The Economy
Free Trade
From the
minimum basics to recessions, I now segue to free trade. So what is the big
deal with free trade and why do people want it? I will borrow a little from
Adam Smith (though he didn’t like corporations). This deals with division of
resources (one of which is labor). I want to maximize the efficient usage of
resources. To do this, you have to accept that different areas have different
strengths and weaknesses. Countries like China and India have a huge amount of
potential labor. There are so many people available that the wages will be very
low (especially compared to a country like the US, maybe a bad example). Some
countries have ample supplies of resources that other countries could use in
manufacturing or other productive pursuits. Some countries have a more educated
population who are better with technology. It is these strengths and weaknesses
that necessitate free trade.
Think of
it more from the demand side for a moment. Having something that is human
intensive like labor done in a place with plenty of potential workers will keep
the price of labor low (supply being high relative to demand for labor). Other
resources work somewhat the same way. Suppose that you were making something
that required a certain material. Also let’s say that the country you live in
does not have that material (or has it, but not very much). A company would
save money buying it from a country where it is abundant, but may not have as
many uses for it (ignoring that the commodity markets exist). This is about
producing a good or service in the most efficient way and at the lowest possible
price. Can this lead to the “exploitation” of something like a third world
country? Yes, as much as the local government lets it (exploitation is the wrong
word here – what you are trying to say is to take advantage of using the
resources. When you say exploitation, you are really talking about somehow
disadvantaging the people of a particular area at for the benefit of an outside
group). That should help keep the end cost to the consumer lower also.
Now for some of the bad stuff…
Governments tend to want measures in place that protect the interests of
companies. However, this is often at the detriment of the consumer. The
government uses such devices as tariffs, excise taxes (and other forms of
protectionism). Protectionism promotes inefficient usage of resources (and is
usually tied to labor unions). I hate to sound like an economic Darwinist here
(not really), but the weak industries (and companies) should be allowed to fail;
the strong should be allowed to succeed. If Japan can produce higher quality
electronics at a lower price, they should be allowed to. Another wrinkle comes
in when you are talking about national defense. Some industries (like the steel
industry) are necessary for national defense. So the industry should not
completely go away, it should just be limited to the most efficient and best in
the industry. These companies however should not be bolstered by the government
(like subsidies). Subsidies are anti-free trade too as it is another example of
government intervention in free market events. It is not the government’s place
to prop up a failing company or industry.
Some bad
things can happen with free trade. Third world (less developed countries) may
have corrupt governments who are not looking out for the best interests of their
countries. This is what some people term “exploitation”. In the past,
companies have overproduced goods and dumped them in a market (hurting local
industries). Dumping is basically selling a bunch of whatever you are selling
at below the cost of the domestic manufacturers (or your own). It is a resource
usage problem. Other countries subsidize businesses defraying some of the
cost. Free trade does have its problems, but having free trade and trade
relationships with other countries is vital.
Externalities
Externalities are a situation to
consider in economics. An externality is an event (cost) that is not covered in
the cost of selling the product. A good example is air pollution. Say the Y
company produces a product called product Zed (the Canadian and British
pronunciation of Z). Say that the cost of CO2 in the area where the
product made is determined to be $100 a ton. Say that producing 10,000 units of
product Zed produces one ton of CO2. The cost to society in addition
to the cost that is not covered or related directly to the price the end
consumer pays is $.01 per unit. If the company made 1 billion units, the
additional cost per unit stays the same (unless it was changed), but the total
cost would go up to $10 million. There can be more than one externality related
to the manufacture of one good or service. I used a basic example, but in the
real world, politicians tend to get a little more extreme.
Market Failure – Why Bad Things Happen to Good People
So, I
have stated that I believe that the free markets should, for the most part, be
allowed to function without government intervention. I see the free market
relationship between supply and demand setting up an efficient mutually
beneficial situation for the supplier and the buyer. However, sometimes people
(or organizations) will do things that tend to mess up the supply and demand
rationally created situation. What are some of these you might ask? There is
fraud, falsifying data, and speculation (and others).
Speculation is a condition that is sort
of like gambling. Speculation can be someone trying to corner a market so they
can alter supply and demand conditions (especially supply ones). Speculation
can also be day trading stocks or especially shorting a stock (basically
borrowing shares of stock which then are sold in the hopes you can buy back the
shares of stock at a later time for less money). Speculation can also be buying
derivative securities based off of mortgages (or backed by them) with the
assumption of an increase in future value and a big return. People flipping
houses were speculating that the prices would stay high and they would get good
returns. I personally see this type of speculation as a harmful interruption of
market forces (selling to people who would not be the end user). I will define
speculation as active manipulating the supply and demand conditions to trying to
make money based off of the expected value of something. Trying to get a
certain return on your investments is technically speculating (put money in with
the hope it will be worth more at a later date), but it is on a much smaller
scale. But it does not really fit my definition. It is especially speculating
if you hope to resell a device or asset (especially in a shorter term) for
money, but have no intention of keeping the device or asset yourself. Big
speculations can involve stocks, commodities and the currency exchanges (I’m not
a fan of the Federal Reserve Free Market Open Market Committee manipulating
interest rates and currency values).
External manipulation is a problem to the
free market system. What do I mean by external manipulation? This could include
excessive speculation or government intervention. No country in the world has a
truly free market economy, but some are closer than others. Taxes and other
fees add another wrinkle to the markets (and add costs). Another problem is the
quality of the data. Just a few years ago you had several companies cooking
their books (falsifying data to look better to investors). This led to some
stockholder losses and a wave of desire to reform the system. The irony here is
that some of this directly results from tax accounting. The tax code is complex
and has many loopholes or oversights. In a way, it encourages companies to use
“creative” accounting to shift revenues and losses so they have less tax
liability. Am I saying government intervention is an anti-market
sentimentality? In a way yes, however the government does not necessarily have
the intention of interfering with the markets. Some market interference is
necessary. The financial sector has the SEC, FDIC, and numerous other
government parties. Sometimes the government has to intervene to make sure
limit fraud and make the markets a little safer. I am not saying that
government intervention is something you want a lot of (it is more of a
necessary evil).
There are
frauds out there. There are people who mean well, but don’t deliver. Bad stuff
happens. If someone promises you a return that seems too good to be true it
probably is. Return and risk are related – the greater the risk, the greater
the potential return (the reverse is something you should keep in mind – if
there is a good return, the risk is probably high).
I
probably have touched on this a little… Regulation becomes necessary when it
help protect the nature of the free market and prevents fraud. Regulation may
also be necessary when a product’s true price is not reflected by the price the
consumer pays. Regulations are also necessary to promote ethical activity and a
level of safety for the customer in whatever endeavor a person is in. So
regulation in and of itself isn’t evil. What is evil is when politicians
overuse regulation. Regulation should be used sparingly and only when
absolutely necessary. Conditions may exist where regulations make sense in the
short term, but longer term make no sense.
The
Sherman anti-trust act started with good intentions of preventing those with
great market power from exploiting their customers with high prices. I heard
all the time in economics classes that monopolies were somehow harmful (at least
that is the theory) and that competition was best for the consumer. But what
they ignore is that oligopolies or monopolies are the usual result of
competition (as weaker companies fall by the wayside or are absorbed).
Competition is not about the number of players in an industry – it is about
efficiencies and economies of scale, it is about getting the most of the
resources used. It should be the goal of a company to be a monopoly (if they
are, they were the best). Monopolies do have a higher degree of market power
and can set prices within limits. However, the real price gougers in the
monopoly arena are those that have a high degree of government intervention and
regulation (like so called natural monopolies – like utilities). Monopolies in
other industries tend not to abuse their customers with price increases, mostly
because they are paranoid and there is always some form of substitute good. It
is not like they are selling air.
Now for
the anti-trust act… I am not a fan. The anti-trust act was supposedly designed
to prevent the so called evil monopoly from exerting its power at the expense of
the consumer by promoting competition. However, having many competitors for a
given item is usually not a great thing. I’m talking more about the
monopolistic competition and not about the “pure competition” example of
agriculture with a ton of sellers. In monopolistic competition the business
grows by being the best and getting the best usage of its resources. The top
competitors rise and grow; the less successful firms go away (or stagnate).
This should lead to an oligopoly type scenario where a few firms dominate.
Sometimes in this situation you can see price fixing – like happened with
compact disc prices.
Back to
point I guess… The anti-trust laws in recent years have been used more as tools
by companies who could not compete on their own merits. It isn’t necessarily
about protecting the consumer (or benefitting them somehow). It is about
sticking to the flawed concept that more vendors equals more competition and
that competition is ultimately better for the consumer. This is not necessarily
true. You shouldn’t measure a “monopoly” by market share, if you want to have
anti-trust laws it should be for companies abusing their power (with specific
incidences). Things like adding a free browser (a benefit to the consumer) to
the OS when a competitor was charging for it is not an abuse of monopoly power.
To be completely clear, I am against anti-trust laws.
Debt
I
see debt as an evil. Some cultures also object to paying money for borrowing
money. Unfortunately in the modern world it is a necessary evil. There is no
such thing as good debt, but sometimes using debt could be beneficial. That
being said, it should be used sparingly. There are sometimes you just do not
have the money to purchase some things you want (not talking about the impulse
buys or credit cards). Buying a house, car and college educations are good
examples. These are big money transactions where you may not have the cash lying
around to pay for them (the house and college example, likely having lower
interest rates). Either way, it is good to minimize your exposure to interest
(likely paying more than the minimum payment). The government also gives you
some tax breaks for using debt (though this kind of thing should not exist in
the tax code). Corporations use this potential savings using the tax code to
slightly reduce the cost of funding projects. However, debt and leveraging debt
can have harmful consequences (see how much trouble companies got into after the
1929 stock market crash). I believe the capital structure of many companies in
the US is too debt heavy (due to the tax breaks, which I would eliminate if I
could). Debt should be minimized in the private sector and eliminated in the
public sector.
Some people feel an irrational guilt
about success. Not everybody can be successful. You should never feel guilty
for using your brains and luck to achieve success. After all, success is about
being ready at the right time when opportunity presents itself. Some of it is
luck, but you still have to deliver. Own your successes, they are not everyday
occurrences. You should not feel guilty that you are successful (it is not your
fault that some people have less than you do). If you feel some kind of need to
give something to your community or the world (and you have the resources), do
it. But you should know that you have no obligation to do so.
It is one thing to do what you want with
your own money, but it is entirely a different matter to go into politics and
spend somebody else’s money.
Now, there are the people on the outside
looking in with envious eyes. To these people, you are greedy if you have more
money than they think you should (usually more money than they make). Economics
dictates the conditions. There is a difference in what most people call greed
and the reality. Most people think of it as greed if you make money (more than
a certain amount in their minds), but greed is the irrational love of money and
doing everything in your power (regardless of legality to obtain it). What
people really see is others acting in their own rational best interest (that is
not greed). Some people like to use greed as a pejorative insult. What they
fail to account for is the work that it takes to achieve what you have. People
want what is best for themselves, sometimes they just need someone to blame.
I
am a big fan of free market economics and capitalism; therefore I will say that
most of it works. I prefer a hands-off approach. Supply and demand conditions
create for a more efficient usage of resources and tell the companies what
people really want. With innovations like online shopping, prices for consumer
goods are less sticky (as prices can be adjusted if a product doesn’t sell or
sells well), the markets have become slightly more efficient. Capitalism has a
way of rewarding those who take the right chances and are responsible. People
and organizations are better at managing their money than the government
precisely because they have a reason to do so. The profit motive is good and at
least economically leads to a better situation.
To see what does not work in the
economy, look no further than eBay. eBay should be an example of markets in
action. You have a seller listing an item where millions of people can come to
bid. Unfortunately, you also have a company with increasing fees (like taxes)
taking money away from the seller. You have speculation and irrational bidding
(where it becomes like a sport) where the price is driven up to irrational
levels. You have those who want to buy cheap and sell for really high. You
have fraud and general misrepresentation of the item being sold (ethics
problems). You have scams and stolen merchandises. Government intervention is
likely to cause a black market in extreme cases. You have a feedback system
(kind of like a rating system) that is largely ineffectual and meaningless.
Outside the eBay example you have government intervention in salaries, taxes and
crowding out the private sector. Government funding comes at the expense of the
private sector. Some activity by the individual (or corporation) leads to
problem for people who are not directly consuming a good or service (that must
be addressed by regulations).
There may be problems when it comes to
the concept of ownership and intellectual rights. Intellectual rights is a
somewhat modern concept - it could be who owns what software programs or the
like. The US, in particular tends to over-patent (give out a bunch of patents
that may or may not infringe on existing patents). Copyrights, patents and the
like are necessary to insure that people who provided a good or service are
justly compensated for their work, risk, etc. There will always be some form of
black market activity (like pirating DVDs or video games). Here it is not so
much about the quality, but the price.
Original Post Date: 03/20/11
No comments:
Post a Comment