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What We Learn From a Play-Money Auction

Mises Daily: Monday, October 13, 2008 by

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Play Money Auction
At this party auction, play cash was king.

If you want to get an idea of how this bailout bill is going to affect your family in the months and years to come, all you have to know is what took place at my nephew's party. My sister-in-law thought it would be fun to give away party prizes by having an auction with play money. I got to run the show. I had attended auctioneer school recently and needed the practice.

A quick aside: The beauty of an auction is that it's a very clear and simple example of what goes on every day in a free market β€” buyers and sellers meeting to negotiate a price. When the sale starts, the price is usually fairly low in order to get as many bidders interested in the purchase as possible. As the bidding proceeds, buyers drop out of the bidding, one by one, as the price exceeds the value those buyers place on the item. Eventually, a point is reached where all the buyers have dropped out of the process except two. Now, with each call the auctioneer tries to get just a little bit more money from the "out" bidder, the one who has not placed the highest bid. Back and forth between the two bidders the auctioneer calls. There comes a point when the asking price reaches an amount that one of the bidders is no longer willing to pay. This bidder becomes "the one excluded … by a slight rise in price" β€” Rothbard's marginal buyer.

Now, back to the party auction. Items for sale included various candy bars, treats and toys, with a couple of gift cards to ice cream shops and booksstores to make it interesting. Everyone who took part started out with the same amount of play money. There was no more to be had; it was a limited supply. Since the supply was limited, all the participants had to look ahead and plan their purchases and bidding accordingly. There was no ability to pull out a credit card and charge more for an item than they actually had on hand. Play cash was king.

As always, at any auction, the bidding was lively and competitive, even with play money. Cousins were battling for the same candy bar or box of sparklers. In-laws were bidding against each other for gift cards and treats. Everyone was having a good time.

Once people started winning some of their bids though, there was a change. Invariably, someone would win an item or two and then have only a few play dollars left. So few, that the amount they had left was now worthless for any further use in the auction. Once this point was reached the person would decide they had better things to do. Before leaving however, they would offer their small amount of leftover money to someone else. This started a secondary auction β€” the new auction being one in which the remaining active bidders vied for the unwanted play money of the people leaving.

Engagement in this second auction occurred each time someone left the primary auction with the departing player giving the money to whomever they liked. The winners of this new money suddenly had more purchasing power than those who were not as fortunate, leaving the less fortunate in the lurch as they were consistently outbid for the remaining items by the new-money bidders. For the sake of argument, let's say these winners received a "liquidity infusion."

As time went on, this process only got worse. There was a greater and greater disparity between those who had money and those who did not. In fact, it was possible for those who had all of their original money and had been saving it for a certain item, to lose their bid to someone else who had spent the original money, but also received a "liquidity infusion." Those with new money were able to bid up the prices of the remaining items and crowd out the people who had not received a new liquidity infusion.

My nephew's auction serves as a good example of what we now face. This same liquidity-infusion process has been going on for decades in our economy with the Federal Reserve providing new money to the banking and financial industries. With the passage of the Emergency Economic Stabilization Act of 2008, however, the Fed is poised to accelerate this process at a rate not seen in our lifetime. Those who will be hurt the most, of course, will be those who do not receive the new money.

For, just as in my nephew's auction, the banks and firms that receive the new money first will be flush and able to finance their projects before the market exhibits the resulting rise in prices. Those of us not receiving the new money will be crowded out of the market only to see the prices of our purchases rise and our planning and value of our savings dissipate as it takes more and more money to do in the future what we could today have done for less.