Monday, December 13, 2010

Economics: Bubbles pt 3 - The Bust is a Good Thing

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Too often the boom is praised and the bust is hated, when in reality the only healthy part of the cycle IS the bust. Think of the bust like a shower, you scrub off the dirt and dead tissue so that you're only left with the healthiest and cleanest parts. For me, showers are also a good time of contemplation, a time where reflection spawns creative thought.

I'm not saying that we should rejoice that people are losing jobs, but if we understand *why* a business needs to fail then we'll also understand that new jobs will soon be created, because the market has automatically become more efficient in this cleansing process making available resources that were being wasted with inefficient businesses.

If Wes-E-B is giving away goods due to my awesome idea of expanding credit to my customers then when I go out of business there will now be many things that can happen. The supplies that were going to my store can now go to other stores that are more efficient and they can expand their business to serve more people. Someone can also take over the building I was using, maybe starting a new store or perhaps an entirely different business (like a warehouse for shipping FedEx, or whatever), they'll likely get a great deal since I have to auction off the only usable parts of my business (buildings, inventory, equipment), while removing from the market those bad things (my empty line of credit), this is an automatic increase in efficiency over what I had originally started with. The employees are released, but there will likely be new businesses that will need employees as well, and since these other businesses are more efficient they'll likely have a more stable job. Not to say that any of those things are guaranteed, it's a highly random example so there's a lot of room for variables, but we *can* say that there's a rush of new resources available to the market.

So it is when a bubble bursts, there needs to be a liquidation of malinvestment (a term I believe that was created by the Austrian School that stands for failing businesses/bad assets). Through the liquidation the market now can see which businesses are efficient and can be trusted, the usable assets can now be reallocated by an efficient business.

Ah, but you say that the Financial Bubble has burst, so why hasn't there been a recovery? To which I remind you that it *hasn't* burst yet! Remember Bush & Obama's bailouts? Remember Bernanke's Federal Reserve bailouts? No, rather than let the bad assets fail they've merely been propped up, further exacerbating the issue. That isn't to say that no businesses were helped, but if you loan ME a billion bucks I'm sure I could make something out of it too, the point is that the market didn't determine that those businesses *earned* anything else, politicians did! The fact that they propped up these illiquid assets is why we have NOT had a full recovery yet, just further kicking the ball down the road.

I often hear that we're making things worse for the next generation, but I'm here to tell you that you should not be concerned with your grandchildren and probably not even your children, because WE are the ones that will likely face the fallout of a century of bad economic policy. However, if we allow it to take place and let the market make its determinations then we can get back on fertile ground, where only good businesses thrive and survive.

First, we have to undergo the treatment to the disease, not merely continue treating the symptoms. Believe me, the treatment will freaking hurt.
A View of Economics
Week 1: The Coming Disaster
Week 2: What is currency?
Week 3: Inflation
Week 4: Hyperinflation
Week 5: Deflation
Week 6: Money Represents Production
Week 7: Bubbles pt 1 - Housing Bubble
Week 8: Bubbles pt 2 - Pure Credit Expansion
Week 9: Bubbles pt 3 - The Bust is a Good Thing
Week 10: Productive vs Destructive

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