Economic death spirals

An economic death spiral occurs when an innovation enters a market and incumbents raise rates in response which hastens adoption of that innovation. Some possible (plausible?) examples:

  • When early adopters install solar panels on their home, they begin consuming less electrical power from the utilities. But the utilities still have mostly the same costs, since they still need to supply that house when the sun isn’t shining. Therefore the utilities raise rates on everybody in order to offset the revenue loss, but now it’s more financially sensible for the next marginal customers to install solar panels. And so it goes.
  • On a recent episode of “Last Week Tonight with John Oliver”, in a segment on infrastructure, the issue of how politically untenable raising the gas tax is was addressed. However, the gas tax is used to provide revenue for the US Highway Trust Fund, so if the gas tax isn’t raised there will be less money (due to inflation as it’s a flat tax) for road maintenance. But say the gas tax was raised: now gas is dearer and so consumers will respond by buying more fuel efficient vehicles, driving less, taking public transportation, etc. So there will be less gasoline purchased and so less tax raised, necessitating a further increase in the gas tax (or, more sensibly, decoupling road maintenance from a flat tax). And so it goes.
  • New electronic payment systems like Apple Pay couple biometric verification to payments to reduce incidences of fraud. So fraudsters will shift focus more on the easier to spoof classical payment system, which will increase interest rates on non-electronic payments systems, which will push more people to use things like Apple Pay. And so it goes.
  • Car insurance is spread out over a large number of drivers, whereas accidents basically cost some absolute amount. As people switch to car-sharing services like Uber or the fabled age of autonomous cars comes to pass, there will be fewer people owning cars which will drive up interest rates for those who still own cars (though perhaps the number of accidents will decrease), which will push even more people to the newer services. And so it goes.

Watch out for possible economic death spirals, particularly in insurance or industries with large fixed investments.

Advertisements
This entry was posted in Economics. Bookmark the permalink.