So why do prices go up? There are several factors such as demand and supply, cost of production, desirability of a product. But an important one that we have starkly demonstrated before us right now is the availability of money to buy. This is why real estate prices have surged and then plummeted recently.
Houses have
just as much use as they did a couple of years ago. Probably just as many people would like to
own one. But the variable that has
changed is the availability of easy money to buy with. As we know too well now, people were able to
get mortgages with limited income, not much record of paying bills regularly
and with little or no down payment. In
some extreme cases, they even got loans for more than the selling price of the
house. This continued as long as more
and more easy credit was available and people thought home prices would always
go up. But something like this can’t go
on forever and when it stops a lot of people are caught off base.
If you don’t have much cash, you aren’t going to just throw it away. At least most of us wouldn’t. You aren’t going to let your last dollar go except to get something to eat. We also know that sellers are always interested in raising prices. If people can’t pay, they don’t go too far in that direction but they are always trying. So when you have easy credit at cheap interest rates, you are able to pay more and are not as resistant to price increases as you would be if you had to pay cash out of pocket. So prices go up. And up, and up, if they money keeps coming.
If you put a lot of new money into a game, prices go up. Back in the fifties medical costs weren’t a great problem and most of us didn’t have health insurance. As more things were covered by insurance, there was the ability to raise prices. Of course there have been a lot of developments in medical care that raised costs. But without the new money, the new developments might have been unaffordable.
When I was in college, there was little financial assistance for ordinary students. As loans, grants and scholarships have become common, tuition and other costs have surged. I don’t know that the schools are providing a better service than they were before but they are able to charge more because money is available.
So why is this important now? If we look at the Obama economic plan, it involves vast spending in the current stimulus but also vast increases in permanent spending programs in the future. This is going to put incredible pressure on prices of everything that is supported to go up to absorb the available money. One definition of inflation is when prices increase because the money supply is growing faster than the supply of goods and services. So we just need to keep in mind what is certainly coming unless we can slow it down. Increased spending without corresponding productivity gains will create an even bigger economic mess than we have now.
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