Sept. 11, 2000

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Time: It Really Is Money

Companies can prosper by helping customers save time

By Paul Romer

f you work for a company that buys or sells anything, or if you buy or sell anything yourself, you know that the world of commerce is changing. Throughout our economy, companies and consumers are interacting in entirely new ways. It's obvious that these changes, and the new business models that they've spawned, are being driven in large part by the information technology revolution. Every year, microprocessors, hard-disk storage, and bandwidth become dramatically less expensive. As the simplest economic reasoning would suggest, when prices for these goods fall, people use more of them.

The decline in the cost of IT hardware has been so rapid that it's tempting to assume it explains all the changes that take place in the economy and society. But in our lifetime, we've witnessed a second price change that's as jolting as the one in hardware: The cost of time has increased. To be sure, the rate of increase in the cost of time has been much less dramatic than the rate of price declines in IT. But human time is used in every productive process and every consumption activity, so changes in the cost of timehave pervasive effects on the economy and society.

To see what I mean by the cost of time, think about having to buy something. You have to pay to buy a product, and you also have to spend some time completing the transaction. For example, if you want to buy a book to take on vacation, you can drive to a bookstore, find something on the shelves, stand in line to pay for it, and drive back home. If this takes a quarter of an hour and the cash price for the book is $20, the total cost of the book is $20 plus 15 minutes of your time. Contrast this customer experience with an alternative: You buy the book by going on the Web, typing a few keystrokes, and clicking on a button to complete the sale. The book will arrive in your mailbox or on your doorstep in a few days. Because you have to pay $5 for shipping and handling, the direct monetary cost of this transaction might be $25 in charges on your credit card. But the online purchase takes only two minutes of your time. Which, then, is the less expensive way to buy the book?

One of my favorite cartoons shows a shaggy-haired scientist working at the blackboard with a caption that reads "Einstein discovers that time is money." The cartoon plays off Einstein's famous equation, which shows that energy is mass: e=mc2. Economists take the familiar adage that time is money and present it in the same kind of equation. We equate dollars (d) to time (t): d=tw. Here, the conversion factor that plays the same role as the speed of light squared in Einstein's equation is your wage (w).

If you're a regular reader of this magazine, you probably don't punch a time clock. You're not paid by the hour, and you can't convert some of your time into extra dollars by putting in a few extra hours of work. But you frequently consider choices that let you go the other way--to convert dollars into extra free time. Without being aware of it, you use some implicit value for w--your personal cost of time--to decide whether or not to purchase many types of goods and services. An easy starting place for thinking about the cost of your time is to take your annual salary and divide it by total hours worked per year. Another way to uncover your own cost of time is to imagine that someone offers to pay you to spend an hour to do some unrewarding task, such as going to the store and buying groceries. How much would that person have to offer you to make you indifferent to doing the chore or not doing it? You can work out your own individual value. I suspect that the typical reader of this magazine will come up with a cost of time that exceeds $60 per hour, but let's use this value because it makes it easy to do the math.

Now you have an explicit procedure for working out the total cost of the book in the two different transactions outlined above. If your time is worth $1 per minute, going to the store costs the $20 you pay at the cash register plus $15 worth of your time, for a total of $35. Buying the book online costs you a $25 charge to your credit card and $2 for the two minutes you spend online, for a total of $27.

Of course, cost isn't the only factor that people consider when they make purchases. If you're leaving for vacation tonight, it may be worth the extra cost to get a copy of the book now instead of in two or three days. You might also enjoy browsing at the bookstore, even if you already know which book you want to buy. For either reason, you may be willing to incur the extra cost of driving to the store instead of purchasing online.

In Einstein's energy-is-matter equation, the conversion factor c2 that links energy to mass is a fundamental constant of nature. In your time-is-money equation, the conversion factor changes with your income. Someone in college who works nights in the library for $6 an hour might gladly agree to spend an hour doing someone else's shopping in exchange for $30. But now that this person is working for $120,000 a year, he or she undoubtedly would rather have the extra free hour than the extra $30.

A person's wage, and therefore his or her cost of time, varies in an obvious way over the course of a lifetime. The cost of time is low in childhood, typically reaches a peak in middle age, and goes back down during retirement. But the pattern is different in the economy as a whole. Wages and the cost of time increase steadily from one decade to the next. The rate of change is much less impressive than the kind of price change for transistors implied by Moore's Law, and therefore attracts much less attention. But over time, the power of compounding leads to impressive changes in average wages and hence, in the average cost of time.

The chart on this page gives a rough indication of how average wages have changed in the last five decades in the United States. I constructed this data by taking total wage and salary income in each of the indicated years and dividing it by total hours worked. When measured this way, the average wage has increased from $8 in 1949 to $24 in 1999. Income here is measured in the purchasing power of 1996 dollars, so this calculation removes the effects of inflation. If the average worker spent an hour's worth of wages on bread, beef, and gasoline in 1949 and a comparable worker did the same thing in 1999, the worker in 1999 would end up with three times as many loaves of bread, pounds of beef, and gallons of gasoline.

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Illustration by Brian Cronin

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