Say's Law revisited

Congress, the president and just about every other politician in Washington continue to address the fiscal crisis, and the impending economic crisis by trying to stimulate consumption.  But a look back in time shows us that this may not be the correct approach. 

Say's Law, the work of Jean Baptiste Say, states that there can be no demand without supply, and further that recession is not caused by a lack of demand, or a lack of money.  A further implication is that the creation of products, spurs not only demand, but the demand for other often unrelated products.  An increase in money to spur consumption will just lead to inflation.

Let's first prove Say's law with a very modern example.  And I can prove it by asking you a very simple question.  What was the demand for Ipods in 1994?  Well of course the demand was zero, because there were no Ipods.  Now let's look at other products and services and see how the Ipod affected their demand.  Those who created and sold ipods, now have more money.  These fine people now would like to exchange the fruits of their labor in building and bringing the product to market by buying new cars, houses, refrigerators, or having a service cut the grass.

So this more productive method of enjoying music, has now spurred demand and an exchange of labor, to create even more demand for currently supplied goods.  To further the point, the demand for flying cars did not rise. Why is this? Surely some of the folks who designed and built ipods became very wealthy.  But they have no demand for a flying car, because there is no supply.

Are you beginning to see a problem with the bailouts, and Senator Obama's plan for tax increases and "stimulus" packages? 

These things have been tried before, and generally speaking, they do not work.  The reason for this is that nothing has been done to spur productivity or increase the supply of goods available for sale.   Many, including president Bush, have made the classic mistake of thinking that the housing crisis was caused by an over supply of new and existing homes.  This is patently false.  The real problem is that the supply of houses at a given price, higher than  consumers are willing to pay. 

This is the natural order of an economy.  And it is the reason we have dollar stores and outlet malls. When the supply exceeds demand at a given price, we don't go bail out Tommy Hilfiger.  The clothes are simply discounted until the sell.  This is what brings an economy in to equilibrium. 

Why the lack of equanimity in politicians?
This is a great question.  The panic in Washington is exceeding the panic on Main Street, and probably driving a good deal of the panic on Wall Street.   The only logical answer is that we have very few politicians with even a tangential understanding of economics. 
    Alas this is nothing new.  In the 1970's (after Watergate) a very liberal congress conspired with a very liberal president to enact higher taxes and inflate the money supply.  The result was about seven years of lean times.  The shift towards more classical economic thought in the early 1980s lead to increases in productivity, supplies, and ultimately demand. 

There is good news on the horizon but the horizon may be two or four years out. Eventually the people of the nation come to the same conclusion that Say did almost 200 years ago.  The politicians who yearn to drive consumption by redistributing wealth are turned out, classical thinking politicians take over, and the ship is righted.

A caveat.
As I've written before, I think the biggest threat facing our long-term economic policies is two-fold.  The first is the demographic time bomb of eighty million retiring baby-boomers. The second threat is even more sinister.  Recent explosions in productivity will create an economy where full employment is no longer necessary.  As this becomes more and more obvious we will have a hard choice to make.  Labor after all, is a supply in and of itself.  If eighty percent of the working population can create all the goods and services required to sustain all of the population, what do we do?  We will either have to rethink the forty hour work week, or, create meaningless jobs for twenty percent of the population.  The problem with the latter is that government doesn't have a good track record for creating low wage meaningless jobs. They often turn in to high wage meaningless jobs, which breeds resentment (rightly so) among those who are actually producing.