Las Vegas As a Lesson In Basic Economics
Though Las Vegas is perhaps best known as a tacky City of Sin where what happens within its limits stays there, its fortunes and misfortunes provide us with broad lessons about how economies work. Indeed, if one set out to understand the true workings of supply and demand, employment, inflation and Schumpeterian creative destruction, a tour of Las Vegas would provide living anecdotes that confirm and at times explode many widely held economic viewpoints.
The city's origins. Wikipedia describes Las Vegas as a former stopover town for pioneers on their westward migrations in the late 19th century. As a city, it was not incorporated until 1911. Government spending gave it the still much venerated Hoover Dam in 1935, but the proliferation of railroads by the 20th century had reduced its importance as a place for resting Americans on their way west. No amount of 1930s stimulus or government spending could have created what Las Vegas was set to become.
State law made gambling legal in Las Vegas in 1931, but contrary to widely held views about what drives production, there was no discernable "demand" for casinos. Reputed mobster "Bugsy" Siegel opened the Flamingo Hotel in 1946, long after gambling was legalized. Supplying something that no one up to that point had demanded, Siegel happened upon a concept that made Las Vegas the fastest growing American city in the 20th century.
Say's Law says that demand cannot exist without supply. It was intrepid entrepreneurs who supplied the casinos. The greater point here, however, is that while Nevada lawmakers made gambling in Las Vegas possible, none possessed a vision about what the city would become. Though we are told that government spending drives economic growth it wasn't until a visionary like Siegel built the Flamingo that the future prosperity of Las Vegas took shape.
Without capital there are no businesses or wages, and it is when entrepreneurs supplied with capital disrupt the conventional wisdom, as Siegel did, that true economic growth occurs. Of the many negatives that result from government spending, the greatest has to do with the fact that money is being spent mostly on what's worked in the past.
But just as most of us never demanded computers or Internet access until they were supplied to us, the concept that remains Las Vegas was similarly something to which most Americans never gave a second thought until the Flamingo was built. So while there are differing views as to Las Vegas's merits and demerits, it should at the very least be said that it is something no committee of bureaucrats could ever have envisioned. In that sense, the lesson of Las Vegas is that governments should tax and borrow less so that more capital is available in the private sector for innovators.
Employment. Writing about the health of the U.S. economy in July of 2005, then Council of Economic Advisers chairman Ben Bernanke observed that, "As the economy approaches full employment, we can expect job creation rates to decline slowly toward the lower, sustainable level determined by labor-force growth, causing overall economic growth to slow as well." Bernanke's view about limits to employment growth is the conventional one among establishment economists, but it's happily a concept that never had any relevance when it came to the rise of Las Vegas. Indeed, from a 1900 population of 25, by 2007 Las Vegas could claim nearly 559,000 residents. Bernanke and others see employment and economic growth through a static prism, but Las Vegas reveals the truly dynamic nature of employment and population.
To economists wedded to the Phillips Curve model whereby rising job creation leads to labor shortages, they sponsor an impoverishing myth that Las Vegas explodes. Thanks to a city that has continuously attracted businessmen eager to supply gaming and entertainment, the continual increase in the number of casino/hotels has meant that those seeking warmer climes and/or better pay have found them in Las Vegas. Sin City's stupendous population growth proves that where opportunities are created, workers will follow.
And just as economic growth in one region causes sidelined or underemployed workers to migrate their labor to where jobs are being created, the reverse occurs too. Economists such as Bernanke cite the amount of "slack" in national economies, implying at times an oversupply of labor. Las Vegas again disproves what passes as settled logic.
For evidence we merely need to address the moderation in home prices and housing markets over the past few years. Las Vegas was and remains a hotbed when it comes to housing growth, but when the latter stagnated, its homebuilding industry began to shed workers.
Rather than plant themselves where the jobs aren't, many immigrant Las Vegas construction workers simply moved on. One 2008 account suggested that as many as 80,000 Mexican immigrants had left Nevada altogether.
It's too often the case that macroeconomic thinkers look at country economies as though the number and location of workers within is a stable target. But as the rise and near-term decline of Las Vegas housing shows, labor is highly mobile when it comes to job opportunities, and it will migrate from lesser to greater opportunities wherever they exist.
Inflation. In his 2007 autobiography, The Age of Turbulence, former Federal Reserve chairman Alan Greenspan recounted the thinking back in 1987 that drove him to increase the interest rate target set by the Fed. As he put it, "To subdue inflationary pressures, we were trying to slow the economy by making money more expensive to borrow." As Greenspan felt then, and as the Bernanke Fed sees it now, economic growth causes demand to outstrip supply, with higher prices (inflation) the result.
The problem with Greenspan's reasoning is that in a normally functioning market economy, there are always periods when producers create too much or too little of a certain item. But rather than serving as examples of inflationary or deflationary pressures, problems of supply are regularly corrected by the marketplace. Happily once again, the visionaries behind Las Vegas never let those somewhat esoteric concepts trouble them as they realized their dreams.
In the case of Las Vegas, rising demand for hotel rooms over the past fifteen years led to the latest building boom there. From the Mandalay Bay to the Venetian to casino mogul Steve Wynn's latest project, the eponymous Wynn Hotel, casino resorts offering previously unseen amenities came online. And despite a massive increase in the number of luxury hotel rooms, as recently as 2007 visitors to any of the three were met with nosebleed nightly rates more often experienced in resorts that don't offer gambling.
Rising market prices told Wynn and others that they had underestimated room demand. And sensing an opportunity, Wynn and the Venetian's Sheldon Adelson essentially doubled down: Wynn building the Encore as a compliment to the Wynn, while Adelson connected the Palazzo to the Venetian. Sadly for both, the credit crisis hit in 2008, and while each used to sell rooms for $400+ per night, a weakened economy has them offering rooms in all four properties for as low as $100/night.
Many macroeconomists would have interpreted the nosebleed rates of 2007 as inflation, but since inflation is always monetary in nature, the true story there is that the short-term spike in room rates was corrected by new supply. At least for now, it seems that Wynn and others simply overbuilt.
Conversely, the economic downdraft has caused more than a few economic commentators to suggest that we're in the midst of a deflationary era; this, despite the fact that the dollar is near all-time lows against the most objective of benchmarks: gold. What the deflationists miss is the tendency for markets to reflect oversupply, as they already have in Las Vegas, by driving room rates down.
Indeed, the 3,800 room Fontainebleau Las Vegas has ceased construction, and the parent firm behind it has filed for bankruptcy. While it's entirely possible that a future bidder will take on the nearly finished project, price signals from the marketplace are now telling existing and prospective casino operators that Las Vegas doesn't need new hotel rooms.
The broader lesson here is that markets always adjust to mismatches of supply and demand that have nothing to do with inflation or deflation. And with rooms in Las Vegas presently cheap, it's fair to assume that casino building will slow as the economy and prices gradually adjust to the supply of rooms. Look for future room rates to rise as this adjustment takes place.
Creative destruction. In his classic Capitalism, Socialism and Democracy, Austrian economist Joseph Schumpeter wrote of the "economic structure from within, incessantly destroying the old one, incessantly creating a new one. This process of Creative Destruction is the essential fact about capitalism." The continuous reinvention of the concept that is Las Vegas arguably embodies Schumpeterian logic more than any other.
That's the case because unlike cities and regions that cling to once great companies, there are no Sacred Cows in Las Vegas. Instead, the commercial outlook there constantly changes as dated casino properties are leveled so that new and better ones can be built. There are very few historical landmarks in Las Vegas; rather formerly glamorous properties such as the Sands and Sahara regularly make way for new ideas that trump the old.
The City of Detroit and the state of Michigan have embraced the Big Three automakers and the memory of the jobs they created all the way to nationalization and the nation's highest rate of unemployment. Conversely, the citizens of Las Vegas have accepted the job loss that comes with the decline of casinos, knowing full well that replacement will bring better, and higher paying jobs in time. The rate of unemployment in Las Vegas is traditionally low not despite but because of this constant churn. It is yet another economic lesson for a political elite that attempts to revive ailing companies with taxpayer dollars. The stupendous success of Las Vegas tells us something quite different.
In truth, the best way to restore a vibrant employment market in Las Vegas is to let the casinos that are failing their customers die so that fresh capital and ideas can replace those that went stale. That cranes regularly punctuate the Las Vegas skyline is testament to the positive economic reality that stagnation and failure create opportunity for the intrepid among us. There's no statistic to support this, but it's not unrealistic to assume that a substantial number of American migrants to Las Vegas came from parts of the U.S. where individuals are unwilling to let go of what worked in the past, but no longer does.
Conclusion. Too many economists today assert that government spending can stimulate economies where private money cannot. They presume that the size of the labor pool is static, that inflation results from too much economic growth, and that in times of distress, failing companies must be saved on the backs of taxpayers in order to preserve jobs. The story of Las Vegas reveals the weaknesses within each argument. Its libertine facade all too frequently causes it to be dismissed as another example of extreme American decadence. But Las Vegas is an economic model that Washington ignores to our broader economic detriment.