I am not an economist and I do not play one on TV. I do, however, have some economic hypotheses that I apply when thinking about certain government policies. Before we can get to that I need to lay out some basic premises for my ideas.
At the beginning of this month I posted a short piece Economics 101: What’s in it for Number One? in which I posited that as a general rule people will tend to act in what they perceive to be their (economic, political, social) best interest.
The second building block for the discussion that will come later is the well-known “law of supply and demand”: all other things being equal, as supply of an economic good increases, its price will decrease and vice versa. It also works from the other side, as the demand a good increases, its price will increase.
Often supply limits will be imposed to keep prices higher than they would otherwise be. There might be limits on the quantity of goods allowed to be produced (for example, the tobacco quota in effect through 2004) or limits in the number of persons licensed to provide the good or service (liquor licenses and taxicab medallions).((Other licensing programs, although not formally designed to limit competition, and thus increase prices, may also have that effect. Where a professional license requires the applicant to pass an examination, the exam itself can be designed (or the passing score determined) in such a way to control the number of persons who successfully complete the exam each time it is administered and thus limit the number of new licensees.)) Patents have this effect as the inventor is granted a time-period during which competitors cannot make use of the patented technology. Once the patent expires, generic goods can enter the market; this increase in supply should result in a lower price.
Much of the action I plan to discuss later happens on the demand side. The effect of demand on a market is similar to auction. Where there is one of a particular commodity, the bidder who is willing to pay the most for it “wins.” In the economic marketplace there are usually more than one of a particular good and the bidding process is not formalized, but it is to be expected that sellers will try to get the highest price they can (because they perceive it to be in their best interest to do so). If the initial seller prices the good too low, a secondary market may spring up in which the initial buyers re-sell rather than consume the good (think concert tickets). Where demand is low, the good will be deeply discounted (here think clearance sales).
One important point that I do not often see in discussions of supply and demand is that “demand” includes, but means more than, mere “want” or “desire” for an item. The potential consumer must be able to pay for the item. No matter how much I may want an Italian villa,((This is merely an example, I do not really have any great, or even middling, desire to own an Italian villa.)) I cannot afford it, so any theoretical desire will have no impact on that market. My “demand” is ineffective.
You might respond that if I really, really wanted that villa, I would find a way to pay for it, and there is some truth in that sentiment. Demand is not simply a combination of desire and wherewithal, but involves the consumer’s choosing where to allocate resources or increase them. I may be able to “afford” something if I value it more than something else I might spend money on — the pearl of great price for which the desirer sells everything he has to purchase. Or, if I want something very much I may seek a better or second job or other means to increase those resources (wherewithal) to convert my desire into “effective” demand. Hold these thoughts for later posts.
Jay Bohn
May 31, 2021