When I was in high school, I got pretty confused about what, exactly, was lost on Black Tuesday, the starting gun for the Great Depression. We learned that many billions of dollars were lost on that day, followed over the course of a few years by the erasure of perhaps 90% of the wealth in the stock market.
I was pretty shy in those days, so at the time, I did not ask the question that nagged me. It seemed to me that as the sun went down on Black Tuesday, the country had the same number of houses, the same number of apples, the same number of horses, and so on, as it had when the sun had risen. My intuition was that the average wealth of the country was something like its amount of stuff divided by the number of its people. On Monday there was a certain amount of stuff and people and then, on Wednesday, pretty much the same. How could so many people be so much poorer? I would understand if stuff burned up, moved from one person to another, or was shipped off to another country. But the teacher said that all this wealth just vanished. It was gone.
Where did it go?
The balance of this post is about the Origins of Wealth. What is “wealth” and where does it go when it dies? And just like the recent post on trade, this post is definitely not related to any events that might or might have happened recently.
Picture the small village of Great Depressionville: clusters of chickens, sacks of corn, bundles of wheat, baskets of eggs, a few shovels leaning against a shed. There’s no currency, no stock market, no crypto—just stuff.
Tragically, one day a fire sweeps through. Half the stuff is gone. Chickens fled, wheat scorched, shards of eggs on the ground. The villagers are without a doubt poorer now. The ratio of stuff to villager has gone down. So that’s one answer: wealth is stuff.
We reset to the pre-fire days. A traveling guru arrives. Both charismatic and mischievous, he convinces the village that a comet will destroy the world in one week. Panic sets in. No one wants seed corn, let alone shovels anymore—what’s the point of planting if there’s no future? The farmer with the seed corn can’t get anyone to trade with him, making his seed useless. In fact, he stops bothering to protect his corn. Same for the shovel-maker. He can’t even give them away. Some people in the village who happened to have food around can still eat, but many people in the village have nothing left of value to trade. They are poorer. Now, the comet isn’t real. But the value—the wealth—disappears anyway. Even though the stuff is still there.
Now imagine the opposite: the comet is real. Hurtling toward Earth. But this time, no one knows. People go about their lives, bartering, farming, planning next year’s harvest. The value stays intact—right up to the fiery end.
From these hypotheticals, we see that while stuff matters, just as in the cases of power, property rights, and groups, the real hard candy shell of wealth is beliefs. The actual comet doesn’t destroy wealth until it arrives, but beliefs about the fictional comet blew up the economy.
What if we add money to the mix? Suppose some villagers have gold coins. When the comet rumor spreads, gold loses its glow. No one wants coins if the world’s about to burn. Money—like everything else—is only as valuable as what people believe about it.
Many different kinds of beliefs matter, often to do with expectations about the future. Take beliefs about the rain. If the rains won’t come, seed corn loses value again. If people think the hens won’t lay next season—perhaps due to a curse, or what have you—a live hen isn’t worth much more than a dead one. Stuff is still stuff, but what it’s worth changes with whispers in the wind.
Most economies are more complex than the barter economy of Great Depressionville. In those economies, there are very important beliefs about, for example, debt. Two people sign a contract and they both share the belief that one of them owes the other $100 in one year. That belief might be made concrete with a contract, and so the creditor might use that belief to borrow money from another creditor. If I have 10 pieces of paper that indicate that there are 10 people who believe they owe me $100 each in a year, you might be willing to lend me, say, $1000, to be returned in a year.
Now suppose people come to be skeptical that those 10 debtors will pay me back in a year, perhaps because they overestimated how much their stuff would increase in value. (If their stuff was, say, a house, then the error was a belief about how much other people would pay for the house in the future.) So now no one wants to risk lending money to the initial creditor because they are carrying bad debts. If the creditor depends on loans for their operations, they are now in serious trouble. What started as shaky beliefs about individual debtors turns into a systemic collapse. You’ve seen this before. We call it a financial crisis.
Ok, so how does this answer my unasked question in high school?
The prices of the individual equities in the stock market were reflections of a large number of people’s beliefs. Up to Black Tuesday, many of those beliefs were optimistic. People in the market believed that the companies represented by those stocks would produce stuff—goods and services—that people would value and purchase in the future.1
This locates the wealth—the value of the shares of stock in the market—in the beliefs of the people who chose to buy them.
This idea, that expectations determine outcomes, dates at least as far back as John Maynard Keynes, who emphasized the role of expectations and so-called “animal spirits” in shaping economic behavior. Similarly, Robert Shiller's more recent work highlights how stories and beliefs influence economic decisions, leading to fluctuations in wealth. The village thought experiment illustrates their theories: the subjective nature of value, where beliefs about the future, rather than just physical assets, drive economic outcomes.
I find these ideas helpful to understand how wealth could disappear. This perspective entails that if, for whatever reason—a traveling charlatan, a pending disaster, new tariffs—beliefs change, then the amount of wealth does too. So it was never really about chickens and shovels. I mean, those matter. People’s beliefs about what price they will buy one share of a company depend how many widgets they think that company will make and sell in the future.
But the wealth in the market depends on beliefs. That‘s why it can be destroyed so quickly. If wealth is determined by beliefs, then it changes as beliefs change.
It’s important to note that this way of thinking doesn’t necessarily mean that the wealth was “illusory.” Take the recent gyrations of world markets. One way to think about it is that one share of, say, Apple, is worth so much under a set of beliefs about the future. For example, all of the stuff Apple has—employees, plants, contracts, etc.—have some value under a given tariff regime. Change the regime, and those beliefs change.
It works the other way, too. The price of an asset is a very nice summary of what people believe about the company’s future. Because shares of companies such as Apple can be bought and sold in an open market, with millions of participants, the invisible hand of the marketplace pushes the price to what the market participants, in aggregate, think about the future of the company.
This idea, of course, underlies futures markets. Many years ago, economists developed markets that allowed people to bet on future events. Who will win the Presidential election? When enough people participate in these markets, the price of a share of Person X to win provides an estimate of the overall belief of people in the market about the outcome. There are now any number of platforms that provide markets for future events, which give a glimpse into what people think is going to happen.
In any case, the same was true in the Great Depression. Equity prices depended on beliefs about the future. As those beliefs changed and there were belief cascades, huge amounts of wealth could just disappear.
So, yes, stuff matters. A chicken is a chicken.
But even the value of that chicken depends on beliefs. In a world in which people believe that hens have a long career laying eggs ahead of them, a hen is worth more than when the apocalypse is believed to be pending (or, say, the people have the belief that bird flu is spreading).
The speed at which wealth disappears depends to a large extent on the speed that information spreads. In Mary Poppins, an overheard remark to the effect that the bank wasn’t going to return a child’s two pence spread rapidly, causing many people to lose confidence in the bank, threatening a run. Today, lightning fast communications technologies support huge swings of belief as people with big platforms post that THIS STOCK WILL ROCKET 6X THIS WEEK!!! or what have you. Generally, the speed that information can spread—whether true or false—makes belief cascades more likely than in the past, leading to potential volatility in markets.
As beliefs spread rapidly, pretty much anything those beliefs are about can rapidly change in value. When everyone thinks that everyone else thinks that tulips are very valuable, tulip prices increase. When no one thinks that a currency is going to be accepted by others for much longer, prices—in this case, inflated ones—reflect those beliefs. When people think that a new currency is going to be accepted, prices rise.
So where does wealth go when it is destroyed?
Nowhere.
It was based on beliefs. Those beliefs supported the share prices. When the beliefs changed, they no longer supported the share prices.
In that sense, the wealth created by the beliefs vanishes. Not into fire or flood, but into that much scarier realm: human psychology.
This is not necessarily true. Investors need not have had any such beliefs. They might have believed that values would increase without really understanding why or how.