This is the post I have been planning since the first on economics in the beginning of May. I will start by repeating that I am not an economist and that I do not claim credit for “discovering” the principle I am asserting.((Not being an economist, I also do not feel obligated to do research to trace the history of this idea.))
One of the basic building blocks of economics is the “law” of supply and demand that I wrote about some months ago as one of the basic premises for my ideas. My last two posts((Economics 201: Artificial Limits on Supply and Economics 202: Artificial Limits on Supply – Housing)) considered this from the supply side, particularly the effect of artificial supply limits (government regulations) on prices.
Now I am looking at it from the demand side. In my supply and demand post I asserted that “demand” includes, but means more than, mere “want” or “desire” for an item. The consumer must be able to pay for the item, an ability I called “wherewithal.”
Where a particular economic commodity is important, but unattainable for many due to price, it is common for politicians to propose to subsidize its purchase by those who cannot afford it. A couple of examples will suffice: college education and housing.
If you have been paying attention (and accept my thesis about desire and wherewithal constituting “demand”), you see where this is leading: broad-based demand-side subsidies tend to cause the price of the subsidized commodity to increase. Further support for this proposition comes from what I described as the SEP Problem: the fact that “someone” else is paying for something can have the effect of increasing the cost that thing, especially where “someone” is someone of whom the consumer is willing to take advantage (the government or insurance companies, for example).
This principle does not necessarily mean that broad-based demand-side subsidies are inherently wrong, just that they are inefficient. The price for the good is a moving target, just as the “observer effect” in physics posits that the act of measuring can change the state of the thing measured. A government program that seeks to make automobiles more affordable may decide that giving potential buyers $400 to use to purchase a new (or newer) car, say in exchange for a “clunker” of no real value, will allow a reasonable number of households to acquire safe, fuel-efficient and ecological appropriate automobiles (or at least better than the clunkers traded in). However, automobile prices are nothing if not elastic, and there is no guarantee that the “base price” of the car that the consumer is seeking to purchase was not recently raised to absorb the benefit of all or most of the $400 subsidy.
Eligibility for the subsidy may be means-tested to assure that those who can afford the item are not subsidized, but just as it will reduce the government’s cost for providing the subsidy, it will also result in actual higher prices for those whose purchase of the commodity is not subsidized.
My next several posts will provide examples of this principle at work, in healthcare, higher education and housing.
Jay Bohn
August 19, 2021