The Mystery of Banking

26
The Mystery of Banking
F
IGURE
2.10 — T
HE
P
ORK
M
ARKET
: D
ECLINE IN
D
EMAND
Here, the fall in demand from D to D
′
means that at the old
equilibrium price for pork, 0X, there is now an unsold surplus
because of the decline in demand. In order to sell the surplus,
therefore, producers must cut the price until the surplus disap-
pears and the market is cleared again, at the new equilibrium
price 0Y. 
In sum, price responds directly to changes in demand. If
demand increases, price rises; if demand falls, the price drops. 
We have been treating supply throughout as a given, which it
always is at any one time. If, however, demand for a product
increases, 
and
that increase is perceived by the producers as last-
ing for a long period of time, future supply will increase. More
beef, for example, will be grown in response to the greater
demand and the higher price and profits. Similarly, producers will
cut future supply if a fall in prices is thought to be permanent.
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Supply, therefore, will respond over time to future demand as
anticipated by producers. It is this response by supply to changes
in expected future demand that gives us the familiar forward-
sloping, or rising supply curves of the economics textbooks.
What Determines Prices: Supply and Demand
27
F
IGURE
2.11 — T
HE
B
EEF
M
ARKET
: R
ESPONSE OF
S
UPPLY
As shown in Figure 2.9, demand increases from D to D
′
. This
raises the equilibrium price of beef from 0X to 0Y, given the ini-
tial S curve, the initial supply of beef. But if this new higher price
0Y is considered permanent by the beef producers, supply will
increase over time, until it reaches the new higher supply S
′′
.
Price will be driven back down by the increased supply to 0Z. In
this way, higher demand pulls out more supply over time, which
will lower the price. 
To return to the original change in demand, on the free mar-
ket a rise in the demand for and price of one product will neces-
sarily be counterbalanced by a fall in the demand for another.
The only way in which consumers, especially over a sustained
period of time, can increase their demand for 
all
products is if
consumer incomes are increasing overall, that is, if consumers
have more money in their pockets to spend on all products. But
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this can happen only if the stock or supply of money available
increases; only in that case, with more money in consumer hands,
can most or all demand curves rise, can shift upward and to the
right, and prices can rise overall. 
To put it another way: a continuing, sustained 
inflation
—that
is, a persistent rise in overall prices—can either be the result of a
persistent, continuing fall in the supply of most or all goods and
services, 
or
of a continuing rise in the supply of money. Since we
know
that in today’s world the supply of most goods and services
rises rather than falls each year, and since we know, also, that the
money supply keeps rising substantially every year, then it should
be crystal clear that increases in the supply of money, 
not
any sort
of problems from the supply side, are the fundamental cause of
our chronic and accelerating problem of inflation. Despite the
currently fashionable supply-side economists, inflation is a
demand-side (more specifically monetary or money supply)
rather than a supply-side problem. Prices are continually being
pulled up by increases in the quantity of money and hence of the
monetary demand for products.