A deflationary economy with a price floor

I find game economies interesting because they can be little experiments.  Imperfect experiments, but experiments nonetheless.  In the case of Guild Wars 2, we can look at how people act in an economy experiencing deflation, but with a price floor.

To start off, I tend to use deflation in the sense of price deflation, which is not necessarily linked to the money supply.  We can see this in the current economy where the money supply has grown more quickly than prices.  In the long term the two will tend to match up, but we tend to die and stop caring over the long term.  However in this post I am going to use deflation to describe both the money supply and the price level, as the two are more easily linked in a game.  Why is that?  Because in a game there are not contracts, so prices can vary much more readily with the money supply.

Rather than calling it a deflating economy, you might try to call it a heavily-taxed economy.  This seems logical: any trading post activity results in me the seller getting 15% less than what the buyer paid, much like taxes.  However taxes actually go somewhere, to someone, rather than vanishing into thin air.  This isn't to suggest that taxes do not change the economy, but merely to show that taxes are not the same as burning a pile of currency.  We could still look at how the taxes change behavior, possibly reducing activity or fueling a 'black market' of avoiding taxes by using chat and mail.

The reason I call it deflationary is that the money supply is being reduced, as well as the price level.  Normally in times of deflation we expect to see a recession.  Consumers, anticipating lower prices, will hold off on spending and instead save.  That savings can become investment and loans, and loans become very desirable since deflation essentially causes the currency to have a built-in interest rate on top of the nominal interest rate.  If I give you $10 today and you give me $10 tomorrow, even if you paid no interest, for me the $10 is worth more and if you had to work to get the $10 to repay me, you had to work more to get it.  In that way, deflation discourages borrowing even as it encourages lending.

Prices cannot drop forever because there is a price floor.  In real life we'd see this in the form of government subsidies.  For example, in the US there are price guarantees on farm products such as milk.  If market prices fall below the guarantee, then the government will refund the difference.  The reasons for this are varied, but in part it can act as an insurance policy, ensuring that farmers do not react to price drops by excessively reducing production, triggering a price spike, and so on.  It soothes the markets, though at the cost of overproduction at times and the subsidy cost.

The price floor in GW2 takes the form of vendors who will always buy items.  This means that copper ore is never worth less than 3c.  Nothing can ever become completely worthless.  Obviously if the market price is higher then the items will go there rather than to vendors.

This creates a ping-pong effect.  Market activity destroys a large amount of currency, driving down prices.  But if prices get too low, vendors will stop the decline.  For a while we will see items being vendored until the money supply is large enough to drive up prices.  And then gold is destroyed until vendors become a factor again.  Note that personal activity will deviate from the overall market, so I'm not suggesting that the market overall is going to go into constant, repeated recessions (at least not for this reason; I'm not ruling them out), but rather that individuals will tend to go through cycles.

I expect that this pong-pong will stabilize as the markets mature, and importantly, as the rush to level crafting wears off.  Eventually some items will be obvious vendor trash and others will go to the market.  Though even this will not be perfectly stable.  Imagine a simple world in which the only drops are Chest of the Trash and Copper Ore.  The chest is useless and does not salvage into anything useful, so it is permanently vendor trash. Copper ore is valuable and will go to the market.  Stable prices require a particular ratio of dropping between the chest and the ore.  If too few chests drop, then the ore trading will destroy too much gold, driving down the price, until eventually copper is vendored, until the currency is restored and prices can rise again.  Note that copper is a stand-in for a variety of trade goods and the chests cover not just vendor trash but also events and quests, since those generate gold and do so at a particular average rate relative to resource gathering.  Of course activity can change to alter these effective drop ratios, such as spending more time at events that give gold and less time farming materials.

One reason for the deflation is obvious: having little spare gold encourages gem-buying which means profits from the gem shop.  This would encourage not just heavy gold sinks, but few gold sources as well.  But not everyone would buy gems and having too little gold would ruin the economy (this is why a real-life gold standard is exceptionally stupid).  To compensate, there are gold sources beside the gem-buying.  Together, these create a deflationary economy with a price floor.  It won't be stable and it certainly won't be the most efficient set of regulations, but it sure is interesting to watch.