: principal-agent problem (e.g. Failure of systemically important banks) (is co-determined by culture)

6. Metrological failure(not to be confused with market failures) • Linked to measurement of purchasing power • In sports: clocks are standardised measurement instruments, time units are fix and precisely defined • In economics and finance: currencies are variable measurement instruments; unit for real wealth, real value = ?

7. Contents • Challenges of measurement in economics and finance • Basic metrological principles • Definition of walras as unit for real wealth or real value • Pilot estimation of PhPP (physiological or physical purchasing power) • Implementing options for Energy Standard

8. 2.Basic metrological principles • Basic economic quantities: wealth and income • Walras (1874), define wealth: „By social wealth I mean all things, material or immaterial … that are scarce, that is to say on the one hand useful to us and, on the other hand, only available in a limited quantity” • Income (or gross receipts): flow of wealth between agents

9. Walrasian wealth

10. Other economic concepts • Cost: (useful or useless) losses • Profits (or net receipts): income minus cost • Price: value of goods and services; incremental income to seller if multiplied by quantity sold • NB: Wealth, income, profit: refer to agents, cost, price, value: refer to products (= goods or services), cf. UN Central Product Classification Version 2, 2008, http://unstats.un.org/unsd/cr/registry/

11. International Vocabulary of Metrology (VIM3, 3rd edition, http://bipm.org ) • Define quantity: „A quantity is a property of a phenomenon, body, or substance, where the property has a magnitude that can be expressed as a number and a reference” (1.1.) • “A reference can be a measurement unit, a measurement procedure, a reference material, or a combination of such” (1.1. note 2) • “A measurement unit is a real scalar quantity defined and adopted by convention, with which any other quantity of the same kindcan be compared to express the ratio of the two quantities as a number” (1.9.)

12. Measurement procedure • “A measurement procedure is a detailed description of a measurement according to one or more measurement principles and to a given measurement method, based on a measurement model and including any calculation to obtain a measurement result”(2.6.)

13. Measurement procedure (2) • “A measurement principle is a phenomenon serving as a basis of a measurement”(2.4.); in economics: the market • “The measurement method is a generic description of a logical organization of operations used in a measurement” (2.5.); in economics: price surveys • “A measurement model is a mathematical relation among all quantities known to be involved in a measurement” (2.48); in economics: e.g. utility maximisation under budget constraint, cost minimisation under production constraint

14. Fruther definitions from VIM3 • “A measuring instrument is a device used for making measurements, alone or in conjunction with one or more supplementary devices”(3.1.); in economics: any currency or numeraire • “An indication is a quantity value provided by a measuring instrument or a measuring system” (4.1.); in economics: nominal or current prices • Calibration is an operation that … uses … information to establish a relation for obtaining a measurement result from an indication (2.39); in economics: transforming nominal to real prices

15. Calibration in economics • Simplest example: correcting for inflation, converting USD 2012 to USD 2000: • Other example: Purchasing power parity, converting USD to CNY (of same year) :

16. Problems with current methods • Numeraire is consumer basket in both cases • Consumer baskets are not scalars, hence no measurement units • No transitivity of calibration results in multilateral PPP, i.e. numerical inconsistency between cross-cutting international PPP comparisons (usually based upon a star index around a base country) and inter-temporal inflation (usually computed as chain index linking each year only to its neighbour, i.e. with variable base year)

17. The Anecdote of the Cheated Cheater A baker once went to the judge to complain that the farmer’s chunks of butter were smaller and smaller every year, which according to him meant that the farmer was cheating and should be fined. Questioned by the judge, the farmer replied that he has not noticed any change and that he was obliged to use the bakers bread loafs as counterweights for setting the weight of his chunks of butter as he had no other counterweights, and that if anyone was cheating, it was the baker.

18. Contents • Challenges of measurement in economics and finance • Basic metrological principles • Definition of walras as unit for real wealth or real value • Pilot estimation of PhPP (physiological or physical purchasing power) • Implementing options for Energy Standard

19. Definition of walras as unit for real wealth or real value • Absence (refusal?) to use real wealth unit points at anthropocentric vision of economics (wealth and value originate in human brain); => no income game, but income scramble • Comparison of „wealth“ with „light“, cf. Plato, Socrates: light originates in human eye ... • Today: light is understood as measurable phenomenon originating from light sources.

20. Defining „walras“ in energy terms (1) • Finality of economic activity is perpetuation of physiological life (metabolism) • Metabolism is measured as energy/time • Resting Energy Expenditure REE: Mifflin equations (1990) for males and females, 60 – 65 Watt (1250 – 1300 kcal per day, 1900 – 2000 MJ per year) per person (at rest) REE (kcal/day, m)=10 x weight (kg)+6.25 x height (cm)-5 x age (y)+5 REE (kcal/day, f)=10 x weight (kg)+6.25 x height (cm)-5 x age (y)–161

21. Defining „walras“ in energy terms (2) • The only extraterrestrial resource is solar energy, the long term global limiting factor of economic activity • A crucial factor of imited availability is measured as energy/time • Solar constant measures 1367 W/m2 cross section, or 342 W/m2 on Earth outside atmosphere, or 239 W/m2 at Earth surface with cloudless weather, or 175 W/m2 at average weather conditions.

22. Less stringent limits to long term development • Four types of capital of the capital apporach to sustainability: • Financial capital (bank deposits, bonds, equity stocks, derivatives) • Produced capital (fixed capital such as infrastructure, buildings, machinery, livestock) • Human capital (demography, skills and knowledge, health) • Natural capital (covering the four spheres: biosphere, atmosphere, hydrosphere, lithosphere)

23. Definition and interpretation of walras • “1 walras (Wal) is the real wealth in, or the real value of, 1956.1 MJ of the energy characteristic available in an environment at physical and chemical equilibrium.” • One walras is interpreted as the theoretical minimum quantity of real wealth consumed during one year by the metabolism of a reference person of female gender, aged 20 years, weighing 53 kg, of height 162 cm (i.e. by the “sleeping beauty”)

24. Explanations (1) • Wealth is a base quantity, similar to luminous intensity, not a derived quantity, hence definition in language form and not as a formula • Wealth is not energy. If wealth was energy, growth would mean that energy is created from nothing (e.g. Hereafter,assuming an energy price of 10 USD/MJ):

25. SI units named after scholars

26. Explanations (2) • 1956.1 MJ equals the Planck (= natural) unit of energy (PUE), defined by three fundamental physical constants c (speed of light in vacuum), h-bar (Planck constant over 2 pi) and G (Newtonian constant of gravitation) by the formula: • Avoids having to adapt definition in long term when human physiology is not constant

27. Parenthesis: Fundamental Planck units (=1)

28. Parenthesis: Derived Planck units

29. How much is 1956.1 MJ? • 1 year of resting energy expenditure (REE) of the sleeping beauty as explained above • 61.99 Wyears or approximately one 60 W lamp during one year • 1 car tank filling, 52 litres of diesel oil • 59 litres of gasoline • 60 litres of olive oil

30. Contents • Challenges of measurement in economics and finance • Basic metrological principles • Definition of walras as unit for real wealth or real value • Pilot estimation of PhPP (physiological or physical purchasing power) • Implementing options for Energy Standard

31. Pilot estimation of PhPP (1) • Problem: Energy is not a good, but a characteristic occurring in many goods, together with other characteristics • PhPP estimation needs hedonic techniques • Pilot estimation: 24’000 consumer and wholesale prices, Switzerland, 2003

32. Pilot estimation of PhPP (2) • Transforming 24’000 prices into 24’000 transactions by taking into account quantity associated with each price • Allows to take into account that unit price is decreasing with increasing quantity • Multiple regression: energy (=numeraire), price, mass and product dummy variables • Hundreds of models tested; best specification: • lnN = g0 + gPlnP + gMlnM + g1D1 + ... + g6D6 + h

33. Pilot estimation of PhPP (3)

34. Pilot estimation of PhPP (4)

35. Interpretation • PhPP calculated as first order derivative of N with respect to P at given other covariates • Natural choice of electricity as other dummy covariate; electricity is energy with highest exergy (i.e. Highest quality energy) • Hedonic walras price HWP: 102.36 CHF/Wal • GDP per capita (CH 2003): 577 Wal • per capita output 577 times vital minimum

36. Contents • Challenges of measurement in economics and finance • Basic metrological principles • Definition of walras as unit for real wealth or real value • Pilot estimation of PhPP (physiological or physical purchasing power) • Implementing options for Energy Standard

37. Implementing options for Energy Standard • Fundamental questions: • How to guarantee that measurement uncertainty does not exceed a cerain level? • How to favour the systematic diminution of measurement uncertainty? • What to do with currencies above a given threshold of measurement uncertainty? • Monetary dumping?

38. Functions of money • Medium of exchange of (nominal) wealth • Unit of account for (nominal) wealth • Store of (nominal) wealth • Standard for denominating (nominal) debt

39. Functions of walras • Medium of exchange of (real) wealth: walras can only perform this function if money supply proportional to final energy supply (needs redeemable currency, Gesell) • Unit of account for (nominal) wealth: walras is better unit for storing economic and financial information than currencies • Store of (nominal) wealth: walras become store of nominal wealth only if energy can be used for debt clearing • Standard for denominating (nominal) debt: Walras can become unit of deferred debts, is better time-storage of wealth than currencies or SDR

40. Conclusions • Metrological failure is worse than any of the three classical market failures. • It is possible to define a real wealth unit based upon energy and to estimate the physiological or physical purchasing power of currencies with respect to this unit • Practical aspects of energy based currency system is subject to further research

41. Thank you for your attention

42. Reserve slides

43. Laspeyres (1864/71) (prices p, quantities q, periods s and t, countries j and k, commodities 1 … N ; Pure inflation or inter-temporal comparison: j=k; pure spatial or international comparison: s=t) Paasche (1875) Fisher ideal index (1922) Bilateral price indices

44. Star index vs. Chain index 1999 2000 2001 2002 1999 2000 2001 2002 E.g: Benchmark Comparison, 2000 E.g: Basis US, 2000

45. Inconsistency due to basket variation Numerical example, two economically different goods, three periods: Numerical example from US Boskin Commission Report (1996)

46. Counter-example: homogenous growth Numerical example, two economically similar goods, three countries:

47. No ideal inflation index • Multilateralization (> 2 countries or years) => inconsistency remains (cf. Axiomatic and economic approaches to index number analysis (e.g. Diewert, 1995, 1996): None of 10 classes of index methods satisfies all 12 desired criteria • Dilemmas: Ordering of results is sensitive to either: - Choice of the base country or base year - Inclusion of further years or countries - Inclusion of further goods or services - Substitution behavior (specification of the implicit utility or production function)

48. Optimal numeraire choice • Measurement procedure = market • Minimal requirement for value: Value is a real number, > 0 for goods, < 0 for “bads” • Value is not absolute (a gun is a good for the owner, a bad for the victim) => value is the result of an interaction between a good and an economic agent • => Value is not intrinsic to goods, as Marx believed, but highly extrinsic or interactive: Afridge has less value to the Eskimos than to the Kuwaitis • Example of a physical interactive property: e.g. weight of objects (depend on the surrounding gravitation) ≠ mass (intrinsic) • Marginal value (or utility) of numeraire must be constant => can only be guaranteed for a physical phenomenon

49. Optimal numeraire choice (2) • Numeraire must have a unique ( “physical”) value when interacting with a given environment, independent from its production cost, market price (= collective valuation) or from any subjective valuation; only numeraire must be bought for its physical value • Must be a scalar (a basket = mix = the outcome of a process) • Must not have quality variations that influence its value (excludes labor and services as numeraire choice) • Must be marketed & not have a zero market price (division by zero; excludes non-marketed goods, e.g. air, sea water and subsoil natural resources) • Must be a one-time consumable; value of durables is either not unique (depends on a number of possible uses) or not known at initial sale (e.g. for durables such as a house: use value is determined only at the end of its life cycle; for real estate, life cycle duration --> ∞)

50. Optimal numeraire choice (3) • Numeraire must not to be a purely man-made product (might be altered in quality or disappear) nor produced by a single enterprise (danger of price manipulation). This is the main problem with the Bic Mac Index http://www.economist.com/markets/Bigmac/Index.cfm which otherwise would satisfy all the other criteria • Numeraire to be part of the consumption basket of alleconomic agents (independently of individual wealth level) and of all societies (independently of economic development level). Value results from interaction of biological organisms with their environment in order to acquire resources