So I am taking a basic course in macroeconomics and to vent some of the frustration over the bs we are being thought I started to write a text on inflation and it’s assumed necessity.
However then taking the arguments for inflation from class and building on the further in my text I came up with something I need some help to counter.
As I understand it we assume that with a constant money supply prices will decrease. Because technology makes things cheaper to produce and also because money will become more and more valuable as the same amount of money is used to exchange the increasing stock of goods and services.
So the argument for inflation goes that people will postpone purchases if prices decrease. I know several counter-arguments for this however the problem is if people would start hoarding under these conditions.
There seems to be small incentive to hoard money under ever decreasing prices. Especially people that where used to inflation before. So if people do start hoarding wouldn’t hoarding decrease the supply of money and thus decrease the prices on goods even further and create even bigger incentives for hoarding? Creating some self-fulling spiral that will create massive economic turmoil if it starts.
So what am I missing here and how would this argument be countered?
Well that is hardly the only effect rapid cycles of contractions and expansions in the money supply due to hoarding would have…
For someone to buy something now rather then later the benefit of using the item now rather then later most be larger then the expected decrease in price. If prices decline exponentially it will just be less likely people buy something cause they want it now rather then to wait.
So some other mechanism would be needed for anyone to take that better deal. That mechanism would be that they don’t think that the prices will continue to decline as rapidly as before (well some people stuff would get really old and break, but people clinging longer to old stuff just because of money supply effects is hardly beneficial for the economy). So this becomes a speculator decision, which I think makes it far less likely that people would just go out and start buying in some steady stream one buy one. Rather it would create short term bubbles in the money supply like stock markets…
No, they would obviously buy new stuff. However they might use there old stuff longer then what is “natural”.
Ofcourse the problem is defining what is natural. Under inflation you loose value by making people to buy new stuff sooner then they really want to when there really is some better usage for the resources spent on replacing the car or whatever prematurely.
But if you keep using an old car just because other people are hoarding money this don’t seem like an optimal utilization of resources either.
If everything you could ever hope to buy would be available in such superabundance that it would seem to you to be free, and an angel tells you that the date this would happen will be 1 month from now. would you refrain from buying any products for the next 30 days?
after 30days had passed, your money would have almost no utility for you, you may as well spend now (29 days leading up) before things become so cheap that your money wealth hardly matters…
It seems that way to the man in the car. who else matters? besides all the people hoarding are making the cars you could buy cheaper. how does this hurt you???
“seems” is the problem here. You realise you could just reverse the first sentence and use it for the other side.
Under inflation it seems like optimal use of resources to the person buying a new car before he really need one…
When we all come to the conclusion cars are really cheap now and we best go buy one this will create a surge in the money supply and business liquidity planning will go out the window and they will go bankrupt.
I remember when the recession first started, one of the Keynesian mods on another forum kept posting C+I+G+X-M saying that without any support from C or I, G would have to step forward and start things moving again or else we’d get the deflation spiral. I asked him why couldn’t C just step back into the game after prices fell in certain places and rose in others and rebalance the system but he never gave me a good answer. He said that because of the credit crunch, both C and I were out of the game. So basically, government causes a massive credit expansion via the Fed by lowering interest rates, overspeculation leads to malinvestment, which manifested itself in a boom in housing. When that fell apart, credit froze and the money supply shrank at which point G steps in and starts spending again, thus creating another credit expansion which will ultimately lead to more malinvestment and then a bust and a credit contraction at which point the G will be called in to bring spending back up.
The real problem with the deflation spiral is that it ignores or downplays the consequences of the inflation spiral, imo.
Falling prices due to increases in productivity typically doesn’t occur rapidly enough to make people withold from buying.
Now, in a deflationary collapse of an inflated fiat money supply, such a severe economic contraction and price collapse would be worth waiting for. That is, if the central bank were to let the money supply contract - as the free market is attempting to make happen.
If I go computer shopping now I know that the machine will be obsolete in a year and I could buy more computer for the same dollar next year. But I still buy today because I want to consume today and I am used to the concept of next year it will be cheaper and better. I consume my computer now and in a couple of years I’ll buy another one.
As for buying a house I wanted to buy one a couple years ago, but I didn’t. I won’t buy one now. Not because prices will be even lower next year and the year after (in real terms), but because gov’t is interferring and creating a massive distortion in the housing market. I have no clue of the real valuation for house prices considering all the gov’t interference in this economy. It will implode. I therefore continue to happily rent.
“As for buying a house I wanted to buy one a couple years ago, but I didn’t. I won’t buy one now. Not because prices will be even lower next year and the year after (in real terms), but because gov’t is interferring and creating a massive distortion in the housing market. I have no clue of the real valuation for house prices considering all the gov’t interference in this economy. It will implode. I therefore continue to happily rent.”
They would step back in sooner or later. The problem I see if a lot of consumers keep going in and out at the almost the same time. Rapid fluctuations in the price of money can’t be good.
It depends on how fast this happen and how fast the market responds though. If the market responded instantly to people seizing or starting there “hoarding cycle” there wouldn’t be a problem. But there is always a lag…
under a free-market scenario there is again no ‘problem’ even with this. only if there is government intervention does the market system fail to deliver on the demands of the consumers in the most rational way.
it will create a surge of monetary demand in that market, but the money supply has not changed. there were the same number of coins and gold bars before as after. your scenario was premised on invariable money supply wasn’t it?
business will go bankrupt when people respond to their prices having lowered and they actually start buying the products, and even competing to purchase the products thereby encouraging the prices to rise?
Maybe it’s just a question of which is worse: prices coming down, unemployment going up but prices returning to real levels and malinvestments being wiped out or having the government step in to reinflate the bubble and devalue the currency in order to prevent a drastic cut in the money stock?
Most people seemed to think the first alternative was worse than the second.
The Keynesian fallacy is that in completely leaves out time preference. Are you willing to wait for prices to drop, or do you want it now? For instance, a Sony PS3 in 2006 was 700 dollars I think, that didn’t stop people from buying it on auction for thousands. The price has decreased since then and many people who didn’t buy it then are buying it now for 300 dollars. Yet there are still some who will wait until 2013 to buy a PS3 when it only costs 100 or less, but then it will be obsolete. Its all about personal preference. You have people who want the latest in greatest, people who wait a little longer, and people who just want bargains. The early adopters paid the most and probably got the worst deal out of the bunch, so do the Keynesians propose making everyone an early adopter? In this case a majority of customers were turned off by the high price and poor software line up initially and knowingly or unknowingly forced the price down because they refused to purchase. Keynesians seem to think that if the price of the PS3 were raised to 800 dollars instead of dropping to 600 it would stimulate people to go out and buy it… How little they know.
This is a good point. Unfortunally it appears very speculative.
There is really no way of knowing how rapid the price decline in a free-economy would be. I assume it would be about equal to GDP … but how much would that be in a un-taxed un-regulated economy. Also there is know way of knowing exactly how much the perceived cost of running that old car a few extra miles is to people.
No doubt the end result is still better then having inflation, but I would like to have some prove that there don’t exist any imperfection in the market here at all.
