Finance Friday | Supply and demand
In theory, competition and supply and demand should regulate prices in a free market. In practice that isn’t the case. There are monopolies and cartels. There can be a lack of competition. There can be government interference in the market, such as the government’s ‘help to buy scheme’; that can distort the property market. An increased money supply can also mean increased demand.
When goods are in short supply, such as wheat and potatoes last year, because of poor harvests, then prices tend to go up. However in the UK, the water and energy industrials have a virtual monopoly and so we see ever increasing bills. They always blame the need to improve infrastructure, but that is investment and investment should come from shareholders.
A increased money supply means there is increase demand for some goods. The demand isn’t for all goods, if you own a television you are unlikely to rush out and buy a new one. You might want to invest the extra money you have though. But what can you safely invest in? The stock market seems inaccessible to many people and unduly risky. Property is more of a safe bet and you can live in a house. Many people ‘invest’ their money in a larger or better house and they perceive these to go up in value. Do houses go up in value or is it the money that goes down in value? Value depends upon desirability and demand. So property does go up in value, but not as much as increased prices would suggest. Money is also going down in value with inflation. This makes it very hard for people to save and so it’s hard for first time buyers to save a deposit. This problem seemed to be solved by banks offering 100% mortgages or even 125% mortgages. The banks however got carried away and offered credit cards, loans and many people got in too much debt and weren’t able to repay that debt. Banks crashed.
Is the government’s ‘help to buy scheme’ a better idea? It seems to me to be distorting the market. Prices for homes for first time buyers have already gone up with the increased demand. Low interest rates, again the result of government manipulation, also increases demand. The construction industry will benefit though. Right? It would benefit a lot more if the government would increase the money supply and put the money into social housing. If young people could go into cheap social housing while they saved for their deposits that would be helpful. Those in better jobs would manage to save a deposit and those on minimum wage would tend to stay in social housing. There would be less risks for banks and less market manipulation by government.
The Labour party are talking about cutting VAT if elected to stimulate the economy. Is that a good idea? It would stimulate demand for imported goods, but do we really need to help overseas exporters and manufacturers. Do we really need to make computers and smart phones cheaper? If they were going to cut VAT at all, then the VAT on gas and electricity could be scrapped. They are essentials that we all need to buy. Would demand go up? Would you leave your heating or lights on more just because your bill had been cut a little? No, me neither…
Please share your thoughts in the comments box.