In these times of economic turmoil, it seems like even the experts don't know exactly what to do, or even how effective any action will be.
Vox Day's article, "Stimulus Spelled Out", from World Net Daily does a wonderful job of simplifying the arguments: Should the Fed lower rates? Should the government fill in the spending gap? Should we do anything at all? In his very simplified analogy, Vox makes it easy to understand how our economy works, as he proposes a clear solution to the problem.
Here's an excerpt:
Consider a hypothetical example of an economy in which there are 100 cars. Because a car lasts for 10 years, every year 10 cars wear out and are replaced. But things have been going well and people are getting wealthier, so five of them buy second cars. The three car makers each sell five cars, and there are now 105 cars in the economy. However, in the second year, there is a stock market panic due to the failure of the Madagascar cashew harvest, so the central bank gets nervous and slashes interest rates. Ten cars wear out, and 10 are replaced, but thanks to the low interest rates, the automakers can offer zero percent leases and other creative forms of payment, which encourage 20 people to buy second cars. There are now 125 cars in the economy. Interest rates stay low for the next three years, and people continue to take advantage of the new car-financing deals, until there are 185 cars in an economy that only required 100 five years before.
Then, an Icelandic bank bets heavily on the Norwegian cod harvest and goes under. The global stock markets drop, people feel less wealthy, and car drivers decide to reduce their automotive consumption. Ten cars wear out, as always, but instead of being replaced by new cars, they are replaced by cars that still have seven good years on them sold by two-car owners who decide they really don't need their second car anymore. The car economy shrinks by 10 cars to 175 cars, but even worse, the annual gap between the demand and the supply capacity is 30 cars. So, what is the solution?
The monetarists would recommend cutting interest rates, but since they are already low, that's not a viable option. (And then, there is the fact that because low interest rates caused the problem in the first place, they cannot reasonably be expected to fix it.) The Keynesians would attempt to stimulate the economy by having the government fill in the demand gap by buying 30 cars, but this will only put off the problem for a year since there will be 30 more used cars available to the 10 people who will require replacement vehicles next year. The optimal solution is the Austrian one, which is to leave the economy alone and wait for the extra cars to wear out. This may be frustrating to the would-be hero politician who wishes to solve the problem through decisive legislation, but it is the only solution that will not make things materially worse in the future.
Doing nothing is admittedly difficult in times of crisis. But it is always wise to keep in mind that there is no crisis so severe that government intervention cannot make it worse.
Read the full article, and you too can feel a little smarter today. I know I do.
Ben Olson, Minnesota Mortgage Specialist, Mortgages Unlimited, Maple Grove, MN, 763-416-2620
