Tuesday, May 13, 2008

Does Increased Spending Equal a Healthy Economy?

Millions of Americans are about to receive stimulus checks from the government intended to spur the economy by encouraging more spending. But does moving money around really make the economy healthier? Not necessarily.

Economic systems are designed to enable the efficient flow of resources throughout a society. In the case of free-market capitalism, this is done through the cumulative effect of billions of decisions made every day by freely associating individuals. But, every decision comes with a cost - an opportunity cost. That means, making one decision eliminates the possibility of another. When you spend your last dollar on one thing, it's no longer available to be spent on another.

In the 1990's we experienced a huge run up in the stock markets. The internet was all the rage. Many took advantage of this by founding companies related to the internet. Some of these were of great value and indeed added to the quality of life for all Americans. However, many went something like this: A group of individuals enticed investors with grandiouse plans and visions of the future. Investers ate it up and the founders were suddenly awash in cash. They used much of it to give themselves and their compadres huge salaries, bonuses and perks. Meanwhile, the business model failed miserably. Eventually, the investors lost their shirts and the founders walked away multi-millionaires. A lot of cash moved around and produced...nothing.

Another good example is the "Pet Rock" craze of the 1970's. A clever individual marketed a small rock in a box with some holes in it. It caught on like wild fire. What was the cost? Well, you've got to keep in mind that money represents human resources, both on the part of the producer and the buyer. When you spend money on something, you're committing a portion of your past or future labor to that product. Every million dollars that was spent on Pet Rocks represented over 100,000 man hours that were devoted to the production of rocks in a box as opposed to something else. Again a lot of money moving around, a lot of time consumed, to produce...nothing.

A healthy, efficient economy is not just about quantity. It's also about quality. The individual is key in a free-market economy. We should not attempt to eliminate free choice regarding spending practices, but it would be helpful if individuals were more aware of the dynamics at work when they make a purchase. You cast a vote with every dime you spend. You're asking the producer to make more of the same. Your spending not only your cash, but your time, your labor. When you make a purchasing decision, consider the opportunity cost. Consider the value of directing more time, more resources to what you are about to buy. Is it worth 4 hours of your workday? Is there something else that might be a better value?

If you really want to have a positive impact on the economy, don't just spend. Spend well.

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