The Economy Part 2
Now that you have a rudimentary understanding about what the supply and demand curves are or look like (sorry i didn't have the chart imbedded, can i even do that?) i can get even more confusing and discuss some policy implications. Remember, i value efficiency over the normative concept of "equality".
There is normative and positive views. Normative are more along the lines of "in my opinion", positive are more along the lines of "here's the data".
Supply and Demand: Price Ceilings and Floors:
Maybe someday you will hear a nerd talking about price ceilings or floors. You probably already have without knowing it. A price ceiling is an artificially imposed limit to the price that can be charged (like a rent cap), a price floor is an artificially imposed minimum that can be charged (like minimum wage).
So, using our chart and example in the previous subsection, how would this apply? Let's start with a price floor. Assume that the government stepped in and said that the store had to charge $6 for Item X. The store would like to put 6 units on the shelf, but the customers only want 4 of them now.
This creates a surplus (more units on the shelf than the customers want to buy at that price). This is not an efficient solution, but the government may have a temporary reason for doing it (like to stimulate the production short-term). A price floor could be set below the equilibrium price, but it wouldn't accomplish anything (prevailing price > price floor, it does little).
Now for the price ceiling... Assume the government said that Item X could not be sold for more than $4. The buyers now want to purchase 6 units at the maximum price that the seller can charge. However, the seller is not a fan and only wants to put 4 items on the shelf.
The lower than equilibrium price has created a shortage (the buyer wants more than is available on the store shelves at that price). This is not sustainable long-term (without changes). Setting a price ceiling above the equilibrium will have little effect.
Of course, things are not typically that simple and you can have supply/demand curve shifts. Maybe you don't want a price ceiling on gas.
Recession - Why Supply Side May Not Fly
In the 1980s (in the glorious Reagan years) there was some talk about taxation at the supply side level (manufacturers, employers, companies). This was viewed as a way to stimulate the economy (and it did to an extent). The theory being that if taxes were cut at the employer level the companies could afford to create more jobs/invest (hire more people). Tax revenues can go up when rates go down.
The better Bush, the first one, called this voodoo economics in the 1980 primaries. He lost to Reagan but became his vice president. Unfortunately, the government didn't fully think this through.
Employment levels at a company are a function of demand for a good/service and productivity. Giving companies more money in the down part of an economic cycle is more likely to go into paying down debt/losses than increasing production (for something there is lessening demand for). In capital budgeting, some fringe products may be undertaken, but questionable cashflows will prevent others.
In other words, businesses act rationally about spending, sometimes stock buybacks and the like are better investments than more production.
The bank bailouts are kind of an example. The banks used bailouts not to open credit lines, but to offset losses (due to the economic conditions underlying loans being unchanged). The banks were acting perfectly rational with this money (especially since direct conditions may not have been given).
Giving breaks to the wealthier tax brackets will likely not have wide range economic spending at least. This was sometimes derisively referred to trickle-down economics. Money can trickle down; it is just it gets caught at every level.
The people in higher tax brackets have a lower marginal propensity to consume (MPC - how much of each additional dollar they spend) than someone in a lower tax bracket. Those people are likely to look at the situation and limit spending (so the money goes into investments/savings instead of directly into the economy). This could have an impact on future economic growth, the present not so much.
The government involving itself in trying to stimulate demand is a fool's game anyway. In the 1930s one of the ways the government tried to combat economic woes was to put price ceilings on goods (that only works if you want shortages).
Recession - Why I'm Not Down with the Keynesians
Keynesian economics is a style of economics where the solution to recession/economic downturns was to increase fiscal (government) spending to try and stimulate the economy. They seemed to believe that demand fluctuations were somehow responsible for business cycles (recession = lack of demand), though this may be an oversimplification. This is sometimes called demand-pull.
Much spending would be on bills like public works and stimulus packages. This is basically the government "propping" up the economy by infusing it with money (typically money they didn't have, which would take the form of debt). Once recession is over, taxes would have to increase to cover the ill-advised spending during the down times.
It is debatable whether this actually works in the short-term (i don't believe in the Keynesian multiplier, especially in today's world). Demand increases alone should not spur enough supply increases to justify their cost.
Some people think the demand side is more effective (not admitting that the only way it could work was if people spend irresponsibly). Studies estimate the Keynesian (and as Mussolini thought Fascist) programs during the Great Depression may have extended the depression by up to 7 years.
Recession - What i Would Do
i am of the belief that recessions are temporary consequences of the normal business cycle. These fluctuations can and will solve themselves given the opportunity (they may be more aberrations impacted by government/central bank intervention than natural occurrences). Government intervention can and will impact future economic conditions.
i see government intervention like TARP messing up the free market results of weak companies dying and strong well-managed companies prospering. Playing with the interest rates can lead to changes and potential problems in the future (monetary policy is more powerful, but rates are overly manipulated).
Lowering rates by too large of an amount can lead to inflation. Trying to deal with inflation can lead to an overreaction that will stifle the economy (and tighten credit/growth). Basically, the point of raising inflation is to slow down the economy. There is a fine balancing act the Federal Reserve Open Market Committee (FOMC) does to "stabilize" rates or promote growth. i argue they shouldn't do either and let the market correct itself.
i guess my economic philosophy is a mix of monetarist, new classical economics, and the Chicago School - but i've been out of college for a while.
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