The Nation's Pulse

The Economics of Quicksand

Media experts stunned when falling prices result in greater sales.

By 1.30.09

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In this week's business news, home re-sales across the country rose 6.5 percent in the face of record drops in home prices. CNN used the word "surprise" to characterize this jump. But the only thing that was a "surprise" is that CNN and other media outlets practically shout that they have no grasp of the basics of economics.

Let's make this really simple. Economics 101 teaches us that if prices go down, people are more likely to buy something. To retool a classic adage from the father of economics, Adam Smith, it is not out of benevolence that butcher occasionally lowers prices on ground meat. It is because the butcher wants you to buy more. And it works.

Car companies, clothing stores, and even banks tout how much money they can save you, the consumer, if you come in and buy their products. The lower the price, the more likely you are to buy.

Suppose you are thinking of buying a new Honda Accord. One dealer quotes you a price of $30,000. Next door you are offered exactly the same car for $15,000. Which car will you buy? Which car will make you more likely to buy? The answers are not obvious to the writers at CNN.

That sales of existing homes exceeded expectations is a flicker of hope in otherwise dismal economic times. It offers valuable information for how we might handle our economic woes. It's been widely reported that people who can't make their mortgage payments are losing their homes. Now, predictably, bargain shoppers who might not otherwise be in the market for real estate are taking advantage of the lowered prices.

The government hasn't -- yet! -- started halting foreclosures or artificially propping home prices by setting minimum prices. And now the housing market is showing signs of recovery. Had home prices been artificially inflated in an effort to "protect" home values, as John McCain wanted, there would be no increase in existing home sales.

These commonsense economic principles are working for home buyers. So why are we ignoring the housing market's rebound elsewhere? The government is still propping up lots of companies and industries that are on the verge of failing. Are they showing glimmers of hope? No.

In fact, Chrysler and GM are already lining up to beg for another round of handouts. It is hard to keep count of how many times AIG and Citibank have been given funds. Despite the countless trillions that have and will be doled out, there is no sign that a turnaround is even possible.

For the turnaround to start, prices need to be allowed to fall, and failure has to be an option. Preventing the failure of Chrysler or AIG or Citibank also prevents natural market forces from correcting the problems, which only helps to prolong and deepen the economic crisis in America.

Letting failure run its course, however painful to those people that may be displaced or put out of work, is the only course of action, or rather inaction, that can lead to recovery. In the long run it is better for everyone even if it is politically unpopular right now.

It is well past time to realize that interventionist so-called "fixes" for the economy are akin to struggling against quicksand. The harder one struggles, the faster one sinks.

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About the Author

Eric Heidenreich is a writer in Alexandria, Virginia.