The Paradox of Price
Economic and accounting story telling is only two thirds complete, and it is the missing one third which is so valuable.
This missing one third of the story is the subject of the great Senator Robert F Kennedy’s University of Kansas speech “Too much and for too long, we seemed to have surrendered personal excellence and community values in the mere accumulation of material things”.
The beauty, simplicity and reciprocity of the double entry accounting system has mesmerised accountants. For the last 150 years accountants have only recorded and reported price multiplied by quantity.
Back in the 1600’s the diverge between price and value was slight as most purchases were for life’s basics - food, clothing and shelter. The negotiation and dialogue between buyer and seller were not distorted by sophisticated marketing and advertising.
Economists such as Adam Smith established the economic rules and showed how the so-called efficient allocation or resources is obtained with the following graph.
The diagram is based on the premise that the sale price includes all the financial information an organization, a society needs to concern itself with. Recording and reporting the price of an organizations output is extremely important and must continue. However, to complete the financial story the diagram above must be adjusted for the value the good or service provided.
A two dimensional image of a buyer and a seller in an ideal world where neither the seller nor the buyer can manipulate the market and everyone is fully informed making rational decisions.
The following diagram is a more realistic representation of the real world.
The diagram above shows that Value $ may have an inverse relationship to Price $ when we factor externalities into the equation being unintended consequences of consumption-based production decisions. An externality is a cost or benefit current and future (outcomes) which is not reflected in the price paid for the good or service.
Adam Smith realized the limitations of the capitalist system to efficiently allocate resources and also how suppliers and buyers are never equal and how easily businesses distort the system for their own benefit.
Capitalist systems over the last 40 years have been further distorted by neo liberalism economics and systems are now incredibly more inefficient and fragile. The concept of leaving everything to the market and allowing value to be maximised is fundamentally flawed. Neo liberalism does not work and cannot work as price and value are not the same and buyers and sellers are never equal.
The price of a good or service is easily defined as the dollar amount a purchaser and a buyer agree on. The value of a good or service is the value (or lack of value) of the outcomes of being supplied with the good or service.
As accountants and economists do not recognize that value and price differ, the reporting process ceases when the product is sold or given away – that is, at the output point. Reporting value requires the recording and reporting of outcomes, which is the result of consuming the good or service.
The diagram below shows the change required.
Measure what matters to people and planet along side Price based consumption to balance effective decision making.
By recording and reporting value or the lack of value Adam Smith’s “invisible hand” of capitalism will for the first time be visible.
If we do not address the paradox of all financial decision making being made on the basis of price, the western capitalist system may fail.
Jon Griffin - Founder of Social Value Accounting Pty Ltd
“Price is not the only indicator of Value.”