Week in Review
Let’s imagine you buy your groceries a different way. Instead of going to the store and picking things off of the shelves and paying for them at checkout imagine this. You don’t pay the store. A third party does. Like it does for everyone else that shops at this store. Sounds great, doesn’t it? Let’s say people pool their money together for purchasing power. And have this third party take that pooled money and use it to get better pricing. Because of the large amounts they will be paying for.
So everyone pays in a monthly amount to their third-party purchaser. Then goes to the store and takes what they want. And at checkout they just sign an invoice to acknowledge they took this stuff. And the store will submit the bill to the third-party purchaser. Of course, there would have to be some rules. Because if everyone pays a flat amount each month you can’t have someone picking up steaks every day when you’re buying hamburger for your kids. So there are limits to what you can buy. Requiring the third party to review every submitted invoice. Requiring a very large staff to review every grocery store purchase to approve and disapprove line items on each and every invoice for payment. To resolve billing and payment errors. And to bill shoppers for any unapproved purchases they made. Even if they didn’t understand that these items weren’t covered.
So, included with that monthly payment there must be an overhead fee. To pay for all those people reviewing those invoices. Those who bill shoppers for unapproved items. Those who pay for the approved purchases. And those who process payments from shoppers. Still, things slip through the cracks. People are getting unapproved purchases through the system. Grocery prices rise. The overhead costs at the third party grow due to new costly regulations. Etc. Such that on occasion the total amount of cash out at the third party exceeds the total of cash in. Requiring them to raise the monthly amount everyone pays.
Sounds a bit more complicated than just going to the store and paying for what you want out of pocket. And more costly in the long run. But if someone else pays the third party for those monthly fees it’s a whole different story. Say as a benefit at work. Because without you having to pay anything it’s just free groceries. At least, to you. And you will demand that your employer pays for more stuff so it’s free to you. Even though it’s not. Because the rising cost of third party grocery purchases will cost your employer. Which will limit your pay. And other benefits. Because in the real world nothing is free. Even if people think that a lot of stuff is free. Or should be free. Like health care (see Nearly 7 in 10 Americans say health plans should cover birth control by Karen Kaplan posted 4/22/2014 on the Los Angeles Times).
Among the various provisions of the Affordable Care Act, few are as controversial as the one requiring health insurance providers to include coverage for contraception. A new survey finds that support for this rule is widespread, with 69% of Americans in favor of the mandate…
Women, African Americans, Latinos and parents living with children under the age of 18 had higher levels of support for mandatory contraception coverage than people in other demographic groups, the survey found…
— 85% of those surveyed supported mandatory coverage for mammograms and colonoscopies.
— 84% supported mandatory coverage for recommended vaccines.
— 82% were in favor of mandatory coverage for diabetes and cholesterol screening tests.
— 77% backed the provision on mandatory coverage for mental health care.
— 75% supported mandatory coverage of dental care, including routine cleanings.
There’s a reason why the United States is a republic and not a democracy. For the Founding Fathers feared a democracy. And wanted responsible people between the people and the treasury. For once people understood they could vote themselves the treasury they would. And things like this would happen. Mob rule. Where the mob demands more and more free stuff while fewer and fewer people pay for that ‘free’ stuff. And people in government anxious to win elections will keep giving the people more ‘free’ stuff that others have to pay for. Until one day you end up with the health care system we have in the United States. All because other people were paying for routine costs people could expect and budget for. Things that if they paid out of pocket for would cost less in the long run. Which would keep insurance what it was supposed to be. Insurance. And not turn it into a massive cost transfer scheme that only allowed the price of health care to soar.
Tags: Affordable Care Act, benefit, bill, contraception, democracy, Founding Fathers, free stuff, health insurance, insurance, invoice, Mob rule, overhead, payment, prices, routine costs, third party
Week in Review
Money is a temporary storage of value. We created money to make trade easier. We once bartered. We looked for people to trade with. But trying to find someone with something you wanted (say, a bottle of wine) that wanted what you had (say olive oil) could take a lot of time. Time that could be better spent making wine or olive oil. So the longer it took to search to find someone to trade with the more it cost in lost wine and olive oil production. Which is why we call this looking for people to trade goods with ‘search costs’.
Money changed that. Winemakers could sell their wine for money. And take that money to the supermarket and buy olive oil. And the olive oil maker could do likewise. Greatly increasing the efficiency of the market. There is a very important point here. Money facilitated trade between people who created value. Creating something of value is key. Because if people were just given money without producing anything of value they couldn’t trade that money for anything. For if people didn’t create things of value to buy what good was that money?
Today, thanks to Keynesian economics, governments everywhere believe they can create economic activity with money. And use their monetary powers to try and manipulate things in the economy to favor them. And one of their favorite things to do is to devalue their money. Make it worth less. So governments that borrow a lot of money can repay that money later with devalued money. Money that is worth less. So they are in effect paying back less than they borrowed. And governments love doing that. Of course, people who loan money are none too keen with this. Because they are getting less back than they loaned out originally. And there is another reason why governments love to devalue their money. Especially if they have a large export economy.
Before anyone can buy from another country they have to exchange their money first. And the more money they get in exchange the more they can buy from the exporting country. This is the same reason why you can enjoy a five-star vacation in a tropical resort in some foreign country for about $25. I’m exaggerating here but the point is that if you vacation in a country with a very devalued currency your money will buy a lot there. But the problem with making your exports cheap by devaluing your currency is that it has a down side. For a country to buy imports they, too, first have to exchange their currency. And when they exchange it for a much stronger currency it takes a lot more of it to buy those imports. Which is why when you devalue your currency you raise prices. Because it takes more of a devalued currency to buy things that a stronger currency can buy. Something the good people in Japan are currently experiencing under Abenomics (see Japan Risks Public Souring on Abenomics as Prices Surge by Toru Fujioka and Masahiro Hidaka posted 4/14/2014 on Bloomberg).
Prime Minister Shinzo Abe’s bid to vault Japan out of 15 years of deflation risks losing public support by spurring too much inflation too quickly as companies add extra price increases to this month’s sales-tax bump.
Businesses from Suntory Beverage and Food Ltd. to beef bowl chain Yoshinoya Holdings Co. have raised costs more than the 3 percentage point levy increase. This month’s inflation rate could be 3.5 percent, the fastest since 1982, according to Yoshiki Shinke, the most accurate forecaster of Japan’s economy for two years running in data compiled by Bloomberg…
“Households are already seeing their real incomes eroding and it will get worse with faster inflation,” said Taro Saito, director of economic research at NLI Research Institute, who says he’s seen prices of Chinese food and coffee rising more than the sales levy. “Consumer spending will weaken and a rebound in the economy will lack strength, putting Abe in a difficult position…”
Abe’s attack on deflation — spearheaded by unprecedented easing by the central bank — has helped weaken the yen by 23 percent against the dollar over the past year and a half, boosting the cost of imported goods and energy for Japanese companies.
Japan is an island nation with few raw materials. They have to import a lot. Including much of their energy. Especially since shutting down their nuclear reactors. Japan has a lot of manufacturing. But that manufacturing needs raw materials. And energy. Which are more costly with a devalued yen. Increasing their costs. Which they, of course, have to pay for when they sell their products. So their higher costs increase the prices their customers pay. Leaving the people of Japan with less money to buy their other household goods that are also rising in price. Which is why economies with high rates of inflation go into recession. As the recession will correct those high prices. With, of course, deflation.
Keynesians all think they can manipulate the market place to their favor by playing with monetary policy. But they are losing sight of a fundamental concept in a free market economy. Money doesn’t have value. It only holds value temporarily. It’s the things the factories produce that have value. And whenever you make it more difficult (i.e., raise their costs by devaluing the currency) for them to create value they will create less value. And the economy as a whole will suffer.
Tags: Abenomics, barter, currency, deflation, devalue, devalue their money, devaluing, devaluing your currency, energy, export, imports, inflation, Japan, Keynesian, market, money, prices, raise prices, raw materials, recession, search, search costs, temporary storage of value, trade, value
Week in Review
A lot of people fear big corporations. And fight hard against them. Especially the big ones that provide a wide variety of goods and/or services at lower prices than the competition. The kind that put Mom and Pop stores out of business. Opponents of these big corporations say those low prices are only a dirty trick to put the competition out of business. To make themselves a monopoly. And once they get rid of all competition with their unfair low prices there will be nothing to stop them from raising their prices. Higher than even the Mom and Pop stores they put out of business. Of course, if that were true then you wouldn’t read stories like this (see Chick-fil-A Stole KFC’s Chicken Crown With a Fraction of the Stores by Venessa Wong posted 3/28/2014 on BloombergBusinessweek).
The days when fried chicken was synonymous with a certain white-haired southern gentleman are over, at least in the U.S. A new champion has claimed KFC’s long-held chicken crown: Chick-fil-A…
Anyone in the northern half of the U.S. is likely scratching her head and wondering why she hasn’t seen Chick-fil-A outlets opening in the neighborhood. Last year Chick-fil-A only had about 1,775 U.S. stores to KFC’s 4,491, and most are in the South. Yet in dollar terms the Colonel is coming up short even with that much larger footprint: Chick-fil-A’s 2013 sales passed $5 billion, while all of KFC’s U.S. restaurants rang up about $4.22 billion, according to Technomic. And that’s with zero dollars coming in to Chick-fil-A on Sundays, when every restaurant is closed.
Chick-fil-A has fewer outlets than KFC. Yet they have a greater sales volume. Why? Because they sell at higher prices than KFC. According to those who fear big corporations this is not supposed to happen. KFC should be able to sell at lower prices than the smaller Chick-fil-A. So low that Chick-fil-A should go bankrupt trying to match the unfair lower prices of KFC. But that isn’t happening. Because there is no way any corporation can monopolize any industry without the government first creating a monopoly for them. As Chick-fil-A has proven. They thought they could offer food people would prefer over KFC. And did. Despite KFC dominating the industry. And the people liked the food so much that they were willing to pay more to eat Chick-fil-A over the less expensive KFC.
The only way you can shut someone out of an industry is by raising the barriers to enter that industry. Such as with costly licensing, permitting, fees, restrictive regulatory policies, etc. Things only the government can force on the competition wishing to enter a market. Thus limiting competition in that market to protect their crony friends. But if there is no government protection of established businesses that are monopolies or quasi monopolies anyone can enter the market and compete against them. As Chick-fil-A proves.
People shouldn’t fear big corporations. They should fear government. The only entity that can create and enforce a monopoly. For it is only with the government’s help that a monopoly can gouge customers with their high prices. Because in a free market with low barriers to enter it will be impossible to gouge customers as the competition will keep all pricing competitive. Because if some try to gouge their customers those customers will just go to the lower-priced competition.
Tags: barriers to enter, Chick-fil-A, competition, corporations, free market, higher prices, KFC, lower prices, market, mom and pop stores, monopoly, prices
Week in Review
The left wants to raise the minimum wage. They want to make companies pay salaried people overtime. And they want to block Wal-Mart from entering their communities. Because their many jobs destroy a few jobs. And their lower prices and wider selection of goods makes it difficult for Mom and Pop stores to sell a more limited selection of goods at higher prices.
Yes, they care about the little guy. And want the little guy to pay more for less at the local Mom and Pop stores the much richer more elite left can more easily afford. Which they like to frequent because those higher prices, of course, keep out the riffraff. For when it comes down to it the left likes to enjoy the things they like no matter how many jobs they destroy. Such as in the music industry. That went from the phonograph to the gramophone to vinyl to 8-track to compact cassette to CD to MP3 to subscription to download to streaming (see The times they are a-changin’ for the music business posted 3/21/2014 on The Economist). And every step along the way entire industries were destroyed along with the jobs in that industry.
But this is okay. This is creative destruction. Where something new and better replaces something older and not as good. A march of technology that makes our lives better. As in the music industry. As well as how cell phones destroyed the paid public phone industry. How email and texting is destroying the United States Postal Service. How digital cameras destroyed the film development industry. How wireless internet and tablet computers have destroyed the news paper industry. How smartphones destroyed the telephone book industry. Etc.
Things are better with these new technologies. And liberals love to use all of this technology as they sit sipping their espresso in their quaint coffee shops. Having no problem with all the creative destruction that allows them to do so. But let a Wal-Mart open up somewhere where people can hardly scrape by in life and they have a problem with that. Because they don’t want a Wal-Mart in their neighborhood. They want to keep it chic and unique and a little pricy. So the elitists can enjoy their time without having to be around people they deem less desirable. Like the shoppers at Wal-Mart.
Tags: creative destruction, elitist, jobs, mom and pop stores, prices, selection, technology, Wal-Mart
(Originally published July 30th, 2012)
Before we buy a Country’s Exports we have to Exchange our Currency First
What’s the first thing we do when traveling to a foreign country? Exchange our currency. Something we like to do at our own bank. Before leaving home. Where we can get a fair exchange rate. Instead of someplace in-country where they factor the convenience of location into the exchange rate. Places we go to only after we’ve run out of local currency. And need some of it fast. So we’ll pay the premium on the exchange rate. And get less foreign money in exchange for our own currency.
Why are we willing to accept less money in return for our money? Because when we run out of money in a foreign country we have no choice. If you want to eat at a McDonalds in Canada they expect you to pay with Canadian dollars. Which is why the money in the cash drawer is Canadian money. Because the cashier accepts payment and makes change in Canadian money. Just like they do with American money in the United States.
So currency exchange is very important for foreign purchases. Because foreign goods are priced in a foreign currency. And it’s just not people traveling across the border eating at nice restaurants and buying souvenirs to bring home. But people in their local stores buying goods made in other countries. Before we buy them with our American dollars someone else has to buy them first. Japanese manufacturers need yen to run their businesses. Chinese manufacturers need yuan to run their businesses. Indian manufacturers need rupees to run their businesses. So when they ship container ships full of their goods they expect to get yen, yuan and rupees in return. Which means that before anyone buys their exports someone has to exchange their currency first.
Goods flow One Way while Gold flows the Other until Price Inflation Reverses the Flow of Goods and Gold
We made some of our early coins out of gold. Because different nations used gold, too, it was relatively easy to exchange currencies. Based on the weight of gold in those coins. Imagine one nation using a gold coin the size of a quarter as their main unit of currency. And another nation uses a gold coin the size of a nickel. Let’s say the larger coin weighs twice as much as the smaller coin. Or has twice the amount of gold in it. Making the exchange easy. One big coin equals two small coins in gold value. So if I travel to the country of small coins with three large gold coins I exchange them for six of the local coins. And then go shopping.
The same principle follows in trade between these two countries. To buy a nation’s exports you have to first exchange your currency for theirs. This is how. You go to the exporter country with bags of your gold coins. You exchange them for the local currency. You then use this local currency to pay for the goods they will export to you. Then you go back to your country and wait for the ship to arrive with your goods. When it arrives your nation has a net increase in imported goods (i.e., a trade deficit). And a net decrease in gold. While the other nation has a net increase in exported goods (i.e., a trade surplus). And a net increase in gold.
The quantity theory of money tells us that as the amount of money in circulation increases it creates price inflation. Because there’s more of it in circulation it’s easy to get and worth less. Because the money is worth less it takes more of it to buy the same things it once did. So prices rise. As prices rise in a nation with a trade surplus. And fall in a nation with a trade deficit. Because less money in circulation makes it harder to get and worth more. Because the money is worth more it takes less of it to buy the same things it once did. So prices fall. This helps to make trade neutral (no deficit or surplus). As prices rise in the exporter nation people buy less of their more expensive exports. As prices fall in an importer nation people begin buying their less expensive exports. So as goods flow one way gold flows the other way. Until inflation rises in one country and eventually reverses the flow of goods and gold. We call this the price-specie flow mechanism.
In the Era of Floating Exchange Rates Governments don’t have to Act Responsibly Anymore
This made the gold standard an efficient medium of exchange for international trade. Whether we used gold. Or a currency backed by gold. Which added another element to the exchange rate. For trading paper bills backed by gold required a government to maintain their domestic money supply based on their foreign exchange rate. Meaning that they at times had to adjust the number of bills in circulation to maintain their exchange rate. So if a country wanted to lower their interest rates (to encourage borrowing to stimulate their economy) by increasing the money supply they couldn’t. Limiting what governments could do with their monetary policy. Especially in the age of Keynesian economics. Which was the driving force for abandoning the gold standard.
Most nations today use a floating exchange rate. Where countries treat currencies as commodities. With their own supply and demand determining exchange rates. Or a government’s capital controls (restricting the free flow of money) that overrule market forces. Which you can do when you don’t have to be responsible with your monetary policy. You can print money. You can keep foreign currency out of your county. And you can manipulate your official exchange rate to give you an advantage in international trade by keeping your currency weak. So when trading partners exchange their currency with you they get a lot of yours in exchange. Allowing them to buy more of your goods than they can buy from other nations with the same amount of money. Giving you an unfair trade advantage. Trade surpluses. And lots of foreign currency to invest in things like U.S. treasury bonds.
The gold standard gave us a fixed exchange rate and the free flow of capital. But it limited what a government could do with its monetary policy. An active monetary policy will allow the free flow of capital but not a fixed exchange rate. Capital controls prevent the free flow of capital but allows a fixed exchange rate and an active monetary policy. Governments have tried to do all three of these things. But could never do more than two. Which is why we call these three things the impossible trinity. Which has been a source of policy disputes within a nation. And between nations. Because countries wanted to abandoned the gold standard to adopt policies that favored their nation. And then complained about nations doing the same thing because it was unfair to their own nation. Whereas the gold standard made trade fair. By making governments act responsible. Something they never liked. And in the era of floating exchange rates they don’t have to act responsibly anymore.
Tags: capital controls, currency, currency exchange, exchange rate, exported goods, exports, fixed exchange rate, floating exchange rate, foreign currency, foreign goods, gold, gold standard, goods, inflation, international trade, monetary policy, price inflation, prices, trade deficit, trade surplus
(Originally published February 27th, 2012)
Because of the Unpredictable Human Element in all Economic Exchanges the Austrian School is more Laissez-Faire
Name some of the great inventions economists gave us. The computer? The Internet? The cell phone? The car? The jumbo jet? Television? Air conditioning? The automatic dishwasher? No. Amazingly, economists did not invent any of these brilliant inventions. And economists didn’t predict any of these inventions. Not a one. Despite how brilliant they are. Well, brilliant by their standard. In their particular field. For economists really aren’t that smart. Their ‘expertise’ is in the realm of the social sciences. The faux sciences where people try to quantify the unquantifiable. Using mathematical equations to explain and predict human behavior. Which is what economists do. Especially Keynesian economists. Who think they are smarter than people. And markets.
But there is a school of economic thought that doesn’t believe we can quantify human activity. The Austrian school. Where Austrian economics began. In Vienna. Where the great Austrian economists gathered. Carl Menger. Ludwig von Mises. And Friedrich Hayek. To name a few. Who understood that economics is the sum total of millions of people making individual human decisions. Human being key. And why we can’t reduce economics down to a set of mathematical equations. Because you can’t quantify human behavior. Contrary to what the Keynesians believe. Which is why these two schools are at odds with each other. With people even donning the personas of Keynes and Hayek to engage in economic debate.
Keynesian economics is more mainstream than the Austrian school. Because it calls for the government to interfere with market forces. To manipulate them. To make markets produce different results from those they would have if left alone. Something governments love to do. Especially if it calls for taxing and spending. Which Keynesian economics highly encourage. To fix market ‘failures’. And recessions. By contrast, because of the unpredictable human element in all economic exchanges, the Austrian school is more laissez-faire. They believe more in the separation of the government from things economic. Economic exchanges are best left to the invisible hand. What Adam Smith called the sum total of the millions of human decisions made by millions of people. Who are maximizing their own economic well being. And when we do we maximize the economic well being of the economy as a whole. For the Austrian economist does not believe he or she is smarter than people. Or markets. Which is why an economist never gave us any brilliant invention. Nor did their equations predict any inventor inventing a great invention. And why economists have day jobs. For if they were as brilliant and prophetic as they claim to be they could see into the future and know which stocks to buy to get rich so they could give up their day jobs. When they’re able to do that we should start listening to them. But not before.
Low Interest Rates cause Malinvestment and Speculation which puts Banks in Danger of Financial Collapse
Keynesian economics really took off with central banking. And fractional reserve banking. Monetary tools to control the money supply. That in the Keynesian world was supposed to end business cycles and recessions as we knew them. The Austrian school argues that using these monetary tools only distorts the business cycle. And makes recessions worse. Here’s how it works. The central bank lowers interest rates by increasing the money supply (via open market transactions, lowering reserve requirements in fractional reserve banking or by printing money). Lower interest rates encourage people to borrow money to buy houses, cars, kitchen appliances, home theater systems, etc. This new economic activity encourages businesses to hire new workers to meet the new demand. Ergo, recession over. Simple math, right? Only there’s a bit of a problem. Some of our worst recessions have come during the era of Keynesian economics. Including the worst recession of all time. The Great Depression. Which proves the Austrian point that the use of Keynesian policies to end recessions only makes recessions worse. (Economists debate the causes of the Great Depression to this day. Understanding the causes is not the point here. The point is that it happened. When recessions were supposed to be a thing of the past when using Keynesian policies.)
The problem is that these are not real economic expansions. They’re artificial ones. Created by cheap credit. Which the central bank creates by forcing interest rates below actual market interest rates. Which causes a whole host of problems. In particular corrupting the banking system. Banks offer interest rates to encourage people to save their money for future use (like retirement) instead of spending it in the here and now. This is where savings (or investment capital) come from. Banks pay depositors interest on their deposits. And then loan out this money to others who need investment capital to start businesses. To expand businesses. To buy businesses. Whatever. They borrow money to invest so they can expand economic activity. And make more profits.
But investment capital from savings is different from investment capital from an expansion of the money supply. Because businesses will act as if the trend has shifted from consumption (spending now) to investment (spending later). So they borrow to expand operations. All because of the false signal of the artificially low interest rates. They borrow money. Over-invest. And make bad investments. Even speculate. What Austrians call malinvestments. But there was no shift from consumption to investment. Savings haven’t increased. In fact, with all those new loans on the books the banks see a shift in the other direction. Because they have loaned out more money while the savings rate of their depositors did not change. Which produced on their books a reduction in the net savings rate. Leaving them more dangerously leveraged than before the credit expansion. Also, those lower interest rates also decrease the interest rate on savings accounts. Discouraging people from saving their money. Which further reduces the savings rate of depositors. Finally, those lower interest rates reduce the income stream on their loans. Leaving them even more dangerously leveraged. Putting them at risk of financial collapse should many of their loans go bad.
Keynesian Economics is more about Power whereas the Austrian School is more about Economics
These artificially low interest rates fuel malinvestment and speculation. Cheap credit has everyone, flush with borrowed funds, bidding up prices (real estate, construction, machinery, raw material, etc.). This alters the natural order of things. The automatic pricing mechanism of the free market. And reallocates resources to these higher prices. Away from where the market would have otherwise directed them. Creating great shortages and high prices in some areas. And great surpluses of stuff no one wants to buy at any price in other areas. Sort of like those Soviet stores full of stuff no one wanted to buy while people stood in lines for hours to buy toilet paper and soap. (But not quite that bad.) Then comes the day when all those investments don’t produce any returns. Which leaves these businesses, investors and speculators with a lot of debt with no income stream to pay for it. They drove up prices. Created great asset bubbles. Overbuilt their capacity. Bought assets at such high prices that they’ll never realize a gain from them. They know what’s coming next. And in some darkened office someone pours a glass of scotch and murmurs, “My God, what have we done?”
The central bank may try to delay this day of reckoning. By keeping interest rates low. But that only allows asset bubbles to get bigger. Making the inevitable correction more painful. But eventually the central bank has to step in and raise interest rates. Because all of that ‘bidding up of prices’ finally makes its way down to the consumer level. And sparks off some nasty inflation. So rates go up. Credit becomes more expensive. Often leaving businesses and speculators to try and refinance bad debt at higher rates. Debt that has no income stream to pay for it. Either forcing business to cut costs elsewhere. Or file bankruptcy. Which ripples through the banking system. Causing a lot of those highly leveraged banks to fail with them. Thus making the resulting recession far more painful and more long-lasting than necessary. Thanks to Keynesian economics. At least, according to the Austrian school. And much of the last century of history.
The Austrian school believes the market should determine interest rates. Not central bankers. They’re not big fans of fractional reserve banking, either. Which only empowers central bankers to cause all of their mischief. Which is why Keynesians don’t like Austrians. Because Keynesians, and politicians, like that power. For they believe that they are smarter than the people making economic exchanges. Smarter than the market. And they just love having control over all of that money. Which comes in pretty handy when playing politics. Which is ultimately the goal of Keynesian economics. Whereas the Austrian school is more about economics.
Tags: asset bubbles, Austrian economics, Austrian school, Austrian school of economics, bad debt, banking, banking system, business cycle, businesses, central banking, cheap credit, consumption, credit, debt, depositors, deposits, economic activity, economic exchanges, Economics, economists, fractional reserve banking, free market, Great Depression, Hayek, human behavior, income stream, inflation, interest rates, investment, investment capital, Keynes, Keynesian, Keynesian economists, loan, malinvestment, market forces, market interest rates, mathematical equations, monetary tools, money supply, predict human behavior, prices, quantify, recessions, savings, savings accounts, savings rate, speculation, unquantifiable, workers
Week in Review
You can either fight ‘manmade’ global warming or you can have low energy prices. But you can’t have both (see British Gas to raise prices by 9.2% posted 10/17/2013 on BBC News Business).
British Gas is to increase prices for domestic customers, with a dual-fuel bill going up by 9.2% from 23 November.
The increase, which will affect nearly eight million households in the UK, includes an 8.4% rise in gas prices and a 10.4% increase in electricity prices.
The company said it “understands the frustration” of prices rising faster than incomes. The average annual household bill will go up by £123 [$198.89]…
The company said that the cost of buying energy on the global markets, delivering gas and electricity to customers’ homes, and the government’s “green” levies, were all factors in the decision to put up prices.
With a focus on renewables we bring fewer fossil fuels to market. Coal, oil and natural gas. And with the war against clean nuclear power we’re shutting down our reactors. So instead we focus on the more costly wind and solar power. Because it takes a lot more costly infrastructure to capture the ‘free’ energy from the sun and the wind. So much that the taxpayer has to subsidize them. To bring us that ‘free’ energy. When the sun is shining and the wind is blowing, that is. Which brings us to that costly distribution system.
People can put solar arrays on their home to use that ‘free’ solar power during sunny days. But what about cloudy days? And night? Wind farms can generate ‘free’ wind power when the winds are blowing right. But what about when they are not blowing right? Either too fast? Too slow? Or not at all? What then? Fossil fuels. That’s what.
Baseload power (typically coal that takes hours to bring on line) is a funny thing. To be cost effective power plants run at full capacity 24/7. When demand rises they can bring on some ‘peaker’ units (typically gas that are quick to bring on line) to add additional capacity. So power companies have to maintain baseload power even if the people aren’t buying any to be available when solar and wind aren’t. And if all the homes disconnected from the grid and ran on solar power during the day the power companies would still have to keep them physically connected to the grid. So these homes can use their power at night.
This is why energy prices are rising. Revenue at power companies are falling due to that ‘free’ wind and solar power while their expenses are not. And because they are selling to fewer customers they have to charge them more to cover their expenses.
Affordable energy for the people lies with fossil fuels. Not renewables. Governments have to choose. All the people. Or their liberal base. Less costly power from fossil fuels. Or more costly power from renewables. It’s that easy. For you can fight ‘manmade’ global warming or you can have low energy prices. You just can’t have both.
Tags: baseload power, electricity, electricity prices, energy prices, fossil fuels, free energy, gas, gas prices, Global Warming, manmade global warming, peaker unit, power plants, prices, renewables, solar, UK, wind
(Originally published February 20th, 2012)
John Maynard Keynes said if the People aren’t Buying then the Government Should Be
Keynesian economics is pretty complex. So is the CliffsNotes version. So this will be the in-a-nutshell version. Keynesian economics basically says, in a nut shell, that markets are stupid. Because markets are full of stupid people. If we leave people to buy and sell as they please we will continue to suffer recession after recession. Because market failures give us the business cycle. Which are nice on the boom side. But suck on the bust side. The recession side. So smart people got together and said, “Hey, we’re smart people. We can save these stupid people from themselves. Just put a few of us smart people into government and give us control over the economy. Do that and recessions will be a thing of the past.”
Well, that’s the kind of thing governments love to hear. “Control over the economy?” they said. “We would love to take control of the economy. And we would love to control the stupid people, too. Just tell us how to do it and our smart people will work with your smart people and we will make the world a better place.” And John Maynard Keynes told them exactly what to do. And by exactly I mean exactly. He transformed economics into mathematical equations. And they all pretty much centered on doing one thing. Moving the demand curve. (A downward sloping graph showing the relationship between prices and demand for stuff; higher the price the lower the demand and vice versa).
In macroeconomics (i.e., the ‘big picture’ of the national economy), Keynes said all our troubles come from people not buying enough stuff. That they aren’t consuming enough. And when consumption falls we get recessions. Because aggregate demand falls. Aggregate demand being all the people put together in the economy out there demanding stuff to buy. And this is where government steps in. By picking up the slack in personal consumption. Keynes said if the people aren’t buying then the government should be. We call this spending ‘stimulus’. Governments pass stimulus bills to shift the demand curve to the right. A shift to the right means more demand and more economic activity. Instead of less. Do this and we avoid a recession. Which the market would have entered if left to market forces. But not anymore. Not with smart people interfering with market forces. And eliminating the recession side of the business cycle.
Keynesians prefer Deficit Spending and Playing with the Money Supply to Stimulate the Economy
Oh, it all sounds good. Almost too good to be true. And, as it turns out, it is too good to be true. Because economics isn’t mathematical. It’s not a set of equations. It’s people entering into trades with each other. And this is where Keynesian economics goes wrong. People don’t enter into economic exchanges with each other to exchange money. They only use money to make their economic exchanges easier. Money is just a temporary storage of value. Of their human capital. Their personal talent that provides them business profits. Investment profits. Or a paycheck. Money makes it easier to go shopping with the proceeds of your human capital. So we don’t have to barter. Exchange the things we make for the things we want. Imagine a shoemaker trying to barter for a TV set. By trading shoes for a TV. Which won’t go well if the TV maker doesn’t want any shoes. So you can see the limitation in the barter system. But when the shoemaker uses money to buy a TV it doesn’t change the fundamental fact that he is still trading his shoemaking ability for that TV. He’s just using money as a temporary storage of his shoemaking ability.
We are traders. And we trade things. Or services. We trade value created by our human capital. From skill we learned in school. Or through experience. Like working in a skilled trade under the guidance of a skilled journeyperson or master tradesperson. This is economic activity. Real economic activity. People getting together to trade their human capital. Or in Keynesian terms, on both sides of the equation for these economic exchanges is human capital. Which is why demand-side economic stimulus doesn’t work. Because it mistakes money for human capital. One has value. The other doesn’t. And when you replace one side of the equation with something that doesn’t have value (i.e., money) you cannot exchange it for something that has value (human capital) without a loss somewhere else in the economy. In other words to engage in economic exchanges you have to bring something to the table to trade. Skill or ability. Not just money. If you bring someone else’s skill or ability (i.e., their earned money) to the table you’re not creating economic activity. You’re just transferring economic activity to different people. There is no net gain. And no economic stimulus.
When government spends money to stimulate economic activity there are no new economic exchanges. Because government spending is financed by tax revenue. Wealth they pull out of the private sector so the public sector can spend it. They take money from some who can’t spend it and give it to others who can now spend it. The reduction in economic activity of the first group offsets the increase in economic activity in the second group. So there is no net gain. Keynesians understand this math. Which is why they prefer deficit spending (new spending paid by borrowing rather than taxes). And playing with the money supply.
The End Result of Government Stimulus is Higher Prices for the Same Level of Economic Activity
The reason we have recessions is because of sticky wages. When the business cycle goes into recession all prices fall. Except for one. Wages. Those sticky wages. Because it is not easy giving people pay cuts. Good employees may just leave and work for someone else for better pay. So when a business can’t sell enough to maintain profitability they cut production. And lay off workers. Because they can’t reduce wages for everyone. So a few people lose all of their wages. Instead of all of the people losing all of their wages by a business doing nothing to maintain profitability. And going out of business.
To prevent this unemployment Keynesian economics says to move the aggregate demand curve to the right. In part by increasing government spending. But paying for this spending with higher taxes on existing spenders is a problem. It cancels out any new economic activity created by new spenders. So this is where deficit spending and playing with the money supply come in. The idea is if the government borrows money they can create economic activity. Without causing an equal reduction in economic activity due to higher taxes. And by playing with the money supply (i.e., interest rates) they can encourage people to borrow money to spend even if they had no prior intentions of doing so. Hoping that low interest rates will encourage them to buy a house or a car. (And incur dangerous levels of debt in the process). But the fatal flaw in this is that it stimulates the money supply. Not human capital.
This only pumps more money into the economy. Inflates the money supply. And depreciates the dollar. Which increases prices. Because a depreciated dollar can’t buy as much as it used to. So whatever boost in economic activity we gain will soon be followed by an increase in prices. Thus reducing economic activity. Because of that demand curve. That says higher prices decreases aggregate demand. And decreases economic activity. The end result is higher prices for the same level of economic activity. Leaving us worse off in the long run. If you ever heard a parent say when they were a kid you could buy a soda for a nickel this is the reason why. Soda used to cost only a nickel. Until all this Keynesian induced inflation shrunk the dollar and raised prices through the years. Which is why that same soda now costs a dollar.
Tags: ability, aggregate demand, aggregate demand curve, business cycle, consumption, deficit, deficit spending, demand, demand curve, economic activity, economic exchanges, economic stimulus, Economics, economy, government spending, higher prices, human capital, inflation, interest rates, John Maynard Keynes, Keynes, Keynesian, Keynesian economics, market forces, markets, money, money supply, prices, recession, skill, smart people, sticky wages, stimulus, stupid people, taxes, trade, traders, value
Week in Review
The British economy appears to be turning the corner. Of course, they have an advantage over the American economy. They’re not stuck buying petrol with a devalued American dollar (see UK economy growing at fastest rate in the developed world by Philip Aldrick, and Steve Hawkes posted 10/3/2013 on The Telegraph).
And there were hopes tonight that the signs of life could help tackle the cost of living, with a strong pound helping to push down the cost of petrol, which is traded globally in US dollars.
There are two primary forces that determine the price of gasoline. Supply and demand. And the strength of the US dollar.
Thanks to the worst economic recovery since that following the Great Depression, gasoline is not in as great of demand as it once was. Before President Obama became president. With so many people having left the labor force people just don’t have the money to put into their gas tanks. Hence the ‘staycation’. Spending the family vacation at home. Doing fun things in the backyard. Like cutting the grass. And then when the kids’ chores are done there’s hotdogs on the grill. Can a week at Disneyland compare to that?
Even though we’re buying less gas gasoline prices are still pretty high. Why? Because unlike the British we buy our gasoline with devalued dollars. Due to all of that quantitative easing. Printing money to buy treasury bonds. To stimulate the economy. Where only the rich Wall Street traders who buy and sell these bonds are getting stimulated.
With more money in circulation chasing the same goods and services in the economy it takes more dollars to buy what they once did. Including gasoline. Especially gasoline. For the higher price of gas can be hidden in other products by reducing the package size of the product sold. Such as smaller cereal boxes. The prices may not be going up on cereal but we have to buy cereal more often. Spending more money in the long run. The higher price of gasoline (due to a weaker dollar) makes everything more expensive in the supply chain that ultimately puts those boxes of cereal on the supermarket shelf. Ditto for everything else that is moved with gasoline or diesel. But they can’t shrink the package size of gasoline to hide the added cost from the devalued dollar. Because they sell gasoline by a fixed measurement. We buy it by the gallon. We don’t buy it by the box. If we sold cereal by a fixed measurement we’d see cereal prices rising a lot higher than they are now. But they’re not. So the boxes are getting smaller.
The British pound is stronger than the US dollar. So when the British buy oil on the world market they exchange stronger pounds for weaker dollars. Getting more dollars in exchange for their pounds. Removing the U.S. price inflation (due to the devalued dollar) from the price of oil. Lowering the cost of oil in Britain. And lowering costs throughout the British supply chain. Which will help lower the British cost of living. Making life easier for the British consumer. Because the British are more responsible with their currency than the Obama administration is with the American currency.
Tags: British economy, cost of living, currency, devalued American dollar, devalued dollars, gasoline, oil, petrol, President Obama, price of gasoline, prices, strong pound, US dollar, weaker dollar
A Scarce Thing has a Higher Price because Everyone that Wants One can’t Have One
Economics is the study of the use of scarce resources. Scarce resources that have alternative uses. For example, we can use corn for human food. Animal feed. We can make bourbon from it. And we can even use it for fuel to power our cars. So there are alternative uses for corn.
And corn is scarce. There is not an unlimited supply of it. During the drought the United States suffered in 2012 farmers brought in a greatly reduced corn harvest. Which caused corn prices to rise. Per the laws of supply and demand. If demand remains relatively constant while the supply falls the price of corn rises. Why?
Scarce things always have a higher price. A painting by Vincent van Gogh has a very high price because each painting is a one of a kind. And only one person can own it. So those who want to own it bid against each other. And the person who places the greatest value on the painting will get the painting. Because they will pay more for it than anyone else. Whereas no one would pay for a cartoon in a newspaper. Because they are not scarce. As they appear in every newspaper. Newspapers we throw away or put in the recycling tub every week. Something that would never happen with a Vincent van Gogh painting.
Price Controls fail because People won’t Change their Purchasing Habits when Buying Scarce Resources
Government spending exploded during the late Sixties and early Seventies. Paid for with printed money. A lot of it. Igniting inflation. Causing a great outflow of gold from the country. And with inflation spiking prices soared. Rising prices reduced the purchasing power of American paychecks. Add in an oil shock and the people were reeling. Demanding relief from the government.
With the price of gasoline going through the stratosphere President Nixon stepped in to fix that problem. Or so he thought. First he decoupled the dollar from gold. So they could print more dollars. Causing even more inflation. And even higher prices. Then to solve the high prices Nixon implemented price controls. Setting a maximum price for gasoline. Among other things. Sounds nice. Wouldn’t you like to see gas prices held down to a maximum price so it consumed less of your paycheck? But there is only one problem when you do this. People won’t change their purchasing habits when it comes to buying scarce resources.
Why is this a problem? Because the oil shock caused a reduction in supply. With the same amount of gas purchasing with a reduced supply the supply will run out. Which is what happened. Gas stations ran out of gas. Which they addressed with gas rationing. Which led to long gas lines at gas stations. With people pushing their cars to the pump as they ran out of gas in line.
Obamacare will Fail because no matter how Good the Intentions you cannot Change the Laws of Supply and Demand
Obamacare is increasing the demand for health care. By providing health care for millions who didn’t have health insurance before. So demand is increasing while supply remains the same. There is only one problem with this. With more people consuming the supply of health care resources those health care resources will run out. Leading to rationing. And longer wait-times for health care resources. Just like gasoline in the Seventies.
One of the stated goals of Obamacare was to lower health care costs. But what happens when you increase demand while supply remains relatively constant? Prices rise. Because more people are bidding up the price of those scarce resources. Obamacare may try to limit what doctors and hospitals can charge like they do in Medicare, but everything feeding into the health care industry will feel that demand. And raise their prices. Which will trickle down to the doctors and hospitals. And if they can’t pass on those higher prices to whoever pays their bills they will have to cut costs. Which means fewer doctors, fewer nurses, fewer technicians and fewer tests and procedures. Which means rationing. And longer wait-times for scarce health care resources.
President Obama may say he’s going to provide health care to more people while cutting health care costs but the laws of supply and demand say otherwise. In fact the laws of supply and demand say Obamacare will do the exact opposite. So whatever rosy picture they paint no one will be linking arms and singing Kumbaya. Unless they like paying higher taxes, waiting longer and traveling farther to see a doctor. Which is what is happening in the United Kingdom. And in Canada. Which is why Obamacare will fail. Because no matter how good the intentions you cannot change the laws of supply and demand.
Tags: alternative uses, demand, gold, Health Care, health care resources, inflation, laws of supply and demand, Obamacare, oil shock, price controls, prices, purchasing power, rationing, scarce resources, spending, supply, supply and demand, wait times
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