Monday 23 June 2003

Pic of the day: Property development is rather slow in Kilnsey. And no wonder, since everybody is waiting for the prices to come down.

"Reverse auction"

Heh. Only a role playing economist would realize this, I guess, but it seems Mythic Entertainment has unwittingly launched a really good euphemism for deflation. When they phased in the housing expansion to their online game Dark Age of Camelot, they started selling housing lots at ridiculously high prices, but with the promise that the price would fall by a set amount per hour until it reached a much lower floor value. Of course, most sane people will wait it out, thereby causing the promised price drop to actually happen. And this, in short, is what deflation is all about. A self-fulfilling promise of lower prices.

That's why it is so hard to break out of a deflation. People expect prices to fall, so they wait. They buy only what is necessary. Bread, sure. Car, no. Certainly not a new home. After all, it will be cheaper next year. But next year, it will will also be cheaper next year. And as people hold their buying, the warehouses fill up. And when they are full, the factories close. And people lose their jobs; now they cannot buy even if they wanted to. Eventually they may get a new job, but at lower pay. After all, since all prices go down, you just have to live with it. But most people are not willing to accept less pay in their current job. Or the employer doesn't even dare mention it. And so the expenses keep up while the income falls. And again you lose your job, and have to go look for an even poorer one.

***

For all my life and longer, we have had inflation to some degree. It works like an auction indeed: You bid higher and higher. You buy the house one year and sell it another year for a higher price. You are not afraid to buy, for you know you can always sell it at a profit (even if that profit is all in your imagination, since all other things are more expensive too). With deflation comes a very different mindset: A reverse auction is an auction of silence, for you don't want to bid now when you can get it cheaper later.

Tax breaks won't stop a deflation. Tax breaks go mainly to the rich, since they were the ones that could be taxed before. And the rich can afford to wait. They can live quite well while waiting. That's why you need a New Deal if you become entrenched in deflation. In a New Deal you take the money from the rich and smart, who wait. And you give the money to the poor, who also usually happen to be the people who cannot control money or for that matter themselves. So they run and spend it. And so the vicious spiral is broken. There is no reason for the rich to hoard their gold when it is anyway given to the poor who spend it. Better to do business so you can catch that gold back from the impulsive underclass. And so the wheels begin to turn. Faster and faster.

But we don't want to need to go that far. If we react in time, we can stop deflation before it has dug in. It needs decisive action from the central banks, and a government that is able to sit still instead of doing something stupid. History shows us that governments usually do panic in such situations and do something stupid.

***

So what can we do as individuals? Very little. These are forces so enormous that even great nations can hardly stand against them alone. The only thing we can do is to prepare, by not living above our means. Not get into the habit of using more money than we earn, with the expectation that there will always be more and more money, that we will always be richer next year. Perhaps we will, but don't count on it. Once the reverse auction is opened, the matter is largely out of our hands.