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Please help me understand this basic concept

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October 25, 2010 – Comments (8)

When a natural disaster occurs and wreaks havoc on the economy, I get that.  When we owe another country a lot of money, and they collect it, and we suffer as a country, I get that.  I get why war can ruin an economy, and why scarce resources can ruin an economy.

However, how can there be a GLOBAL recession based off of nothing but leverage?  If there was no oil left in the world I could see how that could ruin the global economy.  But when banks start collapsing and the system becomes deleveraged, why do people starve and why do people get laid off?  There is still the same amount of food and houses and peopel and steel and cars and boats and planes and computers in the world, so why do people stop building, or shipping, and how do people not afford food?  Shouldn't financial disaster be zero-sum?  If your bank collapses, you lose, and the bank had gained by using it all up in the mean time.  Or if your stock tanks, the longs lose and the shorts win.

Everybody discusses money in the abstract, forgetting that the collaterall of money is stuff.

How can there be a globl recession caused by something that is abstract as money and having nothing to do with the actual stuff?

 

8 Comments – Post Your Own

#1) On October 26, 2010 at 1:03 PM, Griffin416 (99.98) wrote:

If there is a credit contraction, it is not sum zero, there is less money in the world for everybody. Businesses can't get loans to expand their business and buy their product overseas...causing the overseas markets to get crushed too.

Same as if the SEC decided to stop margin buying in the stocks market...S&P would plummed huge, less money.

Additionally, I disagree completely with your first paragraph, war makes economies boom because they need to produce war machines and ammo, after a natural disaster, the economy picks up because they need to buy more materials, rent CAT and hire more people to rebuilt, more buying plus more employment equals better economy.

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#2) On October 28, 2010 at 12:39 PM, ikkyu2 (99.15) wrote:

What is the function of money?  It functions as a medium of exchange, a unit of account, and a store of value.

If there is less money around relative to all the assets and stuff in the world, then the value of each bit of stuff is accounted for by fewer dollars.  That is called deflation.

If there is less money around, there is less money available to do exchanges between 2 parties.  That means that business slows down and doesn't get done, because nearly every business transaction involves a trade of money for goods or services.  Business slowing down means less jobs, less wages, less food to buy, less money to buy food with, etc.

This is indeed a vicious cycle because after, say, 10% of the populace get laid off, the businesses that laid them off then do less business next quarter, which means even fewer goods and services on the market to create value next quarter, which means less GDP, which means less money supply.. etc.

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#3) On October 28, 2010 at 12:45 PM, ikkyu2 (99.15) wrote:

By the way, if you have $167 to spend, this book answers all your questions:

http://www.amazon.com/gp/product/0324589972?ie=UTF8&tag=jazzandconvfr-20

The first thing he teaches you to do is start thinking of markets, with supply and demand.  The next thing that happens is that you are taught that MONEY behaves as if traded on a market, with supply and demand.

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#4) On October 28, 2010 at 3:16 PM, Valyooo (99.46) wrote:

But like I said in my other blog, it is like when a stock does a split or reverse split...the company is still the same, with the same market cap, it just takes less or more dollars (depending on the type of split) to buy the particular share.  So if a car is 100 bucks, and then the money supply gets cut in half, now it only takes me 50 bucks to buy the car, either way I still have a car, so why does it matter?

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#5) On October 28, 2010 at 3:35 PM, mtf00l (46.43) wrote:

Marry the theories presented above with the fact that banks loan money that doesn't exist and take two aspirin or aspirin equivalents and get some rest.

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#6) On October 28, 2010 at 4:18 PM, Starfirenv (< 20) wrote:

Val- " So if a car is 100 bucks, and then the money supply gets cut in half, now it only takes me 50 bucks to buy the car, either way I still have a car, so why does it matter?"
  If a car is 100 bucks, a car is 100 bucks. If the "value" of a dollar were to double, that would be different.
  Seems you are trying to "back in" to basic econ 101. I think it would help you to understand the "Debt Based Monetary System" (or Credit Based Money).
  Think of it this way, if I had a dollar and loaned it out to 100 people at the same time (fractional banking), would you say I loaned out $0, $1 or $100 or "debt"? What happens when more money is loaned than exists (plus interest)? There is a tipping point.
   http://www.simondixon.org/what-is-a-debt-based-monetary-system/2009/02/02/ 
  Hope this helps. Regards

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#7) On October 28, 2010 at 4:30 PM, Valyooo (99.46) wrote:

If there were less dollars in the money pool though, why wouldn't people just accept less of them for the items they are selling then?

If we enter a period of deflation, and all of a sudden my net worth is less, but my house and car and tv and clothing is all in the same condition as it was before this period of deflation, am I not in the same condition I was before?

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#8) On October 28, 2010 at 4:33 PM, Valyooo (99.46) wrote:

I could totally see how deflation really hurts some people who took out loans at the top, but i cant see how it hurts the entire world without helping as much as it hurts.

To me, it makes as little sense as people seeing natural disasters as great for the economy.  Yeah maybe the GDP rises because we need to spend more on rebuilding, but that doesnt make anything better off.  If I built a home, destroyed it, and then rebuilt it, it would show the GDP as having produced two houses, but in reality there is only one.  If i were better off destroying stuff to pump spending, I would put anthrax in my cheerios to boost nurses salaries

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