OF SOAPS, CHEESE, AND MAKING MONEY EX NIHILO

RJ Kalin

January 2011

On a recent tour of our local stores Mrs. K. was annoyed to discover that one of her favorite house-hold products, normally stocked on the "soap and cleaner’ shelves of several local emporia is no longer available. The product--a stovetop cleaning agent-- was before the Great Recession expensive, but easily procured and widely available,but not so now.

“Why can’t I find this item any longer?” she asked in annoyance.

I tried to explain the underlying causes. “Well that product may not have a lot of demand, so Green’s, Walmarts, CVS, True Value, etc. do not wish to replace the stock so quickly, when they are gone. They are simply cutting expenses, by reducing the stock of a product that they must pay for, but may not be able to sell so easily….”

“So then this is just a response to the bad economy?”

“Exactly! It’s a sign of low demand.”

We walked on down the less than fully stocked aisles. I took this rare opportunity to add, "Yes, the low demand is surely the result of the fact that a good portion of the population is under employed or unemployed. Less money out there…less demand for stove-top cleaners and other stuff.”

Right now it is jobs, jobs, jobs that are on everyone’s mind. Today, I read in Portfolio.com, with some alarm that there are five applicants for every job that opens. Also, that there are some 15 million Americans out of work right now, and that nearly half a million have quit trying to find work. The formal joblessness rate is recorded as 9.6%, but that would be much worse were it not for the, nearly 500,000 who simply just quit looking.

Also the inflation rate has dropped down to 1.1% and has been holding steady at this rate for some months. That is well below the 2% rate that is considered desirable.

“That doesn’t sound too threatening. Why should I be concerned with the fact that prices are not rising much?”

“Well the problem is that such a low rate of inflation is and indicator of low consumer demand for goods and services.

“So that’s why I can’t find that “cook-top spray-cleaner, I like to use”?

“Exactly!“

“Some products which are not your big sellers are in lower demand anyway…are simply eliminated off the shelves, as a way to reduce costs and raise profits by the stores.“

“That’s one way to control expenses, but it makes me mad!“

“But more importantly, these circumstances of low demand may develop into what the economists call a “vicious deflationary cycle” in which low consumer demand causes product prices to fall, (or they may be simply eliminated as your cook top cleaner), this causes shoppers (like you and me) to retard purchases since they anticipate the continuing fall in prices (Why should you pay more for some product today when you can get some product cheaper tomorrow?). Then the store-owner, responding to low demand, may decrease prices further, while the products manufacturer or producer who is faced with less orders for his product, sells his stock at lower prices since he has too much of it, and, as well, may decide to slow production. These results exacerbate the problem and result in lower demand for labor in both the production end and in the sales end of the economy, resulting in lay offs, and firings. But job losses and reduced employment only tend to decrease money in circulation, and thus depress demand even further. The end result is a continual spiral downward of demand, as prices fall and employees are laid off. This deflationary spiral can be described as a classic “vicious cycle” or a process, which tends to exacerbate the cause or causes that generate it.

What can the Fed do? I read recently that Ben Bernanke is planning to decrease long-term interest rates (again) and stimulate growth by having the Fed purchase (“soak up”) Treasury Bonds. Treasury Bonds are safe, but they generally do not provide much interest on investment at maturity. So to encourage buyers, the government has to keep interest rates at a level high enough to encourage sales. But that impacts us down the line. So if the Fed were to buy up Treasury Bonds, that would put a cash-infusion into government coffers. It would save some dough too, by keeping interest rates lower. Since the government would have less urgency to sell bonds, they need not encourage buyers by raising interest rates. The down side is that this action would tend to decrease the value of the dollar. So we all have less buying power, particularly those on fixed incomes--like the elderly. That’s why the price of English Stilton cheese and Italian Parmigiana Reggiano have gone through the roof and the markets don’t stock them anymore.

There are times when just dropping the interest rate to zero, doesn’t help. Perhaps that might occur in those times when there is so little demand for stovetop cleaners and expensive cheese. Then there is the option of just printing more money. The government bankers don’t like to use those terms. They are too explicit and revealing. No matter that is what they are really doing. So they have developed the term “quatitative easing”, (QE). QE is a monetary policy used by central bankers to increase the supply of money. (they don’t simply dump the money on some corner on Main Street and let everyone come get it. Though that would be about what is happening. They simply write a check to themselves and drop that into their reserve account and voila! They have more money available created literally out of nothing (ex nihilo). They then use that account to buy government bonds, those awful mortgage-backed securities that no one really knows what they are getting or what they are worth, and corporate bonds or other financial instruments. That puts money into circulation, and hopefully stimulates the economy.

That takes care of the big shots and the bankers on Wall Street. Now if they could only find some way to get the unemployed back to work!

Get the picture?