Economic Entropy

Economists have neglected to study the phenomenon of vanishing uncertainties and risks in the production process as maturing goods approach the final consumer who is eager to buy them at established prices. We fill this gap in resurrecting Adam Smith’s long-forgotten notion of social circulating capital. Then the propensity to consume appears as the volume, and the discount rate as the marginal productivity of social circulating capital. It turns out that the rate of interest and the discount rate are entirely different concepts animated by entirely different forces. The fundamental error of Mises and Rothbard in confusing the two was due to insufficient research, in particular, ignorance of economic entropy, the measure of the disappearance of uncertainty and risk. It was also due to their denial of liquidity, the fruit of maximum entropy. Social Circulating Capital When does a river cease to be a river? At the moment it gets within sight of the sea. As the river is descending to sea level significant and conspicuous changes occur. The salinity of the water increases sharply and, with it, the ecology changes. Water molecules lose their potential energy and their kinetic energy is converted to entropy. Similarly, the flow of myriad goods from producer to market also undergoes a remarkable metamorphosis when it gets within sight of the consumer. Adam Smith was the first to notice this interesting phenomenon. He formulated the concept of social circulating capital. By this he meant the mass of finished or semi-finished consumer goods which has reached sufficient proximity and is moving sufficiently fast to the ultimate cash-paying consumer so that its destiny of being consumed presently can no longer be in doubt. The analogy between the flow of goods to the final consumer and the river emptying into the ocean can be profitably extended to include economic entropy. The risks and uncertainties, so characteristic of processing in the earlier stages of production, all but disappear by the time the maturing goods become part and parcel of social circulating capital and sale at the going price can be taken for granted. Speculation and other forms of risk-taking give way to the highly predictable automatic processes of distribution. In particular, established retail prices do not normally change in response to changes in demand because of the increase in economic entropy, measuring the reduction of uncertainty and risk.