The way things are going, it may not be that difficult to predict the future, even admitting that it certainly hides new surprises. In 650 words, here are some predictions informed by economics (and birds’ entrails), whether the epidemic itself is being exaggerated or not.
The shortages—real shortages, not “smurfages”—created by government price controls (the state governments’ “price gouging” laws and whatever may come from the federal government) illustrate many crucial facts about economic and social life. Black markets will develop because of the self-interest of both sellers and buyers: many people prefer to have toilet paper at $4 a roll than not have it at all, even if its theoretical price (the one capped by government price controls) is $1 but the thing is not available; and at $4 a roll, it’s in many entrepreneurs’ or middlemen’s interest to sell some. Black markets were a constant feature of communist systems. It is the recent story of Venezuela. As a result, in America as elsewhere, governments will strengthen their intervention and repression against self-interest, which they will call “profiteering,” as so many governments have before them.
It is not difficult to bring a country from prosperity to second-world status (or perhaps even third-world poverty). At the beginning of the 20th century, Argentina was one of the rich countries of the word. Populist governments pushed it back to a second-word country. We may discover that there is much less “American exceptionalism” than many Americans thought. Who would have imagined that, like in Venezuela, toilet paper would become difficult to find?
Back to self-interest. A crucial fact of the social world is that individuals are mostly self-interested and that they remain so when they become politicians or government bureaucrats. This explains, among many other facts otherwise incomprehensible, why government intervention usually worsens a crisis if it hasn’t created the crisis in the first place. Leviathan is not Mother Teresa; it never was and is not now either. Who seriously thinks that Trump is more interested in saving the poor and the sick in America than to be re-elected if only for another four years? (The same is true, even if perhaps not as obvious, for Sanders or Biden). There is alas not much American exceptionalism there either.
The most hardly hit people will likely be those at the bottom of the social ladder. Already, high-middle-class people work remotely; the poor are laid-off. As others of my co-bloggers have hinted at, stagflation may follow, if we are lucky enough to avoid hyperinflation. Imagine a $3-trillion budget deficit financed with money creation. Whatever the extent of the damage, the huddled masses will claim for their illusionary savior: the state.
One of the main dangers in a crisis is the mob’s reaction; and it is often in the state’s interest—in the interest of politicians and government bureaucrats—to follow the mob instead of restraining its irrational fears and wrath. Interestingly, Trump tried to instill some calm at the beginning, quite probably because he saw the epidemics as compromising his reelection chances. At any rate, he was not helped by the fact that he has a habit of lying in-your-face or pontificating about what he doesn’t know. And he was finally unable to avoid following the panicked mob.
In the process, state power expands, planting the seeds for future crises where the state will further increase its power in order to minimize the detrimental consequences of its previous controls on social and economic life.
As I tweeted,
Isn’t it fascinating that, after a century of communism, four centuries of dirigiste price controls, and two centuries and a half of economic analysis, we still have to explain what causes shortages and that falling into the arms of the state is the recipe for economic, social, and political disaster?
And isn’t it troubling that people have to rediscover this through painful experience again and again?
READER COMMENTS
Matthias Görgens
Mar 22 2020 at 7:48am
Hyperinflation seems unlikely. But the rest seems all too plausible
Pierre Lemieux
Mar 22 2020 at 12:28pm
@Matthias Görgens: You may be right, but consider my answer to @Garrett, who made the same objection. Of course, benefits could be reduced (an objection from Garrett I did not discuss. But the same popular pressures that created part of the deficit in the first place are likely to prevent a reduction of other expenses, 60% of which are Social Security, Medicare, Defense, and Medicaid.
Garrett
Mar 22 2020 at 10:03am
The chance of hyperinflation in the US is remote. By saying we’ll be lucky to avoid it implies you believe there is a significant probability it will happen. The Fed would offset a $3tn deficit just as they’ve offset a $1tn deficit. And the BoJ has offset massive spending projects as well.
High deficits will instead lead to future tax increases and benefit cuts.
Pierre Lemieux
Mar 22 2020 at 12:22pm
@Garrett: Of course, high deficits can be financed with increased taxes. A deficit of $2 trillion more could be financed by a 50% increase in federal taxes, or a 66% increase of these taxes if the economy has shrunk by 25%. These very numbers show the difficulty of doing this. So it is that, from the French Revolution to Zimbabwe and Venezuela, governments have resorted to the printing press to finance exploding deficits. Now, $2 trillion dollars is 10% of current GDP and 20% or more of the current money stock (depending on how you calculate it). It is certain that this would cause inflation, which the government would have to compensate by increasing Social Security, Medicaid, and other welfare programs, and finance those increases with further money creation, fuelling more inflation, etc. All the ingredients for hyperinflation are there. Have a look at the graph on my previous post at https://stageeconlib.wpengine.com/mmt-gospel-is-this-time-different/
Garrett
Mar 22 2020 at 5:51pm
I hope you have bought 30y TIPS then, because the spread between nominal yields and real yields is less than 1%. The market clearly does not believe in the risk of hyperinflation.
Pierre Lemieux
Mar 22 2020 at 7:06pm
@Garrett: That’s a good point. But, mind you, financial markets also seem to discount the possibility of tyranny or a civil war. Being an EMH believer is not always easy!
Garrett
Mar 22 2020 at 8:44pm
Do you think there is a high probability of tyranny or civil war? If so, I hope you are positioned appropriately.
I just want to zero in on my issue here, which is your use of the phrasing “if we are lucky enough to avoid hyperinflation.” What probability of hyperinflation does that imply, over what time period? “We” I assume means people currently alive so therefore in “our” lifetimes, so do you mean in the next 50 years? And “lucky enough” to me sounds like you think it’s an effective certainty, so can I put you down for 90% probability?
What amount of inflation do you consider “hyper”? You mentioned The French Revolution, Zimbabwe, and Venezuela. Venezuela had around 10,000% inflation in 2019. Is that what you expect?
So you think that a $3tn deficit would have a 90% probability of causing 10,000% inflation at some point in the next 50 years? I really don’t intend to put words in your mouth, so please help me iron these numbers out.
The US has around 110% debt to GDP. Japan has closer to 240% and has had over 150% debt to GDP since at least 2003. Why haven’t they had hyperinflation?
Mark Z
Mar 23 2020 at 2:40am
Why assume that we would have to pay off $2 trillion increase in debt in one year (that seems to be what your numbers are implying) or that the federal budget won’t go back down after the crisis and the increased tax burden won’t be spread out over time?
Also, is the ‘billion’ (“$3-billion budget deficit”) in paragraph 5 supposed to be trillion?
Pierre Lemieux
Mar 23 2020 at 1:37pm
Many thanks, Mark Z. I will correct the typo now.
Pierre Lemieux
Mar 23 2020 at 1:45pm
@Mark Z: You are right to point out that the increased deficit can be financed by debt, although not without limit. Debt financing would push interest up for now, and increase the tax burden of future generations. There are already pressures for money creation (MMT), imagine what they would be after a tripling of the current $1-trillion deficit! As to why the expenditures and deficits won’t go down (or won’t go back to their previous level), history since the 1960s and public choice theory answer this question, as well as Bob Higg’s ratchet effect.
Pierre Lemieux
Mar 23 2020 at 3:55pm
By the way, the announcement today that the Fed is ready to purchase an unlimited quantity of government bonds confirms my fears.
Maniel
Mar 22 2020 at 11:54am
“The first lesson of economics is scarcity: There is never enough of anything to satisfy all those who want it. The first lesson of politics is to disregard the first lesson of economics.” Thomas Sowell
Pierre Lemieux
Mar 22 2020 at 12:29pm
Thomas always put things right and succinctly.
Jon Murphy
Mar 22 2020 at 1:20pm
I agree. I’ve seen a lot of “Corona-shaming,” that is: using social media to harass people who behave in an undesirable fashion (ie, buying lots of toilet paper), even when it is reasonable to do so. Things are getting nasty.
Weir
Mar 22 2020 at 10:24pm
An ordinary citizen has nothing like the power of the New York Times, and the fear-mongering of the New York Times has been even more panicky and extreme than usual. I guess they see themselves as responsible and thoughtful people, not a rabble or a mob.
Miche
Mar 22 2020 at 1:53pm
I have known Pierre for close to 30 years now and his analytical skills are as sharp as ever.
Otherwise, the great challenge for Classical Liberals, if they have any at all of being taken seriously by anyone outside of their limited circles, is to not fall prey to the current mass hysteria while being able to recognize that this is a truly exceptional situation (at least in the recent future) that does require exceptional actions;
The challenge being to identify what those exceptional actions are and how to limit them to their true and legitimate initial purposes.
Pierre Lemieux
Mar 23 2020 at 1:46pm
I agree (including with the compliment)!
Thaomas
Mar 22 2020 at 5:50pm
Of all the counter productive things that government are doing and is not doing, price gouging laws are one of the least of our worries. [How may of the TP shortages are due to laws and how many to firms just deciding not to have dynamic pricing for long term customer relations.]
Look at the TIPS spread, man! Markets are assuming that the Fed will under achieve even its 2% pa target and in the face of output constraints (disruption of the supply of imports and other inputs, days lost due to sick and quarantined workers and mandated closures) the Fed ought to be targeting more than 2% (so that prices of TP and face masks, inter alia, can rise relative to sit down restaurant meals.)
Pierre Lemieux
Mar 22 2020 at 7:11pm
Hey! person (that’s the modern way to speak), look up my reply to Garrett, who made the same point about market expectations (a good point). However, it’s not clear how inflation, which is a general increase in the price level, could affect the relative prices of face masks and restaurant meals.
Thaomas
Mar 22 2020 at 9:45pm
I think I was being too elliptical. The reason that the Fed should target any inflation at all is that since some prices are downward rigid, some inflation promotes adjustment of relative prices. With a supply shock prices need to adjust more so the inflation target should be higher. causation runs from the higher TP price to the index, not vice versa as my wording may have implied. Sorry
Pierre Lemieux
Mar 23 2020 at 12:40am
Perhaps I don’t understand you correctly, @Thaomas. Assume there is a 10% increase in the money supply. Do you agree that, ceteris paribus, after some time has passed, mask prices will have increase by 10% and restaurant prices by 10% too?
Phil H
Mar 22 2020 at 8:58pm
“How may of the TP shortages are due to laws and how many to firms just deciding not to have dynamic pricing for long term customer relations.”
This is a very good point. The backlash against Uber’s surge pricing didn’t come from governments.
Mark Z
Mar 23 2020 at 2:44am
Well, actually, some governments have. Honolulu for example capped surge pricing for ride-sharing service a couple years ago.
Customers complain about high or ‘unfair’ prices, then buy the product anyway because it’s still worth it, so companies don’t care so much about their backlash. Voters, on the other hand, (unfortunately) consistently act on their irrational complaints.
Jon Murphy
Mar 22 2020 at 10:21pm
Precisely all of it.
Pierre Lemieux
Mar 22 2020 at 11:50pm
You are right. Without coercive price caps (and the fear of punishment from government), there would be no shortage except very temporary–until the next supply truck comes to the grocery store with higher-priced toilet paper. Economic theory helps us make sense of why there were no waiting lines at service stations in Canada in 1973.
Warren Platts
Mar 23 2020 at 1:13am
Pierre, I think you’re missing the point. Grocery stores are not raising their prices (much) because of government coercive price caps. Rather–depending on how you want to frame it–you could say it is because of customer coercive price caps in the form of a threat to take their business across town. Or you could say that the grocer actually cares about her customers in addition to caring about her profits.
Whether you think in terms of coercive customers, or caring grocers, you wind up with empty shelves. It is a genuine economic shortage in the strict sense, but no governments are involved.
Anyways, the price does go up: just not in terms of money, but in terms of time. You may have to wait in line, or get up earlier than you would like and be there when the store opens its doors. Thus the most hardly hit people will likely be those at the bottom of the social ladder. 😉
Pierre Lemieux
Mar 23 2020 at 2:02pm
@Warren: I agree with your last paragraph, but not with the rest. It is not impossible that, for a very short period of time (until the next supply truck comes), a grocer would ration his goods among his customers. Not otherwise. If they were really altruistic in the sense you say, they would always charge a below-market price and ration their goods to please their customers. Would competition drive the price to zero because consumers would threatened to go next door to be rationed even more? You may object to this that rationing is only required by customers in case of some “collective” emergency (“we as a nation are all into this together, and Appalachian rednecks are willing to embrace New York City intellectuals and metrosexuals”), but if that were true, black markets would not appear. Finally, if suppliers on the market are so altruistic, they would all move into politics, that is, as we know, in the world peopled by politicos and bureaucrats who impose price caps because they are all Mother Teresas.
Fred_in_PA
Mar 23 2020 at 2:21pm
I’ve noticed prices go up in another (small) way, too.
Bargains & specials disappear — everything now goes at full price.
Pierre Lemieux
Mar 23 2020 at 4:06pm
@Fred_in_PA: You’re right. Retailers are trying to increase prices stealthily to be able to continue supplying their customers, who prefer to pay more to not getting the stuff. One way is to sell in large quantities only (ammo, toilet paper…) and not offer the discounts that would normally come with larger orders. As time passes, you will see lower quality or slightly smaller containers at the same price, slightly modified products (to look like new products) at much higher prices, elimination of free shipping, and such. It’s a sort of grey market that will alleviate part, but only part, of the shortage.
Warren Platts
Mar 24 2020 at 2:48pm
Pierre, such grocers are not being altruistic in the strict sense, where one takes a loss in order to help others. They are still making their money. More money than ever because they are moving their inventory faster than they can replenish it. The only thing they are giving up is a windfall profit. That represents an economic loss to then, for sure.
But consider that they have figured out that if you have a jelly and jam display with 30 different kinds of jellies and jams versus a display that only contains six different kinds of jellies and jams, you will sell more jellies and jams with the display containing only six different kinds of jellies and jams.
The point being, the business of selling groceries is a science. If grocers do not jack their prices because of a demand surge–thus causing an economic shortage in the strict sense where quantity demanded exceeds quantity supplied–it is not because they are genuinely altruistic; it is because they have figured out this will maximize profits in the long run.
Mark Brady
Mar 22 2020 at 8:20pm
I fear the state more than I do “the mob.” I don’t care for this elitist talk.
Pierre Lemieux
Mar 22 2020 at 11:55pm
It depends, Mark. Lot of blacks (say, if they moved into a white neighborhood) used to really fear the mob, because they knew that the government was on the latter’s side. Otherwise, a group of thugs is just a gang of thugs, and Colt or Winchester is the Great Equalizer.
Mark Brady
Mar 23 2020 at 2:54am
You wrote, “One of the main dangers in a crisis is the mob’s reaction; and it is often in the state’s interest—in the interest of politicians and government bureaucrats—to follow the mob instead of restraining its irrational fears and wrath. Interestingly, Trump tried to instill some calm at the beginning, quite probably because he saw the epidemics as compromising his reelection chances. At any rate, he was not helped by the fact that he has a habit of lying in-your-face or pontificating about what he doesn’t know. And he was finally unable to avoid following the panicked mob.”
But, in your response to my post, you allude to the KKK terrorizing Blacks and bootleggers, and that is very different from how you use the word “mob” in your original post from which I quote above.
I may agree with you that many people, and let’s not forget those in government and the media who are not seen as part of “the mob,” are calling for government measures that may make matters worse, not better. That said, I submit that calling the public “the mob” comes across as a disdainful elitism that undercuts your arguments.
Pierre Lemieux
Mar 23 2020 at 2:12pm
You know, Mark, that I am not the finest political strategist you have met! I will try not to sin again. But how were the mobs chasing blacks out of white neighborhoods (there were not necessarily KKK wizards) different from the mobs that clamor for price controls and deportation of immigrants? This might be a matter of degree (and the degrees are evolving), but what else?
Mark Brady
Mar 23 2020 at 3:35pm
The “mobs” clamoring for price controls and the deportation of immigrants are not stringing up merchants or undocumented immigrants. So far they haven’t take matters into their own hands. When they do, I’ll call them “mobs.”
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