Inflationomics

Why Regulators Can’t Regulate

Everyone knows that regulators regulate markets.  Markets, of course, are the result of individuals acting freely to determine the price of everything from food to insurance.  It’s simply the most efficient way to allocate scarce resources in a world of unlimited wants.  And when regulators regulate, they alter the way people behave.  They raise costs and require individuals to find ways around the regulations to achieve their individual goals; i.e., to circumvent the shortages and surpluses that the regulations inevitably cause.

Consider the money supply, which the Fed has a government-granted monopoly to supply.  When the Fed prints (or electronically creates) more money than what the markets demand, we value each dollar less, and goods prices that are stated in dollar terms go up in price.  In short, we have price inflation.  Price inflation (rising prices) encourages some people to purchase things with debt—like houses, cars, or an education.  (Low interest rates, artificially held down by the Fed, also encourage people to borrow more money than they otherwise would.)  As more and more people buy goods/services with debt, prices are pushed higher.  In time, people buy more things than they can afford, and some people default on their debt, leading to a domino effect until lenders stop lending, and spending contracts.  In short, we have a recession or depression.  Consequently, the Fed prints more money and lowers interest rates in an effort to stimulate the economy (avoid a recession), and we start the same old cycle over again.  Or do we?

What if the Fed raises interest rates rather than lowering them?  Or, what if more regulations are enacted?  It’s possible that markets may become even more depressed and distorted before we see another round of inflation.  Consider Obamacare, an additional tax.  It’s sold to the public as a way to keep insurance prices down so everyone can afford insurance, but it surely has a depressing effect on businesses that are subject to the new tax.  More tax means less income to corporations and the individuals they employ.  It may also result in higher prices to the consumer.

Then there’s minimum wage legislation.  It’s sold to the economically-ignorant folks as a way to increase poor people’s standard of living, but no one points out how many people it keeps out of the labor market.  When the minimum wage is raised above one’s productive ability, those folks are likely to be dismissed, not hired in the first place, or replaced by cheaper technology (read robots, or self-serve computers).

And the businesses that are affected by new regulations (and can’t avoid them through some exemption or by moving to another jurisdiction), will become less profitable and potentially go out of business.  In time, we’ll see a rise in credit default swaps, followed by rising bankruptcies, a general business decline, more layoffs, companies moving to other lower-taxing jurisdictions (inversions), etc.

In other parts of the world, some people may starve to death (in the Middle East and Africa, at first); others will fight for the ever-scarcer affordable resources.  Wars will proliferate.  Refugees will flee to other richer parts of the world where they can reduce their food insecurity, but increase friction in their new homelands.

All the while, governments around the world are trying to regulate the afore-mentioned effects of price inflation out of existence.  Their regulations, of course, wouldn’t be necessary if they hadn’t created the price inflation in the first place.  Regulators can’t regulate the mal-effects of price inflation out of existence by passing a law that declares it illegal for prices to rise, for example (price controls).  Regulations just make things worse, and black markets may appear.  All the while, governments become more intrusive in their attempts to keep individuals and businesses from raising their prices, while requiring higher wages for their workers.  Trying to stop prices from rising by force (government rules and regulations) while printing more money has always failed in the past and will always fail in the future.

To the extent that governments are successful in holding prices down through the use of force, they defeat the price action of markets and the freely working individuals who are merely trying to buy/sell goods at a “market” price.  In short, they thwart the normal behavior of people who are trying to buy/sell and trade goods/services.  In the long run, their attempts to regulate prices (and peoples’ efforts to survive) will fail, or they will have to kill off those who disobey the regulations.  In other words, regulations run counter to human nature and are ultimately destined to fail.

You might think of regulations as a short-term inconvenience that is destined to fail in the long run.  Unfortunately, they might outlast your ability to survive them.

Robert F. Sennholz

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