Demand destruction anecdotes
Throughout the world we are seeing a wave of price inflation for goods and services. Given the huge amount of monetary creation that's been done for political reasons in the last 2 years this is not something that should come as a surprise to anyone who is economically literate. Many of the results of this runaway inflation are also somewhat predictable for those who have studied the history of these situations.
For the most part I think looking at hard data is the best way to understand the economy as anecdotes and narratives are at best unreliable and are at worst completely inaccurate.
But despite this you see examples of economic concepts in the strangest places sometimes. I first put pen to paper on a draft of this article back on 2021-09-21, I started to notice widespread behavioral differences emerging due to price increases sometimes around then. During this time I've seen such an amazing example of both the bullwhip effect and demand destruction. I anticipated this would happen but I needed some time to gather some examples if I wanted to write an article about it.
This time last year I started to mentally take notes of how much pizza was costing. On the one hand this wasn't the best metric since I've been eating more healthy for a while but on the other hand the lower frequency with which I was eating pizza meant that each time I got some I noticed the price increases far more easily. Much like other thing in the last year the changes are not just prices, behaviors and entire product lines have changed in this time. Along the way I noticed that the chips that the pizza store were using changed, I asked the staff there what had happened and they mentioned that their old supply chain wasn't able to supply those other chips at all and they had to switch to something else. At that point the prices had already been up considerably since the year before with an extra dollar being a minimum addition to the price of all items on the menu. For smaller menu items like the chips a dollar increase is a lot in percentage terms. Some time later I mentioned this inflation in pizza prices to a friend of mine who took an interest in the roman empire. After all in the panem et circenses type of world we live in we might as well pay some attention to the panem part of it for once since the circenses part seems to usually attract more of peoples attention. Some quick arithmetic could convert the current pizza price in troy oz of silver to how many days of work a Roman era soldier would have needed to work to buy one of these modern pizzas. If a soldier was being paid in Denarius coins, a popular silver coin at the time of the Roman Empire, wages would be something of the order of 100-300 of these per year in the year 200BCE. If we take the coin to have 3.9g of metal which is 95% silver that gives us $3.90.95 = 3.7 grams of silver per coin. Our pizza order weighed in at a bit over 1 troy oz per pizza or 31.1g per pizza. The Roman era soldier would be making the equivalent of 370-1110g of silver per year or approx 1-3g of silver per day. You see quickly that it would have cost between 10 and 30 days of work for that solider to earn enough silver for purchasing one of this pizzas if priced in silver, and this is assuming that 100% of their income went to pizza only. There's logistics companies that disguise themselves as pizza companies that could provide a pizza for cheaper but it certainly wouldn't have been as tasty1. Now I have to say this was a good pizza!
After talking about pizza in terms of wages he mentioned that the Roman empire also had its own currency debasement disaster and that this monetary misadventure was part what caused the eventual fall of the empire. The history of this is very relevant reading today as the process of currency debasement always has large economic and political implications. In some ways progress has changed so much since then, but in many other aspects things are still just the same.
Early on in the inflation spike we saw the prices of different items diverge significantly, history shows this sort of uneven impact of inflation is to be expected. Many items that couldn't be made overseas, like pizzas, inflated far faster than imported goods. Because goods can move across borders it's possible via this mechanism for price level inflation and deflation to be imported and exported.
In any case the extra price on fast food really helped me eat less junk food because by any metric price had completely blown up in real terms and pizza from my local place costs over 25% more now compared to a few years ago. On top of this my behavior has changed, so I just don't go there anymore. There's something about thinking about purchases in terms of real terms that deeply impacts on your choices. When you think in real terms you start to think about the long term and naturally this primes you to think about your long term wellbeing. And when you start thinking about long term financial wellbeing you are primed to start thinking about other longer term priorities like your health. Its not as though the pizza needs to get any more expensive for your mindset to change and when it does it becomes remarkably easier to start thinking along the lines of "I know this pizza would be enjoyable now, but having great health and being in amazing shape would be even more enjoyable longer term".
Ironically I just ate a pizza, but I don't have them every day, and well I don't think anyone is getting all their calories just from pizza. So what about staples? What about groceries that people actually get every week?
Unfortunately all those have gone up too, and generally have increased far higher than any reported CPI percentages. I can see the cynicism that the average people have towards these "ivory tower" metrics growing by the week as they get more and more fed up with the shameless stream of gaslighting being pushed their way by the financial media. Everyone knows that the prices of things have gone up a lot and that the economy is in terrible shape and people just don't appreciate being lied to about the "strength" of the economy. Even when prices are stable the sizes of products has been shrinking, a process called shrinkflation. I was at a store lately and it seemed people were buying less than they used to so not just one but two examples of shrinkflation could be found on the same shelf in that store at the same time. All 3 bars of chocolate in this photo cost the same amount:
Typically the turnover in stores is fast enough that even one generation of shrinkflation is hard to spot, but enough demand destruction has happened such that we saw not only one but two generations of this at the same time. I've heard the phrase C-P-lie muttered a few times lately. But what interests me more than changes in prices are changes in behaviors. What do people do when prices change?
Given that we are in this panem et circenses economy I started to take photos when I noticed the bread shelves at stores being bare. One thing about the modern world is that it's never been cheaper to take photos, we can at least take selfies while we starve, there's always that...
What do prices on shelves mean when the shelves are empty?
For a while now there's a store across town that sells a variety of goods, I noticed one day when I was there that the price of a particular type of soy milk had gone up. Boxes of soy milk are probably more popular now than during the time of the roman empire, but the fundamentals of the economics driving these things is probably a lot more the same than different. I hadn't paid much attention to this stuff but someone got my onto having a particular type of green tea which went well with soy earlier in the year 2.
I then saw the price for a box of 6, a "slab", went up two dollars from 20 to 22. The 20 per box price was stable for quite some time. A sign went up saying that they had supply chain issues and had to raise the prices. Then not that long later another dollar was added to the price, you could see the price change on the sign was made with a marker, they didn't reprint the sign. The discount on buying a box of 6 was removed.
Then a limit of 2 boxes per customer was imposed, with a sign stuck above the first sign.
For a few months this pricing was stable, however in recent times this store has been quiet. Items were starting to be thrown out because the "use by" dates expiring before people were purchasing the items. This was in stark contrast to a few years prior when this store was so busy at peak times that many people would purposely avoid going there to avoid the queues and items would sell out, now the store is much less busy than before.
And now in the most recent disturbing twist in recent times since the reserve bank of Australia hiked interest rates you can tell that people have a whole lot less free cash. In the store the inventory has started piling up on some products. I'll write more about how Australians being highly leveraged with real estate impacts the economy in a future article. For a while there was excess boxes starting to pile up in the isle, despite this the limit of two per customer remained:
You could see that the inventory was starting to pile up in the store, with other boxes ironically getting closer and closer to obscuring the view of the maximum 2 box limit on another product. Most recently the sign saying they have had to raise prices has been removed, probably because they couldn't just update it with a marker like they did before, with the price now sitting at 23.99 for a box. The price of an individual box went up even more in percentage terms, as buying a box of 6 is now cheaper than buying six individual boxes for the first time in a while. If you look at this over the span of a year this comes out to being a 20 percent inflation for this product at this point in time. Price inflation is running hot and this is why I think it is so important to keep track of prices and to trust your own eyes since many false inflation narratives can only believed if you do not do so.
I think this is just such a good example of the bullwhip effect on inventory levels. This pile up of inventory in the isles is a direct consequence of a combination of the lack of warehousing space in many modern stores combined with Just In Time inventory approaches being popular. Just In Time logistics creates all sorts of various risks when things go wrong but I have to thank it for making this inventory issue very visible as without this I wouldn't have been able to make this blog post explaining an economic concept with representative photos. I might add that what I'm seeing here is not an isolated incident, we have seen this exact same sort of inventory pile up issue in many other places that are sensitive to retail demand.
The reappearance of bulk discounts has brought us almost full circle now, almost. However there's still one crucial difference from three years before, we are now at a higher price level and even if inflation dropped to 0% immediately these prices would stay unaffordable without wages and incomes going up to match. Anyone who was saving has lost a lot of their purchasing power over the last three years if that cash was just sitting idle. Even if the prices of items stops going up wages have to go up for them to become as affordable as they were before.
Today I went by a cafe I used to go to weekly when the economy was in better shape. For a while they had a sign up saying that they were looking for more staff and that "experience is essential". They had a hard time hiring, I don't know what wages they were offering. After a while they reduced their their opening hours, I asked why and they said it was getting hard to find enough staff and the shifts would have been too long to maintain their old hours given their available staff. Then over the last few months I noticed that the store was less busy than before despite going there less often myself. They happened to make these great pies and rolls, at the start of a day they'd make some and keep them in a warmer which was very convenient if you wanted to get something quick for lunch. If I had a busy work day I could go there in between calls and get something to eat. A few weeks ago they changed this up, those were not warm and if you went there they had to spend 15 minutes to heat them up. After this I started going there even less since the convenience of getting something that was both tasty and fast was gone.
Given that the weather today has been very hot and humid I felt like getting a cold drink while out and about. When I got in the store I struck up some conversation with a staff member:
"Just to let you know we will be closed on Sunday"
"Oh so you aren't open on the weekends anymore?"
"No, this store is going to be closed entirely on Sunday, we are just going to be open at the other store now"
What do prices at the stores mean when the stores close their doors?
This was one of the first cases in this cycle I have seen in my day to day life of the economic problems causing a retail business to permanently close, one that seemed to be doing a very solid trade just this time last year. Demand destruction is starting to pressure the supply side now, I'd like to keep going there as a consumer but I don't have the choice anymore since the store has become unprofitable and has had to close.
Overall I think we are going to start to see demand destruction in retail start to ramp up even more if interest rates keep rising. Due to the insane amounts of leverage that people in Australia have on real estate combined with the fact that a large percentage of loans here are variable rate loans any rate rises will start to rapidly remove currency from circulation in the real economy. Less available cash combined with a softening of the real estate market will start to remove the wealth effect and this is something that I think will change people's spending habits rather significantly. I'm starting to see people running into severe cashflow and liquidity issues in a way that I haven't before, sure they have these "paper" assets that are supposedly worth a lot of money3 but people have very little spare cash. Sure in the mid 1990s there was a recession, but the amounts of leverage were a lot lower back then, while there's things that are the same as then I feel the situation now is different in many important regards. I would not be surprised at all to see people start changing their behaviors and spending less on discretionary items as a result of all this. Ultimately I think it will be layoffs that finally cause things to really tank and those are only just starting now, but the psychology can shift fairly fast when it finally shifts because like many things these changes take a while to happen then a while longer to become obvious to everyone then a bit longer to become undeniable.
Poor quality pizza was a mainstay of catering at meetup events for a number of years, sure it is cheaper relative to other options but its often crap food. ↩
In an experiment to see if my health improved I was trying to quit coffee, another commodity that's got a lot more expensive lately, I failed. I did an experiment where I was substituting green tea to get some caffeine without having coffee, it was OK but overall I just enjoy coffee more. The next experiment was to reduce coffee intake and that's been good, I never have more than 2 coffees in a regular day now and my health is better as a result. But I'm not sure if overall my writing output suffered from this, the lack of posts here lately show I've been writing less but there's confounding factors like being busy with other commitments as well. ↩
Its hard to know how much value will be lost if a large number of people are forced to liquidate all at once. The marginal price of some of these items like real estate could shift rapidly if forced liquidations were to become common. ↩
This post is part 16 of the "MonetaryPolicy" series:
- Finally getting around to publishing some monetary policy articles
- Fast things happen slowly then quickly
- Politics of unproductive debt
- Futures markets lower prices, both in good and bad ways
- Why do stable coins matter
- Why is so much financial advice bullshit
- Bank bail ins
- Where is money created
- Bastiat on legal systems and morality
- Transitory inflation means permanent purchasing power reduction
- Problems with Celsius
- Crypto's Lehman moment
- Crypto crash update May 2022
- The myth of the unbalanced government budget
- The 2006 debasement of NZ coinage
- Demand destruction anecdotes *
- Central bank interventions and price discovery
- Luna a modern case of hyperinflation
- Collateral crisis psychology
- The death of full employment