How Low Can You Go?

At the risk of sounding utterly snobbish, a confession: as an agnostic, apolitical citizen of San Francisco, I seldom find myself interested in the capricious stories hocked by the media. (Tainted Chinese dog food?) It being an election year is a clear exacerbation.

But there is one topical item I unfortunately find all too relevant – the recession (GOOG news reports 70,773 search results for the word today).

The idea of recession has always intrigued me. Why should the myriad participants in an entire economic collective decide in unison to stop working and start saving? Explanatory theories abound, but my understanding is most economists agree recessions occur when, in response to some exogenous shock, people attempt to stockpile cash. The system breaks down when I hoard my $1 and forego buying that coffee (OK, so perhaps $2 would be more realistic) which means you, my friendly coffee purveyor, will not have a dollar (less the applicable costs of production) to hoard yourself.

So what’s the solution?

Again, it would depend upon whom you ask. Most would agree, however, that if the general price level declines (ie, prices deflate) the economy would regain its vigor. Deflation has the effect of reducing the incentive to hoard cash – it’s possible I’ll resume my morning caffeine splurge if it’ll only cost me $0.50. What’s interesting is that the (non-nominal) economic reality pre- and post-price adjustment remains constant: I’m buying the same cup of coffee in both scenarios. Prices merely change to satisfy the whimsical want for cash. (Or do they? Menu costs and the “stickiness” of wages tend to create a price floor, but this concept is worthy of its own post.)

Though an avid coffee consumer, I find I’ve more in common with the coffee vendor than vendee in the above metaphor. A while back (before headlines of recession hit the wire) I decided to sell my car, which I purchased about 18 months ago to permit semi-monthly visits to Santa Rosa. Much to my parent’s chagrin, I’ve since slowed my rate of visitation (I’ve been home once so far in 2008) and I find it difficult to justify owning a car.

Alas, I’ve had no luck in finding a buyer (please email me if you’re interested in a FANTASTIC vehicle) and find myself in the downward spiral of price discovery. It’s a game of limbo and luckily I have a decent amount of financial flexibility. Still, I’d sure like to clear that bar soon.