Friday, July 25, 2008

The Economy as A Beehive, NOT A House of Cards

A natural system manages and heals itself. The economic system is no exception. The economy is not a "house of cards," susceptible to collapse as soon as a few cards are dislodged, it's more like a beehive. The future of the hive does not depend on full employment for all the worker bees. In fact, an accident can put many bees out of action without compromising the hive as a whole.

At the micro level, the failure of an institution is often a disaster to those with a personal stake. But from an overall perspective, when one institution becomes insolvent, another can be relied on to pick up its functions.

It's widely assumed that a large enough wave of bankruptcies will bring the economy down. Little or no credit is given to the ability of the economic system to heal itself and find its way back to vitality.

What's excessive now is fear, not debt: Fears of insolvency and private-sector indebtedness are misplaced and harmful. They place obstacles in the way of ill-used capital that seeks to move toward safer and more profitable employment. They plunge the stock market into turbulence. They push government into hasty actions that intrude more aggressively into private choices and decisions. They undercut the market-price system, without which the economy cannot allocate resources productively. Last but not least, these fears trigger the proverbial false alarm in a crowded theater, sending everyone stampeding for the exits.

Editorial in today's WSJ by David Ranson

MP: We operate under a "profit AND LOSS" system, and as painful as they are for some people, business losses and bankruptcies are an important part of the economy - they reallocate resources that are being used unwisely towards productive uses that are more highly valued by the economy at the macro level. When there are business failures, resources (property, plant, equipment, capital, human capital, labor, real estate, land etc.) don't ever disappear, they just get reallocated.

7 Comments:

At 7/25/2008 10:20 AM, Blogger matt said...

Right, if it fails, it fails, right? So, lets let the failed business model of Fannie and Freddie go by the wayside. No taxpayer bailout.

 
At 7/25/2008 10:35 AM, Anonymous Anonymous said...

Mark,

I and my fellow (recent) econ grads are as free market as you or Milton Friedman...but I'm really starting to question how efficient markets can be when I witness others of far less talent, with rather worthless, intellectually-lite majors getting nice jobs and upward mobility.

Sometimes it seems like academic economists are impervious to the frustration faced by many.

How can it be that one can have a highly sophisticated background in economics and finance (and information technology) and still fail to find a job or internship after months?

If I saw a young guy with ridiculous talent and motivation, I'd hire him even in the midst of a rather steep recession, knowing that the costs of keeping him in a cyclical downturn is much less than the longterm benefit of his productivity.

If there is a positive NPV, and yet the transaction is not being taken, then there is some amount of myopia in labor markets, not to mention the extensive asymmetric information.

 
At 7/25/2008 11:16 AM, Blogger Trevre said...

Mark,

It is easy to stand by the wayside and criticize what the government is doing wrong, and I agree there are a lot of things that they are doing wrong. The real challenge is to find what the government is doing right, how they are doing it right, and which people are responsible for those right things.

Just like the media biases the negatives in the economy, so do you bias the negatives in our government. And just like you can't motivate a child by always telling them what they are doing wrong, you can't motivate a government that way either.

 
At 7/25/2008 12:41 PM, Anonymous fred said...

We motivate the government by voting the bums out.

 
At 7/25/2008 12:46 PM, Blogger Trevre said...

We motivate the government by voting the right people in.

It doesn't do any good to vote a bum out if you don't vote the right people in.

 
At 7/25/2008 6:25 PM, Anonymous Anonymous said...

We motivate the government by voting the bums out.

That's so quaint, fred, where did you come up with the idea? Some polisci class!

You do realize that illusion and gerrymandering makes your lecturer in Flint, Michigan a bag of hot air. Could you arrange for a drive by of the 1916 Prospect Street beehive?

 
At 7/25/2008 11:04 PM, Blogger bobble said...

"business losses and bankruptcies are an important part of the economy - they reallocate resources that are being used unwisely towards productive uses that are more highly valued by the economy at the macro level. When there are business failures, resources (property, plant, equipment, capital, human capital, labor, real estate, land etc.) don't ever disappear, they just get reallocated."

correct-a-mundo! one of the current problems is getting the banks to admit that they have massive failed loans, both on and off the balance sheet. let's get them to 'fess up, fail, and get on with it

 

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