The Durk Pearson & Sandy Shaw®
Life Extension NewsTM
Volume 12 No.
3 • June 2009
Is a Preference for Inflation
Hard-Wired in Humans?
A recent paper suggests that people respond positively to an increase in income, even when prices go up by the same amount (e.g., real purchasing power stays the same). Economists have traditionally been skeptical of this “money illusion,” the authors say, but recent evidence is providing support for the notion. For example, a study cited by the authors found that, when asked to rate the happiness of two otherwise identical persons who received either a 2% wage increase without inflation or a 5% wage increase with 4% inflation, the majority of subjects thought the 5% wage increase with 4% inflation would result in more happiness, despite the fact that it would result in a lower nominal income gain compared to the 2% wage increase without inflation. Their new paper reported evidence of a brain preference for money illusion.
The researchers “compared blood oxygen level dependent (BOLD) activity in response to earned incomes that differed in nominal terms, but that were identical in real terms.” Subjects earned money in a “simple estimation task” and then, later, spent their earnings on items in a catalog. The situation set up by the experimental conditions resulted in subjects being in one of two conditions: in the high price condition incomes and catalog prices were 50% higher than in the second (low price) condition. Real purchasing power was the same in both conditions, despite the 50% difference in nominal incomes. Subjects were aware of whether they were earning/buying in the high price or low price condition and also knew what the catalog prices were in both conditions.
The authors hypothesized that “areas of the brain that are engaged in the experiencing of rewards, such as the ventromedial prefrontal cortex, would exhibit money illusion in the sense of exhibiting a stronger BOLD response for incomes that were higher in nominal terms, but had an identical real value.”
That is just what they found. There was significantly increased BOLD activity in the ventromedial prefrontal cortex during the high price trials. “This result means that reward activation generally increased with income, but was significantly higher in situations where nominal incomes and prices were both 50% higher, which supports the hypothesis that activity in the ventromedial prefrontal cortex is subject to money illusion.”
A political result of a human money illusion bias might be an actual preference for money inflation, where incomes increase but prices do, too as compared to lower nominal incomes with lower prices that have similar purchasing power. Of course, in the real world, income and prices in an inflationary period are unlikely to increase by the same amount for any particular individual, so this study is a simplification compared to an economy, but it still makes you wonder whether money illusion explains (at least in part) why people like inflation and why it is therefore so politically easy for governments to tax covertly by inflating the money supply, thereby reducing the value of currency, allowing the government to inflate away its debts.
- Weber et al. The medial prefrontal cortex exhibits money illusion. Proc Natl Acad Sci U S A 106(13):5025-8 (2009).