The Wealth of Nations: Book 1, Chapter 5 Summary & Analysis

All goods and wealth come either directly from one’s own labor, or from exchange for someone else’s labor. Thus, something’s real price is “the quantity of labour which it enables [its possessor] to purchase or command.” Obtaining two things with the same price should require the same amount of labor. Similarly, wealth is the power to command other people’s labor. It may be impossible to quantify the exact amount of labor that goes into different kinds of work, but “the higgling and bargaining of the market” does so approximately. While real prices are usually expressed in money, they aren’t really based on money, since gold and silver prices fluctuate over time. The only thing whose real value never changes is human labor—which is the ultimate basis for all real prices.

Real prices—how much labor or a commodity is worth in terms of “the necessaries and conveniences of life”—are different from nominal (money) prices. Long-term transactions like yearslong land rentals should be based on real prices, since nominal prices fluctuate due to the changing metal supplies and coin debasing. Indeed, as all nations continually debase their coins and new mines in America have increased the supply of precious metals, prices denominated in grain have remained far stabler over the centuries (and closer to real prices) than those denominated in metals. But grain prices still fall over time: as societies become wealthier, a fixed quantity of grain can buy less and less labor. As grain prices depend on harvests, they also vary more significantly from year to year than metal prices. Thus, labor is the only universal standard for comparing value over time.

Ordinary commerce only involves nominal prices, not real prices, because it takes place at one time and place. Thus, money is a perfectly adequate tool for it. Even long-distance commerce is entirely about nominal prices: if the same goods fetch a half-ounce of silver in China but a full ounce in England, a merchant will buy them from China and sell them in England, regardless of how much labor and daily necessities each amount can really buy in each place. For this reason, most philosophers have focused entirely on nominal prices. But real prices will often be relevant in Smith’s work. He will use grain prices to approximate them, since it’s impossible to know exactly how much labor it has taken to produce different commodities in different places throughout history.

Most societies use several different metals for money, but they tend to treat the first they start using as the standard measure of value. The Romans used copper, but most modern European countries started with silver—including England, where debts and accounts were historically denominated in silver coin. However, the most valuable metal actually determines the value of all the coinage. For instance, England just reformed its gold coins to make sure they contain the right amount of gold, so an ounce of pure gold bullion has started trading for fewer gold coins than before. Thus, the coins’ value has risen. Since the exchange rate between gold, silver, and copper coins is fixed, the silver coin’s value has risen too, even though it wasn’t reformed (and still contains less silver than it should). In fact, if England reformed the silver coin, it would become more valuable melted down as bullion than as money.

There is no seigniorage in England—people don’t have to pay the mint to turn their gold bullion into gold coin. But the process does take several weeks, which is like paying a small tax. If England also started charging seigniorage, like France, then its coin would be worth more than its equivalent weight in bullion. Thus people would stop exporting and melting down coins. While the price of gold and silver bullion varies according to market factors (like demand and over- or under-importation), it generally holds stable over time. But most nations’ currency contains less gold or silver than it is supposed to, and merchants get used to adjusting all prices for the actual amount of metal it contains.