Like many capitalist nations the United States operates under a free market economy. This allows for supply and demand to drive the price of products and services. When the supply of a good is too high the price has to drop to sell it and if the supply is too low the price goes up to make the most money possible on it. The demand of a product being higher than the supply raises price and lowering demand lowers price. The unfortunate side effect of such a system is the economic boom and bust cycle. What happens in this cycle is that the economy goes up and down to adjust for the supply and demand levels that bring a happy medium point in price and quantity known as equilibrium. Although this cycle naturally goes up and down the amount it spikes up and down is a whole different factor. On it’s own this process should be bringing a minimized impact on the economy each time since the market should be approaching equilibrium. So then why do we see exceptionally high booms and busts in the 1930s and recently? This can be attributed to our financial institutions. It is NOT because these institutions are greedy but the very nature under which they operate counteracts the natural free market economy. As mentioned above if the price of a product is too high people can’t afford it and therefore the price has to naturally drop to an affordable level. With a financial institution the high price is accepted due to loans and therefore rather than receiving indication that the price is too high the market sees a high demand and finds the price to be too low. This cycle can continue into a phenomenon known as a bubble, which brings worse economic turmoil since the bigger the boom the bigger the bust! When people can invest in something they generally bring a tragically big bubble.
In the 1930s the stock market was inflated through loans and so the stock prices sky rocketed until a few major investors pulled out and the prices began to drop. Once it starts to drop dramatically less people have confidence in it and the bubble bursts. At that point all the money taken out can’t be repaid since the money only existed through false means. The loans were made out with the assumption of repayment and diminishing stocks means diminishing value of all corporations. That means mass layoffs and the fact that the loans can’t be repaid means the banks lose that amount they expected so they cut interest rates on money markets, checking accounts, savings accounts, bonds, and other investments people have made. The entire system shows how badly it was propped up by fiat money. Fiat money is money that is not hard cash and is in the investment market only backed by the banks making secure loans. Recently we experienced a very similar issue only instead of stocks it was real estate so unlike the other recessions and depressions every home owner is directly effected and knows it.
How do we get out of this crisis?
The best way to get out of this crisis to to regulate the loans and credit cards. Basically anything that is fiat money has to be regulated to create a more capitalistic society as contradictory as it may seem. Our dependency on the financial system has lead us into great economic problems yet as individuals not taking out loans does not solve the problem. The issue is that our nation fears deflation yet under a free market without fiat money deflation and inflation are minimal. Unfortunately it is an endless cycle on it’s own and will lead to future depressions and recessions. If our society can move away from credit cards and loans and move towards prepaid cards and debit cards the system will function more properly. The issue is that we are currently using a Keynesian approach to economics. This approach shows that by giving more money to the banks to loan out a recession can recover and bring more money into circulation. The problem is that this is making us more dependent upon loans and although it temporarily fixes the problem in the long run the banks get there money back with interest and the average American is more broke or defaults on the loan. Keynes, himself says, “In the long run we’re all dead.” It is a rather cynical way to approach the solution and ultimately puts a bandage on the problem. This is what the current administration has done and the only way for justifying the stimulus package. If we want to see a stimulus that works the $14 billion that went to small banks to loan to small businesses should’ve all been grants! If the tax dollars are going to be spent to generate jobs they need to be in the form of grants instead of loans so the dependency on loans is minimized! An economy that has deflated and gets inflated by back up by the same means as usual is not going to help. There maybe other solutions that work better than grants but unless we start thinking out of the box the cycle won’t be broken and another bubble is inevitable