Understanding of economics needed to fix problem

By Phil Grant, Special to the BDN
Posted Jan. 07, 2009, at 3:21 p.m.

It’s obviously too late for George Bush. Barack Obama has a chance to get it right, but he has got to get beyond the economics he was exposed to at Harvard. Bailouts and stimulus packages may create a positive short-run gyration in the markets, but they won’t solve the problem because they do not address the problem. The problem is as old and as well understood as any in the field of macroeconomics, but few see it clearly — in part because the media blitzes us with too much “spectacular irrelevance” to digest.

Americans — individuals, corporations and government — have been on a spending binge and haven’t saved anything. Along comes sudden, major price increases. Having no extra money, we can’t pay for things. Some go bankrupt, some don’t buy, others become trapped in “spreading” their payment obligations out, postponing the inevitable, still others resort to some kind of welfare, draining the resources of their neighbors, and so on.

The economics don’t look pretty as difficulties become cumulative. Salaries and business incomes do not keep pace with the sudden price surges so the critical price level-income level balance is lost. The economy hits shutdown mode.

Rule number one: If you are going to have volatility in the market place — which we do — you need to maintain monetary reserves to buffer against sudden cost escalations and revenue inadequacies. Many have misinterpreted the Japanese and their just-in-time inventory management. Just-in-time management isn’t a great idea when it comes to managing money flow in an environment of unpredictability and market volatility. You need cash inventories.

Prices of four essential items have skyrocketed and left buyers in a bind: Health care, houses, fuel and food. Health care costs started it. Then home prices and variable interest rates to buy them shot up. The economy wobbled. Then energy and food prices ballooned. The economy snapped. We couldn’t afford it anymore.

Each of these necessities and their availability are controlled (either directly or indirectly) by too few, noncompeting suppliers with excessively restricted volume capacities to quickly accommodate increased demand. When demand rapidly increased for these items, the “strain” translated to increased prices more than increased supply. The phenomenon spread worldwide, not just here at home.

The solution is not bailouts and stimulus packages. This is short-run “feel good” stuff. If Obama pursues these avenues, he’ll aggravate the problem — at least, long term. Bailouts keep the same few, big suppliers, with rigid capacities, in place. Stimulus packages, as proposed, increase demand, but the supply capacity isn’t there. Expect inflation.

The solution is for government to assure markets are free and open with more players on the supply side competing with one another. Governments around the world have been extremely lax in limiting the emergence of super-sized companies that control supplies and are relatively unresponsive to demand changes. Prime examples of monopolistic-like or cartelistic firms abound in the health care, energy, banking and mortgage industries. These organizations can’t upsize quickly and they can’t downsize either. They are not flexible enough to play well in changing markets.

Government needs to assure real competition exists. Organizations do not have to be nearly as large as they are to enjoy economies of scale. Technology has made that obsolete. Out-classed organizations must be allowed to die. New organizations need to be allowed into the marketplace without excessive barriers stymieing entrance. One or two failing auto companies would not be such a problem if we had many smaller such firms in the market.

Among other things, competition helps assure efficiency and low prices; it keeps those executive salaries from becoming ridiculously high; it keeps union wages at a reasonable level; it helps assure demand increases translate to actual product unit increases rather than price increases; it brings alternative products to market; it aids unemployment; it even helps minimize protective havens for financial criminals.

Excessive power in the marketplace must be addressed. Our free enterprise system has gotten away from free enterprise. It is the government’s job to help assure free enterprise works the way it is supposed to. We don’t want a government that “pushes” more socialism and its attendant organizational obesity.

Let’s hope Obama can distinguish the forest from the trees and address the real problem.

Phil Grant is a professor of management at Husson University. He may be reached at pcgrant@verizon.net.

http://bangordailynews.com/2009/01/07/opinion/contributors/understanding-of-economics-needed-to-fix-problem/ printed on October 24, 2014