Supply, Demand And Friction

<chirp, chirp> “Moire here. Open for business on a reduced schedule.”

“Hiya, Sy. It’s Eddie, taking orders for tonight’s pizza deliveries. My 6:15 wave is full-up, can I schedule you for 6:45? Whaddaya like tonight?”

“Yeah, a little later’s OK, Eddie. Mmmm, I think a stromboli this time. Rolled up like that, it ought to stay hot longer.”

“Good idea. Hey, I been thinking about that ‘velocity of money‘ thing and the forces that change where it goes. Isn’t that just another name for ‘supply and demand’? Bad weather messes up the wheat crop, I gotta pay more for pizza flour, that kinda thing.”

“That’s one of the oldest theories in economics, the idea that low supply increases prices and conversely. Economists often use two hyperbolas to describe the trade-off. Unfortunately, the idea’s only sorta true and only for certain markets. Oh, and it’s only sorta related to how fast money flows through the economy.”

“C’mon, Sy, you’re talking to a professional here. I watch my costs pretty close. Supply-demand tells my story — a bad tomato harvest drives my red sauce price through the roof.”

“No question it works for some products where there’s many independent buyers, many independent sellers, everyone has the same information, and a few other technical only-ifs. It’s what they call a perfect market. How many different companies do you buy flour from?”

“Three or four in town here. I switch around. Keeps ’em on their toes and holds their price down.”

“Competition’s a good thing, right? No buyer pays more than they absolutely must and no seller takes less than their competition does. Negative feedback all over the place. If one vendor figures out an advantage and can make money selling the same stuff for a lower price, everyone else copies them and the market price settles into a new lower equilibrium and there’s no advantage any more.”

“Yeah, that’s the way it works for flour.”

“And a few other commodities like grains and metals and West Texas crude. Economic theorists love the perfect-market model because it sets prices so nicely. Physicists love ideal cases, too — frictionless pulleys on infinitely sharp pivots, that kind of thing, where you can ignore the practical details. Most markets have lots of practical considerations that gum up the works.”

“Devil’s in the details, huh?”

“Sure. I seem to recall you’ve got a favorite sausage supplier.”

“Yeah, my brother-in-law Joey. OK, he’s family, but he does good work — fresh meat ground exactly the way I want it, got a good nose for spices, dependable delivery, what’s not to like?”

“Is he more expensive?””

“A little, a little, but it’s worth it.”

“So hereabouts there’s an imperfect market for sausage. The economists might tally Joey’s extra profit from that premium price to an accounting column labeled ‘Goodwill.’ A physicist would have another name for it.”

“Goodwill. Joey’d like that. So what would the physicist call it?”

“Real mechanical systems are never perfectly energy‑efficient. Energy is always lost to friction. In my money‑physics framework money’s lost to friction. It’s the reason you pay a premium above what would be perfect‑market price for sausage. Nothing wrong with that so long as you know you’re doing it and why. Most real markets are loaded with friction of various sorts. Think of market regulators as mechanics, running around with oil cans as they reduce inefficiency and friction.”

“What other frictions … lemme think. Monopoly, for sure — some big chain takes over my market, drives me the rest of the way out of business and then they can charge whatever they want. Umm … collusion, either direction. Advertising, maybe, but that’s mostly legal.”

“You got the idea. So, how is business?”

“Are you kidding? Way off. I had to lay off people, now it’s just me baking and delivering.”

“Would you buy flour these days at the usual price?”

“Nah. At the rate things are going what I got will last me for a l‑o‑o‑n‑g time. I got no place to put any more.”

“Your customers aren’t buying, you’re not buying, money’s not changing hands. The velocity of money’s so low that supply-demand isn’t capable of setting price. That’s deflation, not market friction.”

“Either way, it hurts.”

~~ Rich Olcott