But further, the capitalization theory, as heretofore formulated, like the doctrines of supply and demand and cost of production, assumes _money_, and a _fixed absolute value_ of money. This assumption must be made if we are to be able to predict, on the basis of the capitalization theory, that a given annual income, at a given rate of discount, will give a specified capital value. This may be shown by the following considerations: If men anticipate that the value of the income, which is a fixed sum of dollars, is to grow less in the future, then the present worth of the bearer of that income will shrink to an extent greater than the "pure rate" of interest would call for. The principle of "appreciation and interest" comes in. The nominal interest, in times of falling value of money, tends to exceed the pure rate by an amount which compensates for the loss in value of future income as the dollar falls in value. We have here, however, a principle different from the principle of time discount. It is not the influence of time, which makes a _given_ value appear smaller as it is further removed in time, but it is an anticipated lessening in the value of the income itself, that counts. In terms of our candle and disk illustration, it is a factor affecting the size of the disk, rather than a factor affecting the distance between the disk and the candle. For the purposes of calculation, the two elements in the nominal rate of interest may be lumped together, and the nominal rate, rather than the pure rate, may be taken as the rate of discount for capitalization purposes. But for theoretical purposes, the two must be kept distinct. The capitalization theory rests on the assumption of a fixed value of the money unit.
That the fixed value of the money unit assumed is an absolute value, and not a mere "reciprocal of the price level," may be proved by some further considerations regarding relations among these same factors. Assume a fall in the rate of interest. Then, on the capitalization theory, prices of lands, stocks and bonds, houses, horses, and all items of wealth which give forth their services through an appreciable period of time, will rise, and with them the average of prices, or the general price level, will rise.[60] If one hold the _relative_ conception of value, according to which the value of money necessarily falls when prices rise, because the two are merely obverse phases of the same thing, then this rise in the price level is, _ipso facto_, a fall in the value of money. But we have seen that a fall in the value of money means, on the "principle of appreciation and interest," a rise in the interest rate! Hence, we would have proved that a fall in the interest rate causes a rise in the interest rate--which is absurd. If, however, we recognize that prices can rise without a fall in the value of money, if, _i. e._, we use the absolute conception of value, this difficulty disappears. The capitalization theory and the theory of appreciation and interest can be reconciled only on the basis of the absolute conception of value.