Saturday, March 7, 2009

Econ 101

The current situation with the economy in our country demands that we, as the citizens and voters, have a basic understanding of Economics. We need to understand some of the financial ramifications of government interference in private business and over-control of the banking industry.

Supply and Demand are some of the basic concepts upon which our economy functions. They are not theories. They are as relevant as the Law of Gravity. This inter-working of S&D affects each of us on a daily basis. In an open market economy, one where the principles of S&D are free to adjust in relation to each other, with a little time, they tend to balance out to a healthy level. When they are artificially managed or controlled, the imbalance cannot correct itself and other factors, such as price, are affected. Many times these results become unintended consequences of the artificial controls imposed.

Our market economy is based on S&D. When there is demand, it becomes profitable for someone to meet that demand by adding to the supply. Strong demand with low supply causes rising prices. When demand slows down, an over-supply will result in lower prices. When the two are in balance, prices stabilize.

Demand cannot be controlled in the same way that supply can be manipulated. With limited supply, caused by artificial controls, prices will increase because demand is still present. This will continue, to a point where the much higher prices finally cause demand to subside. Those with demand will seek other areas with more affordable supply and the area with controls will suffer a loss of market activity and a reduction in the infusion of funds.

S&D function in all aspects of our economy. They are the main factors that determine price in raw materials, labor, land, housing, food, oil, education, interest rates, investments and etc. When allowed to fluctuate freely, shortages are made up by higher production or the infusion of more labor, money or materials. Over-supply causes money to be spent elsewhere, labor to relocate and factories to make other products or close down. A good example of S&D being manipulated by controlling supply is the recent price increases experienced by all of us at the gas pumps. OPEC artificially limited supply and drove oil prices higher. With the higher prices, demand decreased, prices began to stabilize allowing the supply to grow and lower prices were the result. The Federal Reserve Board artificially controls some aspects of money supply, driving up the cost of money due to continued demand. The result is a more expensive cost of borrowing, which transfers into many goods and services being more expensive. When they lower interest rates, it is to stimulate demand and hopefully the national economy.

The local real estate market experienced a shortage of supply of residential listings in 2005. The shortage was caused by very strong demand. The demand was caused by low interest rates and a very strong national economy. While supply was catching up to demand, prices rose sharply. The developers and contractors in the area were the vehicles that stepped up to attempt to add to the supply to meet the strong demand. If they had not done so, we would have experienced even higher prices and housing that was less affordable.

In 2006, the demand for housing began to slow. Prices became more stable and supply was given an opportunity to catch up with the demand. During 2006, the real estate market in Payson and the surrounding area returned to a more normal level. Prices were more stable and the supply of listings steadily grew. While home prices rose by 50%, in some cases, over a short period of time; wages did not correspond by the same increases. This left some to struggle with the cost of entry housing. As stated above, with some time and patience, a free market economy will reach a balance. As workers find they can no longer afford to live in the area, businesses will realize they must raise wages in order to attract the needed labor. With a passage of time, a new balance will be reached between income and cost. The higher cost of labor will result in a higher price for the product, which will be absorbed by the market if there is sufficient demand for the product. If there is not sufficient demand in the market to accept higher prices, this indicates the added supply being produced by the added labor is unnecessary. At this point the employer should scale back production to the level where the price can remain steady and the cost of required labor is affordable. All of these will balance themselves out in a free market economy.

When the free market is interfered with, the laws of supply and demand cease to function in a normal way and balance does not happen. Currently, we are seeing the result of the government messing with the lending process, banking industry and other aspects of the housing industry. We are seeing the results of government passing regulations that have hurt the auto industry.

Big government is not the answer to solving the current economic crisis. The best thing that could happen, in the long run, would be for the government to reverse much of what they have been passing, step back from trying to manage industry and control business, and let a free market begin to function. There will be short term pain, but long term gain. Right now, government is trying to avoid the unintended consequences of their prior actions. We would not be here if they had stayed out of the way in the first place. The same people who broke the system are now in charge of fixing it. They either do not understand what they are doing, or are doing it on purpose. Why would the do that? Power, control and money! It is not about fixing the problem, for them, it is about increasing their power and control over all of us and the money that comes along with being in that position.

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