Reason for a New Age

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    What you will expect to see here are discussions of politics and tangentially economics. This blog will do its best to present a rational look at the world of today, how the modern world came into place, and the issues that are currently being discussed in the public realm.
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Recession and Deflation

Posted by publius2point0 on 2010/06/05

What is, I believe, a little known fact is that during a recession, the money supply begins to deflate. As you should know from reading Tying it All Together, the amount of money in the land increases when people take out a loan, and shrinks as they pay it back until the true, non-deficit supply of money is achieved. Year-to-year growth in inflation happens because people are continuously taking out more money in loans than they are paying back to the banks. In a recession, however, people stop taking on new debts, and subsequently the only direction of money flow is back into paying off debt, shrinking the total money supply.

What this means in practical terms is that each remaining dollar is worth more. That probably sounds like a good thing to you. The problem, as John Maynard Keynes pointed out is that this means that value of things like labor and products should shrink — for instance, if the money supply has halved, if you were making $40k a year, you should now be making $20k a year — but people are too stupid to realize this and instead of lowering the price of their products or giving their workers a wage decrease, they lay off workers so that they can continue to afford their best workers at the same (but now overvalued) wage. They continue to charge the same price for products, figuring that the market will come back. In a recession, everything freezes as the money supply shrinks, instead of shrinking along with the money supply, which only exacerbates the situation.

A simple solution to this problem is to inflate the money supply directly.

Let’s classify there as being too types of money, fundamental and loaned. In the example given in Tying it All Together, I gave each of our farmers $1.20 to start with, for a total money supply of $120 in the whole land. That sum is our fundamental money supply. All other money is loaned, i.e it exists only as a fiction where we accept money made out of debt as having value.

At any point in time, the amount of money that each individual had could be doubled by simply physically going around and handing them new bills to that extent. If Billy had $10, he now has $20, and if Megan had $50, she now has $100. This can be done without anyone, not the government nor the banks, taking on debt, because the fundamental supply of cash to begin with was entirely arbitrary. The only issue is in maintaining the balance of wealth between entities, as upsetting that could wreak havoc.

Now, presuming that money will naturally flow the same way as it has previous, so that those who are good at amassing money will do so at the same rate as they have before, and those who lose money will similarly do likewise, periodic, small checks mailed around to the general populace will in effect raise the supply of fundamental cash, and wreak havoc because the amount (per person) is so small that it doesn’t unbalance anything to a noticeable extent, and of course it will soon find its way to its ultimate destination via the natural flow of money. By periodically doing this — giving enough time for money to settle — one can maintain or continue to inflate the economy (and devaluing the currency) to maintain a status quo.

There is essentially, no economic downside to this. Prices and wages are able to stay where people expect them to be so that they don’t have to feel like they have to take a pay decrease to get back into the system. The only end result is that if all debts were to be paid off throughout the land, the amount of money that remained after all debts were cleared would be higher.

And of course there is the secondary, potential benefit of sending about checks that the receipt of free money will spur people into getting back into the market and kick-start everything up again sooner.

On the Other Hand

It is worth noting, however, that all of this is predicated on the idea that people don’t and can’t understand deflation. That they don’t is certainly true, but it’s entirely in the province of the President and the Mass Media to inform them. It would be perfectly easy to tell businesses that the dollar is worth more and that, rather than laying off 10% of their work force, that they decrease salaries by 10%. Such a thing would likely also cause businesses to lower prices to match. In return, the amount of money that people had in savings would increase in value and give them motive to get out spending. This is the way the market is supposed to act to recover from a market crash naturally. Making it happen as it is intended may just be a matter of making people aware of what is happening and how it all works.


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