WEBVTT NOTE Exchange and Demand 1 00:00:00.000 --> 00:00:09.000 Okay, welcome to the second in the series of lectures on Fundamentals of Economic Analysis, a Causal Realist approach. 2 00:00:09.000 --> 00:00:13.000 This is on exchange money and demand. 3 00:00:13.000 --> 00:00:23.000 And in fact, even with the Roberts and Crusoe scenario or model, we can see that all action is really exchanged. 4 00:00:23.000 --> 00:00:35.000 What Robinson Crusoe is doing in, let's say, catching fish, is exchanging one set of circumstances, which he prefers less, for a set of circumstances that he prefers more. 5 00:00:35.000 --> 00:00:41.000 And that set of circumstances that he prefers more is the fact that he can satisfy his hunger with the fish. 6 00:00:41.000 --> 00:00:47.000 And in doing so, he gives up leisure, which he values lower. 7 00:00:47.000 --> 00:00:59.340 Now that's true not just of Robinson Crusoe, but all of us in our daily lives, so if you're at home and you combine the ingredients to make a submarine sandwich, then you're doing so as an exchange. 8 00:00:59.340 --> 00:01:09.540 You're exchanging, possibly sitting in front of the television, continuing to watch a program for something you prefer, and that is consuming the sub-sandwich. 9 00:01:09.540 --> 00:01:18.040 We call this in economics autistic exchange, exchange with oneself, and we all engage in it. 10 00:01:18.040 --> 00:01:31.840 But we're interested more generally in interpersonal exchange in economics because that's how prices are formed through interpersonal exchange. 11 00:01:31.840 --> 00:01:37.740 And if I could get a water up here, someone can bring me water, a bottle of water, thank you. 12 00:01:37.740 --> 00:01:43.340 Now, there's what we call a typology of interpersonal exchange, okay? 13 00:01:43.340 --> 00:01:51.340 The basic two categories is that of voluntary exchange, or aggressive, or sometimes it's called invasive action. 14 00:01:51.340 --> 00:01:57.640 Okay, or voluntary action and aggressive action, so there's two types of interpersonal action. 15 00:01:57.640 --> 00:02:04.340 Under voluntary action, there's subcategories, one of which is voluntary exchange, 16 00:02:04.340 --> 00:02:17.740 where you do something in return for a quid pro quo, where you spend money in order to get a Wall Street Journal, for example, or you spend money in order to get, let's say, an automobile. 17 00:02:17.740 --> 00:02:27.180 Gift giving is another form of voluntary exchange, and both the recipient of the gift and the donor benefit, otherwise that wouldn't take place. 18 00:02:27.180 --> 00:02:41.420 That is, the recipient prefers the situation where the donor, let's say, receives the $100 and uses it, to one in which he could use the $100 on any other purpose that he considers desirable. 19 00:02:41.420 --> 00:02:45.420 Thank you, Peter. 20 00:02:45.420 --> 00:02:51.180 And the recipient, on his or her part, could refuse the gift if it made them worse off. 21 00:02:51.180 --> 00:03:01.580 If they accept the gift, if the gift-giving is consummated, then in fact both parties are better off than they were before. 22 00:03:01.580 --> 00:03:05.680 Now let's get to the second category, and that is aggressive action. 23 00:03:05.680 --> 00:03:20.180 Obviously murder, robbery, and so on are examples of aggressive action, where one person is a victim and is rendered worse off than he would have been without the act of the invader, 24 00:03:20.180 --> 00:03:50.180 Now, in a very narrow sense, and a sense that isn't really one that is common, you can say that, well, the victim has a choice in some sense, that is, your money or your life, in the case of a robbery, so he gives up his money in order to prevent something happening to him that he considers of lower value that is losing his life, but that's really not the point, the point is that he's worse off than he would have been as a result of that intervention. 25 00:03:50.180 --> 00:04:05.180 and it's coercive in the sense that the various alternatives open to him in disposing of those resources, let's say that were robbed, are closed off by coercion. 26 00:04:05.180 --> 00:04:13.180 Now, there's another category of aggressive action and that is coerced exchange. 27 00:04:13.180 --> 00:04:21.180 This is much more common than you would think. It obviously involves slavery, and slavery might be the prototype. 28 00:04:21.180 --> 00:04:28.180 The slave is worse off as a result of his or her enslavement. However, the slave does get something in return. 29 00:04:28.180 --> 00:04:38.180 The slave gets fed. The slave gets even medical care. The slave does get some return in kind for their services. 30 00:04:38.180 --> 00:04:53.180 But, again, the slave is worse off, because the slave could have used their resources, their labor, for example, or his resources, to achieve an end that has a higher value. 31 00:04:53.180 --> 00:04:59.180 In the same way, the taxpayer does receive some government services in exchange. 32 00:04:59.180 --> 00:05:09.180 But again, those services are valued less than the taxes that he pays or he would have given that money voluntarily to the government. 33 00:05:09.180 --> 00:05:12.180 And you can think of the slave in the same way. 34 00:05:12.180 --> 00:05:18.180 The slave does receive something, but it's valued less than what he could have gotten for his labor. 35 00:05:18.180 --> 00:05:22.180 And then, of course, conscription, eminent domain, even jury duty. 36 00:05:22.180 --> 00:05:38.180 People are paid, in some sense, they're given something by the government in exchange for performing those, or in the activity that's involved in those things, and it's not a voluntary exchange, but it's a forced exchange. 37 00:05:38.180 --> 00:05:48.180 So in the case of aggressive action or invasive action, there are not mutual benefits. 38 00:05:48.180 --> 00:05:55.180 One person is the beneficiary, the other person is the victim, is rendered worse off as a result of the exchange. 39 00:05:55.180 --> 00:06:03.180 Whereas under voluntary action, whether it's gift giving or an exchange of some type, there are mutual benefits. 40 00:06:03.180 --> 00:06:17.180 Now there are preconditions of voluntary exchange. What is necessary for a voluntary exchange to take place? 41 00:06:17.180 --> 00:06:23.180 Well, one is that there has to be what we call reverse valuation of the goods exchanged by the two parties. 42 00:06:23.180 --> 00:06:32.180 That is, one party has to value the good that he's receiving or both parties have to value the good they're receiving greater than the good they're giving up. 43 00:06:32.180 --> 00:06:43.680 So if, for example, I purchased the Wall Street Journal today for a dollar, I valued the Wall Street Journal more than a dollar, and the seller valued the one dollar they received more than the Wall Street Journal. 44 00:06:43.680 --> 00:06:55.680 Okay, so one thing that that analysis does is to explode this fallacy that has existed for millennia, that the goods exchanged have equal value. 45 00:06:55.680 --> 00:06:59.680 They do not. There's actually a double inequality of value. 46 00:06:59.680 --> 00:07:03.680 Each person values what they're getting more highly than what they're giving up. 47 00:07:03.680 --> 00:07:06.680 So there is no equality of value. 48 00:07:06.680 --> 00:07:10.680 And that's one thing that's hidden by the fact that a money price is paid. 49 00:07:10.680 --> 00:07:19.680 For example, national income accounting, we say that the car added $30,000 worth of value to GNP. 50 00:07:19.680 --> 00:07:24.680 And the CD produced added $12 worth of value. 51 00:07:24.680 --> 00:07:26.680 That was the price on the market. 52 00:07:26.680 --> 00:07:33.680 And speaking in those terms obscures the fact of this double inequality of value. 53 00:07:33.680 --> 00:07:38.680 And secondly, there must be, and this is common sense, knowledge of each other's existence. 54 00:07:38.680 --> 00:07:42.680 Okay, right now we could have a double inequality of value for this water. 55 00:07:42.680 --> 00:07:47.680 That is, somebody could value this water for more than $1.50 and I wouldn't be willing to give it up for, 56 00:07:47.680 --> 00:07:50.680 or I'd be willing to give it up for less than $1.50, let's say for $1. 57 00:07:50.680 --> 00:07:58.680 Yet, if for some reason we don't communicate on that, then in fact there is no exchange taking place. 58 00:07:58.680 --> 00:08:07.680 So obviously you have to have knowledge of each other's existence, which is reasons for advertising and so on. 59 00:08:07.680 --> 00:08:16.680 So that in both cases, to sum up, both parties, or in all voluntary exchanges, both parties demonstrably benefit. 60 00:08:16.680 --> 00:08:25.680 That is, they both improve their welfare or utility ex ante, otherwise they would not have undertaken the exchange. 61 00:08:25.680 --> 00:08:31.680 Another way of putting it is that both parties gain a psychic profit or expect to gain a psychic profit. 62 00:08:31.680 --> 00:08:41.680 Now, as we said, because of uncertainty and error in judgment and forecasting, there can be cases and there are cases in which a person regrets an exchange that he or she made, 63 00:08:41.680 --> 00:08:45.840 but it does not make it any less a voluntary exchange. 64 00:08:45.840 --> 00:08:48.580 And it doesn't in any way contradict the fact 65 00:08:48.580 --> 00:08:51.240 that both parties at the moment of the exchange 66 00:08:51.240 --> 00:08:53.160 expected the benefit from it, okay. 67 00:08:54.660 --> 00:08:59.440 So this is an ironclad universal immutable law of economics 68 00:08:59.440 --> 00:09:04.440 that applies during all times and overall all places, okay. 69 00:09:05.120 --> 00:09:09.580 That is that voluntary exchange yields mutual benefits. 70 00:09:09.580 --> 00:09:25.080 Now let me just give you some examples in a diagram, just sort of a general example. 71 00:09:25.080 --> 00:09:28.580 Okay, at the top there you see A's value scale. 72 00:09:28.580 --> 00:09:32.880 A has a horse and wishes to trade the horse for a cow. 73 00:09:32.880 --> 00:09:37.480 That is, rather, A has a cow and values the horse, which he does not have, 74 00:09:37.480 --> 00:09:39.920 That's why I have it in parentheses, more than the cow. 75 00:09:39.920 --> 00:09:44.080 And B has a reverse valuation, okay? 76 00:09:44.080 --> 00:09:45.520 And B happens to have the horse, 77 00:09:45.520 --> 00:09:48.340 but values the cow more highly. 78 00:09:48.340 --> 00:09:52.600 So, given that that condition, precondition, is satisfied, 79 00:09:52.600 --> 00:09:55.360 the exchange does take place, okay? 80 00:09:55.360 --> 00:09:57.080 Each person gets something they value more 81 00:09:57.080 --> 00:10:00.600 for something that they value less in exchange. 82 00:10:00.600 --> 00:10:04.200 Now that applies, by the way, to international trade. 83 00:10:04.200 --> 00:10:06.800 No difference, some imaginary boundary 84 00:10:06.800 --> 00:10:11.200 between countries does not nullify this law of economics. 85 00:10:11.200 --> 00:10:16.480 So if an American values a Toyota more than $25,000 86 00:10:16.480 --> 00:10:20.440 and the Japanese seller values the $25,000 87 00:10:20.440 --> 00:10:23.120 that he's receiving more than the Toyota, 88 00:10:23.120 --> 00:10:24.920 then the exchange will take place 89 00:10:24.920 --> 00:10:26.600 and will benefit both parties. 90 00:10:26.600 --> 00:10:30.600 There is no national injury. 91 00:10:30.600 --> 00:10:32.120 All exchange involves individuals 92 00:10:32.120 --> 00:10:35.080 must be analyzed on the individual level. 93 00:10:35.080 --> 00:10:39.080 and therefore we have mutual benefits, okay. 94 00:10:41.840 --> 00:10:50.440 Now this is all, this general analysis is also true of sweatshops, of plasma clinics, 95 00:10:50.440 --> 00:10:56.120 a lot of plasma clinics have set up on the Mexican, US-Mexican border 96 00:10:56.120 --> 00:11:01.120 and you can give plasma evidently more frequently than you can give blood. 97 00:11:01.120 --> 00:11:10.920 And so many Mexicans come and exchange their plasma for $25 or $50, whatever the payment is. 98 00:11:10.920 --> 00:11:17.520 And there's been a big outcry that somehow the U.S. is in a sort of vampire relationship with Mexico, 99 00:11:17.520 --> 00:11:20.020 that we're exploiting this third world country. 100 00:11:20.020 --> 00:11:26.320 But in fact, the person, the donors are in fact benefiting. 101 00:11:26.320 --> 00:11:29.820 There's a great movie I just saw a couple weeks ago called Teristas, 102 00:11:29.820 --> 00:11:47.740 in which there's a Brazilian doctor, I don't want to give it away, but basically to get back at the U.S. and Western nations for their citizens going abroad and purchasing organs from other countries. 103 00:11:47.740 --> 00:11:58.380 They're, of course, kidnapping tourists and then taking their organs out and giving them to the poor people, this took place in Brazil, okay, it's a cool movie. 104 00:11:59.820 --> 00:12:15.820 Then there's a famous Twilight Zone episode, which is one of my favorite ones, where this rich woman who has been blind from a young age and lives in a penthouse in New York, so you know she's going to be the evil one in this, of course. 105 00:12:15.820 --> 00:12:21.820 She lives in a penthouse in New York and all she wants to do is see the New York skyline at night. 106 00:12:21.820 --> 00:12:51.820 She remembers it from when she was a young girl before she had gone blind and I don't know if it was her doorman or a cleaning person whose child was very sick and needed an expensive operation and offers to donate or to sell his eyes, this is before organ donations, this was probably made in the 60s, to sell his eyes to her but the catch is she's only going to be able to see for one day, one evening 107 00:12:51.820 --> 00:13:21.820 And of course, on the way Rod Sterling Rice sees things, she's very clever, the operation is successful, and just an advantage being taken off, and that's the night of the blackout in New York in the 1960s, so she sees nothing, right, so how dare you purchase an organ, but of course it's mutually beneficial, and we'll talk more about organs and price controls in a later lecture, then there's a very good article on blackmail that was, now blackmail involves absolutely no 108 00:13:21.820 --> 00:13:28.820 They're forced. That would be called extortion, where you would extort somebody. You would threaten if they don't give you the money in exchange for protection. 109 00:13:28.820 --> 00:13:39.820 For example, when the mob or the so-called mafia move into an area, they tell the store owners that we will protect you, but you have to pay protection money. 110 00:13:39.820 --> 00:13:45.820 Otherwise, your windows may get broken and so on. In fact, they'll break the windows if you don't pay the protection money. 111 00:13:45.820 --> 00:13:49.820 But if you do, they will give you those services. They will keep other gangs out and so on. 112 00:13:49.820 --> 00:13:52.820 That's extortion. I'm not talking about that. I'm talking about blackmail. 113 00:13:52.820 --> 00:13:59.820 And the case I'm referring to is that of Bill Cosby when a young woman came forward a number of years ago. 114 00:13:59.820 --> 00:14:07.820 And I think she has it for a million dollars. She was his love child. She was his child from a relationship with a woman. 115 00:14:07.820 --> 00:14:17.820 And he had hidden it for many, many years. And of course, the police got involved and they arrested her and it came out. 116 00:14:17.820 --> 00:14:25.820 He admitted to it. But the point is, if you look at blackmail, there's really two components, right? Neither of which are legal. 117 00:14:25.820 --> 00:14:38.820 One is secret telling. If she had just gone to one of these tabloids, these supermarket tabloids, and told the secret, and they published it, she wouldn't get in trouble for that. 118 00:14:38.820 --> 00:14:44.820 Okay, that's not against the law. On the other hand, there's an exchange of money. 119 00:14:44.820 --> 00:14:50.820 Now, if Bill Crosby had found out about her and wanted to make sure that the secret was kept, 120 00:14:50.820 --> 00:14:55.820 he could certainly go to her and not be arrested and offer to pay her a million dollars. 121 00:14:55.820 --> 00:15:02.820 That's not blackmail and that's not against the law. However, put those two things together and it's suddenly illegal. 122 00:15:02.820 --> 00:15:12.820 So it's very, very odd that two things that are perfectly legal, when they're done, when they're combined, are considered illegal. 123 00:15:12.820 --> 00:15:20.820 Now, let's look at it economically. Walter Williams, as I said, wrote a very, very good column on this when this first broke, 124 00:15:20.820 --> 00:15:29.820 in which he pointed out that, well, in fact, Bill Cosby is better off, if he does pay the money, he's certainly better off, and she's better off. 125 00:15:29.820 --> 00:15:35.520 So there are mutual benefits to blackmail. There is no victim in the relationship, okay? 126 00:15:35.520 --> 00:15:46.020 In fact, what if she... he offered her the million dollars and she turned it down and went public with it, okay? 127 00:15:46.020 --> 00:15:49.820 Which is not against the law. He would actually be worse off in that case. 128 00:15:49.820 --> 00:15:59.220 And an indirect effect, of course, of suppressing blackmail is that in the future the blackmailese will never have a choice, right? 129 00:15:59.220 --> 00:16:04.820 So if the government stamps out all blackmail, then they don't have the choice to turn down a million dollars. 130 00:16:04.820 --> 00:16:09.220 Or rather, to turn down the offer of not telling the secret for a million dollars. 131 00:16:09.220 --> 00:16:15.020 So in the long run, the blackmail is actually rendered worse off by suppressing blackmail. 132 00:16:15.020 --> 00:16:20.120 At least before that, he has a choice to say, yes, I'll pay, or no, I won't pay. 133 00:16:20.120 --> 00:16:22.820 And she has every right to tell the secret, certainly. 134 00:16:22.820 --> 00:16:28.920 It's combining the telling of the secret with the request for money that somehow becomes illegal. 135 00:16:28.920 --> 00:16:31.480 But the reverse, of course, is not illegal. 136 00:16:31.480 --> 00:16:39.680 The offer of money, not to tell the secret, it's not against the law, it's not blackmail. 137 00:16:39.680 --> 00:16:50.120 And then there are many other, certainly pornography, whatever we think about it morally, is a voluntary exchange. 138 00:16:50.120 --> 00:16:56.000 The feminist movement claims that somehow it's exploiting women, but again, they're using broad categories. 139 00:16:56.000 --> 00:17:04.000 The individual women involved in those activities are certainly better off from their own point of view. 140 00:17:04.000 --> 00:17:12.000 We're talking from a moral point of view than they would be if they worked as a waitress or in a factory or something. 141 00:17:12.000 --> 00:17:20.000 Other women, of course, have the choice of turning that down and most of them do. 142 00:17:20.000 --> 00:17:34.000 So, this analysis is a very, very broad range of application, and allows you to spot and to refute many fallacies. 143 00:17:34.000 --> 00:17:42.000 In the case of forced exchanges, again, slavery, taxation, eminent domain, conscription, only one party gains, 144 00:17:42.000 --> 00:17:50.000 and that is the person who is able to enforce those forced exchanges and that's in this particular case the government. 145 00:17:50.000 --> 00:18:03.000 Paying for public schools, being forced to pay for what you may not wish to, that is that you value the money more in spending it on private schools than you do in public schools. 146 00:18:03.000 --> 00:18:10.000 Your push, your level of welfare is reduced below what it would have been if you weren't forced to make that exchange. 147 00:18:10.000 --> 00:18:18.000 Now let's get to the law of marginal utility and how it plays into the limits of exchange, into limiting exchange. 148 00:18:18.000 --> 00:18:27.000 And what we're interested in now is when two parties possess not just one unit each of a good, but multiple units of a good, okay? 149 00:18:27.000 --> 00:18:36.000 How many exchanges are made? How many units are exchanged? And the law of marginal utility allows us to determine that, okay? 150 00:18:36.000 --> 00:18:43.000 Basically, where there are no more mutual benefits, the process of exchange stops. 151 00:18:43.000 --> 00:18:48.000 Even if one party wishes it to go on, and the other party has reached the limit, 152 00:18:48.000 --> 00:18:54.000 where he no longer values an additional unit of the good that he's receiving above what he's giving up, the exchange stops. 153 00:18:54.000 --> 00:18:58.000 So let me just show you that here, it's sort of straightforward. 154 00:18:58.000 --> 00:19:06.000 Let's say you have a situation where one farmer possesses no horses with a supply of zero horses and four cows. 155 00:19:06.000 --> 00:19:11.000 And the second farmer possesses four horses but no cows. 156 00:19:11.000 --> 00:19:13.000 And those are their value scales. 157 00:19:13.000 --> 00:19:21.000 Now, the animal that's in parentheses are units of the good that they do not possess. 158 00:19:21.000 --> 00:19:26.000 So A possesses zero horses, so we have the horses in parentheses. 159 00:19:26.000 --> 00:19:32.000 They can still value them because they're able to exchange, so they value these units that they will receive in exchange. 160 00:19:32.000 --> 00:19:37.000 So what exchanges are made? How many horses and cows are exchanged? 161 00:19:37.000 --> 00:19:43.000 Well, two exchanges are made. We're assuming what's going to be explained tomorrow. 162 00:19:43.000 --> 00:19:47.000 We're assuming that the prices or the ratio of exchange is one horse for one cow. 163 00:19:47.000 --> 00:19:51.000 But the law of marginal utility will also explain why that is the price. 164 00:19:51.000 --> 00:19:53.000 But for now, let's assume that. 165 00:19:53.000 --> 00:20:00.500 Certainly then, if you look at the fourth cow on A's value scale, we'll do it from A's point of view, 166 00:20:00.500 --> 00:20:06.500 he values that much less than the first horse which he doesn't possess, which if you notice in parentheses is far above it. 167 00:20:06.500 --> 00:20:11.000 So he exchanges his fourth cow for the first horse. 168 00:20:11.000 --> 00:20:21.000 B will give up the lowest ranked horse on his value scale, so the fourth horse is certainly below the first cow that he receives. 169 00:20:21.000 --> 00:20:32.000 So that exchange takes place, because the marginal utility of the horse is below the marginal utility on B's value scale of the first cow. 170 00:20:32.000 --> 00:20:44.000 And what about the second exchange? Well, if you go up and see the third cow on A's value scale, and that's what he possesses, that ranks below the second horse. 171 00:20:44.000 --> 00:20:50.000 Let's call the second horse. You see the second horse, which he does not possess yet, because he hasn't made the second exchange? 172 00:20:50.000 --> 00:20:56.000 That's above the third cow. So he makes that exchange also. 173 00:20:56.000 --> 00:21:03.000 Now, will he exchange any further? He now has two cows and two horses. 174 00:21:03.000 --> 00:21:12.000 If he wanted a third horse, he'd have to give up cow number three there, which ranks above the horse. He'd be worse off. 175 00:21:12.000 --> 00:21:16.000 That's where the exchange stops, okay? 176 00:21:16.000 --> 00:21:22.000 The exchange stops when the marginal utility of the good that he has to give up, and that's the third cow, 177 00:21:22.000 --> 00:21:28.000 is above the marginal utility of the good that he would receive in the exchange. 178 00:21:28.000 --> 00:21:32.000 So he's perfectly satisfied now with the supply of two horses, two cows. 179 00:21:32.000 --> 00:21:38.000 B, on the other hand, would like the exchange to go further because B ranks the third cow, 180 00:21:38.000 --> 00:21:45.000 Let's put that third cow on B's value scale above the horse that he'd be receiving in exchange, okay? 181 00:21:45.000 --> 00:21:49.000 So he'd be receiving the third horse there. Notice he ranks the third cow above that. 182 00:21:49.000 --> 00:21:53.000 But that exchange cannot take place now without injuring A. 183 00:21:53.000 --> 00:22:01.000 So unless B put a gun to A's head and made it a coerced exchange, the exchange process stops. 184 00:22:01.000 --> 00:22:07.000 We say in economics that the mutual gains from exchange are exhausted at that point, okay? 185 00:22:07.000 --> 00:22:15.200 That's all very theoretical, so let me give you an example, more up to date. 186 00:22:15.200 --> 00:22:27.140 This is a copy or representation of what I bought at Wal-Mart. 187 00:22:27.140 --> 00:22:33.720 Not this year, last year, I was going to photocopy this year's, but I was too lazy. 188 00:22:33.720 --> 00:22:47.720 When I went to Walmart, I had a stock of money, and I didn't have many of these other things, or I didn't have enough of these other things compared to the money. 189 00:22:47.720 --> 00:22:56.720 So I bought a George Foreman grill at Walmart, because I valued it above the price of 1944. These are the actual prices I paid back then. 190 00:22:56.720 --> 00:23:07.720 I bought three CDs. I bought a CD there for $9.72. Actually, I bought three CDs, but I didn't buy any more than that. 191 00:23:07.720 --> 00:23:16.720 No, actually, I bought one CD. I bought three DVDs, because I valued the three DVDs that were on sale more than the $4.88. 192 00:23:16.720 --> 00:23:24.720 I bought only four ounces of Sensodyne toothpaste because I didn't value any more than that above the per unit price. 193 00:23:24.720 --> 00:23:34.720 I bought a pound of Folgers coffee and just one pound, no more, and I bought a pound of bananas. 194 00:23:34.720 --> 00:23:37.720 Why didn't I buy the second pound of bananas for 48 cents? 195 00:23:37.720 --> 00:23:41.720 Because I ranked the 48 cents above the second pound of bananas. 196 00:23:41.720 --> 00:23:49.720 Why didn't I buy a fourth CD? Because I ranked the $4.88 above the DVD. 197 00:23:49.720 --> 00:24:02.720 Everyone then who makes an exchange at any given moment in time will walk out of the store as I did having exhausted the gains from exchange. 198 00:24:02.720 --> 00:24:08.720 I could not have made myself any better off by buying anything else, by reducing my stock of money. 199 00:24:08.720 --> 00:24:14.720 Now, as I continued to spend money at Walmart, what happened to the marginal utility of money? It went up. 200 00:24:14.720 --> 00:24:17.720 The marginal utility of these various things went down. 201 00:24:17.720 --> 00:24:21.720 Now, there are many things that I passed by in the aisle, in the various aisles. 202 00:24:21.720 --> 00:24:26.720 I didn't buy any beer, I didn't buy any butter, and so on. 203 00:24:26.720 --> 00:24:30.720 Why didn't I? In a general sense, not specifically for me. 204 00:24:30.720 --> 00:24:38.720 Because even the first unit of those goods was below the marginal utility of the price that I would have had to pay. 205 00:24:38.720 --> 00:24:43.720 So when someone, you see someone with a full shopping cart walking out of a store, 206 00:24:43.720 --> 00:24:52.920 They are in what we call in economics sort of a personal equilibrium or what Mises called a plain state of rest, okay? 207 00:24:52.920 --> 00:25:02.520 That is, there are no more gains to be made from exchange and that's true of everyone who walked out of Walmart that day. 208 00:25:02.520 --> 00:25:07.320 Okay, let's assume prices are fixed during the course of the day and we'll change the prices the next day. 209 00:25:07.320 --> 00:25:12.720 Walmart, on the other hand, they could have and probably would have liked to sell more at those prices, 210 00:25:12.720 --> 00:25:15.000 But no one would have purchased more at those prices. 211 00:25:15.000 --> 00:25:18.960 So Walmart, in order to have sold more, would have had to do what with its prices? 212 00:25:18.960 --> 00:25:20.640 Lower them, okay? 213 00:25:20.640 --> 00:25:30.520 But they did not do that because they valued the remaining stock of inventory that's in the store above the lowered prices. 214 00:25:30.520 --> 00:25:37.640 Basically, they speculated that the next day they could sell more of those goods at the given prices that they fixed. 215 00:25:37.640 --> 00:25:42.120 Now, they might have sales the next day, realize that they have too much stock on hand. 216 00:25:42.120 --> 00:25:48.880 but that's another story okay so again this is called everyone when they when 217 00:25:48.880 --> 00:25:53.640 they go through the exchange processes every moment in time ends up in what we 218 00:25:53.640 --> 00:25:59.640 call a momentary equilibrium or a plane state of rest okay those are the terms 219 00:25:59.640 --> 00:26:11.200 that that are used in economics or in the causal realistic approach okay so it 220 00:26:11.200 --> 00:26:19.040 It would be incorrect to say that anyone walked out of the store frustrated. 221 00:26:19.040 --> 00:26:23.000 They might be frustrated that the price was higher than they thought it would be, but 222 00:26:23.000 --> 00:26:27.400 no one walked out of the store worse than when they walked in, and everyone who bought 223 00:26:27.400 --> 00:26:29.120 something walked out better off. 224 00:26:29.120 --> 00:26:34.080 A person who walked out without anything, it turns out that the marginal utility of 225 00:26:34.080 --> 00:26:38.400 the price of anything was above the marginal utility of what they could have gotten, that 226 00:26:38.400 --> 00:26:43.400 they would have had to take something for a lower value and given up something of a higher value, okay? 227 00:26:43.400 --> 00:26:50.400 Now, they may have shopped around, they may have done that because they were shopping around and thought they could get a lower price. 228 00:26:50.400 --> 00:26:53.400 They might come back later in the day or the next day and buy at that price. 229 00:26:53.400 --> 00:26:57.400 But at that moment, that was their judgment and that's very, very important, okay? 230 00:26:57.400 --> 00:27:22.400 So at the end of every market, let's call it a market day, so at the end of every market day, all possessors of the good value the last unit purchased above the price, and they value the price above the first unit that they do not purchase. 231 00:27:22.400 --> 00:27:37.400 So if you buy two six-packs of beer, that means that you value the second six-pack above, let's say, the $6 price, but you value the $6, the additional $6 that you would have to give up, above the third six-pack. 232 00:27:37.400 --> 00:27:53.400 So I'm laboring this point because I want you to see that in the market economy, when left to its own devices, everyone seeks out and exploits fully the mutual benefits of exchange. 233 00:27:53.400 --> 00:28:13.400 That's not to say, again, that due to uncertainty, error, lack of judgment, they may not later either regret a purchase they did make or regret a purchase that they did not make, because they thought the price would be lower somewhere else. 234 00:28:13.400 --> 00:28:19.400 Now let's get to, so that's basically the analysis of exchange. 235 00:28:19.400 --> 00:28:27.400 Exchange, and I'm going to talk about this very, very briefly, results from really a division of labor and specialization. 236 00:28:27.400 --> 00:28:34.400 It implies, especially in a market economy, we all have a job in a very small area of one production process. 237 00:28:34.400 --> 00:28:40.400 In a modern economy, no one specializes in a complete production process. 238 00:28:40.400 --> 00:28:54.400 If you've ever read the article by Leonard Reed, iPencil, it shows how many different producers, specialists, throughout the world are involved in the production of something as simple as a pencil, and a pencil back in the 1950s, okay? 239 00:28:54.400 --> 00:29:02.400 So everyone is a specialist to some degree when exchange begins, and that results in a division of labor, okay? 240 00:29:02.400 --> 00:29:17.400 As you recognize that you can get more and more of your wants fulfilled through exchange with other specialists, that is, as the size of the market grows, you specialize more narrowly because you know it will be easier to find people who will want the things that you purchase. 241 00:29:17.400 --> 00:29:21.400 We'll talk more about this when we talk about money. 242 00:29:21.400 --> 00:29:34.400 Eventually everyone, and that's today certainly, we're at that point, everyone produces for the markets and satisfies his own wants by exchanging his product for a variety of other goods produced by other specialists. 243 00:29:34.400 --> 00:29:44.400 Actually it continues to go forward. Daycare was unheard of as a paid-for service outside the home in the 1950s, almost unheard of. 244 00:29:44.400 --> 00:30:14.400 I'm not talking about just occasional babysitting, I'm talking about full-time daycare, okay, and purchasing fully cooked meals and having them delivered, you know, that was unheard of, okay, so cooking has been specialized in and so on, so even though the Division of Labor is always finding new areas for specialization and exploits them due to the entrepreneurial profit motive, okay, now what facilitates this extension of the Division of Labor and intensification of it is the fact that 245 00:30:14.400 --> 00:30:16.900 We have a medium of exchange, which is money. 246 00:30:16.900 --> 00:30:22.800 Now, the biggest mistake in thinking about monetary problems and about money itself 247 00:30:22.800 --> 00:30:28.500 is in thinking that money is either something more or something less than a commodity. 248 00:30:28.500 --> 00:30:31.800 Money is a commodity, like all other commodities. 249 00:30:31.800 --> 00:30:36.900 It has one characteristic that differentiates it from all other commodities in degree, 250 00:30:36.900 --> 00:30:39.500 and that becomes a difference in kind, in a sense, 251 00:30:39.500 --> 00:30:43.500 and that is the fact that it's acceptable routinely and universally. 252 00:30:43.500 --> 00:30:53.300 You can go anywhere with the U.S. dollar, certainly in the United States, or a U.S. bank deposit of U.S. dollars, and purchase whatever you need. 253 00:30:53.300 --> 00:31:04.800 So everyone accepts the dollar, and that allows for many benefits in terms of efficiency in the economy, which again we'll talk about when we get to money. 254 00:31:04.800 --> 00:31:17.340 So what we're going to accept now is that all prices are money prices in the modern economy and a price is simply a ratio of exchange between two different commodities. 255 00:31:17.340 --> 00:31:24.800 Money indeed is a commodity, even fiat money, because people accept it in exchange for valuable things. 256 00:31:24.800 --> 00:31:34.200 Now, in the case of fiat money, though, it's monopolized by a central agency and therefore it's inefficient and can be destructive. 257 00:31:34.200 --> 00:31:40.720 which brings us then to supply and demand 258 00:31:40.720 --> 00:31:44.480 let me just talk about the law of demand which I'm sure you all 259 00:31:44.480 --> 00:31:47.400 are familiar with 260 00:31:47.400 --> 00:31:54.400 been exposed to 261 00:31:54.400 --> 00:31:58.040 now the law of demand tells us simply that the lower the price of the good 262 00:31:58.040 --> 00:32:00.740 the greater the quantity demanded 263 00:32:00.740 --> 00:32:03.600 when we say quantity demanded we simply mean the amount that buyers 264 00:32:03.600 --> 00:32:07.720 are willing to purchase. So we would state that the lower the price of a good, 265 00:32:07.720 --> 00:32:09.520 the greater the quantity demanded, 266 00:32:09.520 --> 00:32:16.320 all other things equal, meaning the price of other goods equal, incomes equal, and so on. 267 00:32:16.320 --> 00:32:20.160 And it has a converse statement. Conversely, the higher the price of a good, 268 00:32:20.160 --> 00:32:23.240 the smaller the quantity demanded, all other things equal. 269 00:32:23.240 --> 00:32:28.440 And the real world really abounds with illustrations, not proof, but illustrations of this law. 270 00:32:28.440 --> 00:32:30.000 In 1978, 271 00:32:30.000 --> 00:32:42.000 The price of a computer was three million dollars, it was a computer that was slower and could perform fewer functions than your basic PC today. 272 00:32:42.000 --> 00:32:47.000 Now what happened is the price of computing power has fallen so drastically. 273 00:32:47.000 --> 00:32:57.000 The law of demand kicked in and people who would have never dreamed of having a computer in their house in 1978, now might have three computers in their home. 274 00:32:57.000 --> 00:33:09.500 The Law of Demand is illustrated in that case. Cell phones, when they first came out, I don't know, maybe back in the 70s, they were called modular phones or car phones. 275 00:33:09.500 --> 00:33:19.500 They're extremely expensive, only rich Hollywood types had them. You saw them sometimes in movies. James Bond had one, you know, in the 70s, but none of us had them because they were so expensive. 276 00:33:19.500 --> 00:33:24.500 As the price has come down, they've been purchased almost universally. 277 00:33:24.500 --> 00:33:28.500 Let me give you an interesting example. 278 00:33:28.500 --> 00:33:40.500 Ballpoint pens, when they first were introduced at Gimbals in New York, which was a competitor of Mises in 1946, they were $20. 279 00:33:40.500 --> 00:33:45.500 Now $20 in 1946 is over $100. 280 00:33:45.500 --> 00:33:57.500 So, not many people have ballpoint pens, but there was a tremendous amount of competition and by 1948, 1949, the price had come down to something like 20 cents a pen. 281 00:33:57.500 --> 00:34:09.500 Again, that's over a dollar or whatever. And people who were still using fountain pens between 1946 and 1948, more and more began to turn to ballpoint pens. 282 00:34:09.500 --> 00:34:19.500 And then obviously when the price of oil went up and therefore the price of gasoline, we had a tremendous revolution in the way Americans drove. 283 00:34:19.500 --> 00:34:29.500 We were told that in 1973 when we were waiting on gasoline lines, and then again in 1979, during the Iranian Revolution and the Iraq-Iran War, 284 00:34:29.500 --> 00:34:38.500 and the interruption of oil supplies, we were told that Americans better get used to waiting on these lines until the end of the century or through the next century. 285 00:34:38.500 --> 00:34:48.000 And, of course, there were price controls, and we'll talk about that, but as soon as price controls were taken off and the price rose for gasoline, those lines disappeared. 286 00:34:48.000 --> 00:34:53.500 And in the 1980s, the auto industry was revolutionized. 287 00:34:53.500 --> 00:35:00.300 GM, Chrysler, Ford were driven to the brink of bankruptcy. 288 00:35:00.300 --> 00:35:08.400 Actually, Chrysler was in bankruptcy and the government bailed them out with taxpayer money, rather with insuring loans with taxpayer money. 289 00:35:08.400 --> 00:35:16.400 And Americans began to drive much smaller cars and the Japanese companies that marketed them did extremely well during the 1980s. 290 00:35:16.400 --> 00:35:26.400 The price of oil collapsed in 1986 and stayed low into the 90s and we got the law of demand working in reverse. 291 00:35:26.400 --> 00:35:31.400 That is, the demand for gasoline went up because people began to want SUVs. 292 00:35:31.400 --> 00:35:36.800 So as oil became cheaper, and therefore gasoline became cheaper, law of demand operated, 293 00:35:36.800 --> 00:35:40.600 so people were willing to buy greater and greater amounts of gasoline, okay? 294 00:35:40.600 --> 00:35:44.800 And the way you do that is by buying larger cars, okay? 295 00:35:44.800 --> 00:35:47.500 And so SUVs then became popular. 296 00:35:47.500 --> 00:35:52.000 Now with gasoline prices going up again, and I don't know how much of this is a market phenomenon, 297 00:35:52.000 --> 00:35:58.500 we have hybrid cars as a way of economizing on the higher-priced gasoline that's just beginning to take hold, 298 00:35:58.500 --> 00:36:04.300 But again, I haven't done a close study of that, so I don't know if that's a government-driven phenomenon. 299 00:36:04.300 --> 00:36:10.700 I suspect it is, but I just think smaller cars would be sufficient to most people. 300 00:36:10.700 --> 00:36:13.900 Okay, now let me just talk a bit about a demand schedule. 301 00:36:13.900 --> 00:36:17.800 It's a table that indicates the quantity demanded of the good at different prices. 302 00:36:17.800 --> 00:36:22.400 And it's just an illustration of the law of demand. It's not meant to be anything real. 303 00:36:22.400 --> 00:36:26.500 We never see a demand curve, as I'll talk about, in the real world. 304 00:36:26.500 --> 00:36:36.860 The only thing we see is one point on a demand curve, because all we see is a certain amount, quantity exchange, for a given price. 305 00:36:36.860 --> 00:36:50.260 So in this case, this is the price, we use milk, this is the price per gallon of milk, and we can think of this in quantity demanded, a million dollars, a million gallons per day, let's say, in the US or a particular state. 306 00:36:50.260 --> 00:36:54.860 I don't know, I don't have an idea of the magnitude of milk consumed in the US. 307 00:36:54.860 --> 00:37:08.460 But in any case, all that's important about this is that all of the things given, the lower the price is in a given situation, the more that people will demand, the greater the quantity demanded. 308 00:37:08.460 --> 00:37:21.500 So as price falls, quantity moves inversely, and as price rises, quantity moves again inversely, decreases as price rises. 309 00:37:21.500 --> 00:37:30.200 Now, that's useful for teaching introductory students about economics, okay? 310 00:37:30.200 --> 00:37:35.600 This, and you could probably just get away with using demand schedules, but economists moved into curves. 311 00:37:35.600 --> 00:37:42.300 And again, it's a nice representation of the law of demand, but the problem is curves more than schedules. 312 00:37:42.300 --> 00:37:48.800 The schedules deal with discrete units that people, that real action deals with, okay? 313 00:37:48.800 --> 00:37:53.300 Once you draw a continuous curve, of course, it means that the units are infinitely small. 314 00:37:53.300 --> 00:38:02.300 And there is no concept of infinity or there's no use for the concept of infinity in human action, in understanding human action. 315 00:38:02.300 --> 00:38:07.800 There is an understanding part of the natural world, but certainly not in understanding human action. 316 00:38:07.800 --> 00:38:16.800 So that the demand curve is a graphical representation of the demand schedule and so therefore it's redundant in some sense. 317 00:38:16.800 --> 00:38:28.800 But you can do certain things with it in a very economical way, and it's easy to see certain laws illustrated by the demand curve. 318 00:38:28.800 --> 00:38:41.800 So, interestingly, from about the 1920s until when they first began to be drawn regularly, until the early 1940s, all demand curves were inexplicably drawn as rectangular hyperbolas. 319 00:38:41.800 --> 00:38:50.800 I got that from Murray Rothbard, I hadn't realized that, and that's the middle demand curve, rectangular hyperbola. 320 00:38:50.800 --> 00:39:00.800 Basically, what that would tell you is that people spend the same sum of money on the product regardless of how high or how low the price is. 321 00:39:00.800 --> 00:39:05.800 And as I'll show you, this is inconsistent with praxeology. 322 00:39:05.800 --> 00:39:13.800 Now, eventually, with George Stigler's, and George Stigler was Murray Rothbard's teacher in micro, 323 00:39:13.800 --> 00:39:24.800 with George Stigler's textbook coming out in the 1940s, late 30s, early 40s, he started to draw them as linear curves. 324 00:39:24.800 --> 00:39:37.800 Okay, and linear curve is easier to work with, it's slightly more meaningful, okay, and it's just, in essence, it's simply easier to use. 325 00:39:37.800 --> 00:39:49.800 What that tells us is that at very high prices, the amount of coffee that we purchase is extremely low, so if you got as high as a thousand dollars per pound of coffee, 326 00:39:49.800 --> 00:39:57.800 Even my wife, who has to have her frozen colada from Dunkin' Donuts every day, would swear off of coffee. 327 00:39:57.800 --> 00:40:06.800 And then as the price drops, notice that the quantity demanded on the horizontal axis will increase. 328 00:40:06.800 --> 00:40:10.800 So the demand curve is always downward sloping to the right. 329 00:40:10.800 --> 00:40:18.800 That's one thing that we know. It's downward sloping to the right, simply meaning that lower the price, greater the quantity. 330 00:40:18.800 --> 00:40:20.800 So it has a negative slope, okay? 331 00:40:23.800 --> 00:40:28.300 Now, actual demand curves in the real world are not smooth, they're not even linear, okay? 332 00:40:28.300 --> 00:40:33.300 An actual demand curve, as Boehm-Bawerk first pointed out, 333 00:40:36.300 --> 00:40:41.300 is jagged and it's discontinuous, deals with discrete units. 334 00:40:41.800 --> 00:40:45.300 This tells us that at $10 per gallon of gasoline, 335 00:40:45.300 --> 00:40:52.140 There might only be three million gallons of gasoline consumed per month in the U.S. 336 00:40:52.140 --> 00:40:59.460 And as the price drops, price itself, even the monetary unit is indivisible, is lumpy, 337 00:40:59.460 --> 00:41:01.980 and quantities of gasoline are lumpy. 338 00:41:01.980 --> 00:41:05.500 They're not, they can't be changed by tiny amounts. 339 00:41:05.500 --> 00:41:08.220 That's why the curve can't be continuous. 340 00:41:08.220 --> 00:41:16.820 So there are gaps in the demand curve and the demand curve is not necessarily linear, okay? 341 00:41:16.820 --> 00:41:22.120 So the real world is lumpy, okay? Even money is lumpy on some level, okay? 342 00:41:22.120 --> 00:41:26.020 It can't be continuously changed, okay, in infinitely small amounts, 343 00:41:26.020 --> 00:41:30.720 which is what the linear and continuous demand curve tells us. 344 00:41:30.720 --> 00:41:35.420 So we don't use that to teach undergraduates. I mean, it's good to keep that in mind. 345 00:41:35.420 --> 00:41:40.420 You can use a linear demand curve as long as you recognize its limitations, okay? 346 00:41:42.420 --> 00:41:48.420 So now let's say a few things about the slope of the demand curve. 347 00:41:52.420 --> 00:41:55.420 First, the demand curve always slopes down to the left because for two reasons. 348 00:41:55.420 --> 00:41:59.420 The law of marginal utility and differences in people's value scales. 349 00:42:00.420 --> 00:42:02.420 Now, what I mean is this. 350 00:42:05.420 --> 00:42:09.420 These have been fellows at the Mises Institute, Nick's here as a fellow. 351 00:42:09.420 --> 00:42:16.420 Let's say that the price of milk starts, this is Nick's value scale, price of milk starts out at $10. 352 00:42:16.420 --> 00:42:22.420 And this is the monthly consumption or weekly consumption of milk by these people. 353 00:42:22.420 --> 00:42:30.420 Well, Nick at $10 would only buy one gallon, right, because he values $10 above the second gallon, third gallon, so on, they have lower value. 354 00:42:30.420 --> 00:42:35.420 Mila would not buy a gallon of milk at $10, okay? 355 00:42:35.420 --> 00:42:39.420 But as prices drop, the law of marginal utility kicks in. 356 00:42:39.420 --> 00:42:43.420 That is, the second gallon, which has a lower value to Nick, 357 00:42:43.420 --> 00:42:48.420 once the price falls to $7, he'll buy two gallons of milk, because he values the second one above $7. 358 00:42:48.420 --> 00:42:52.420 And if it falls even further to $4 per gallon, he'll buy three gallons. 359 00:42:52.420 --> 00:42:58.420 And if it's $2, then he's willing to purchase the four gallons, 360 00:42:58.420 --> 00:43:13.120 4 gallons because the fourth gallon has a higher marginal utility than the $2. So you have, on the one hand, as the price of, let's say, hand calculators when they came introduced by Texas Instruments in the late 60s, 361 00:43:13.120 --> 00:43:24.660 I remember there were $350 and very few people had them. Most people on college campuses and in high schools walked around with those slide rules. 362 00:43:24.660 --> 00:43:26.820 The younger people here have probably never seen. 363 00:43:26.820 --> 00:43:32.660 And depending on how you carried it and what location, determine whether you were cool or not. 364 00:43:32.660 --> 00:43:35.300 I always carried mine in my back pocket. That was cool. 365 00:43:35.300 --> 00:43:37.660 I cracked a lot of them and I got in trouble with my parents. 366 00:43:37.660 --> 00:43:43.180 But if you carry them in here in your pocket protector, you weren't a cool person. 367 00:43:43.180 --> 00:43:49.140 So anyway, as the price came down, though, from $3.50 today to $5, everyone has them. 368 00:43:49.140 --> 00:43:53.820 When they were $350, only businesses had them and some rich kids. 369 00:43:53.820 --> 00:44:02.620 So, but also at lower prices, people who would have never purchased a gallon of milk or a hand calculator at the higher price, now come in. 370 00:44:02.620 --> 00:44:11.420 So if the price is three dollars, that's when the person who has a lower, ranks milk lower on her value scale, will begin to purchase, right? 371 00:44:11.420 --> 00:44:18.520 So the point is that as price falls and people who buy nothing at the higher price begin to purchase, okay? 372 00:44:18.520 --> 00:44:39.120 So what you get then, if you add, if these people are sort of proxies for society, you add horizontally everybody's quantity purchased or quantity demanded at any given price to get the total market demand curve or demand schedule, the price and the last column which is the total. 373 00:44:39.120 --> 00:44:48.120 So, at one dollar together, Mila and Nick would buy six gallons, at two dollars they'd buy five, okay, that would be the market demand, okay. 374 00:44:53.120 --> 00:45:02.120 So, now let me go back to talking about the slopes of the demand curve, or the elasticity, okay. 375 00:45:02.120 --> 00:45:05.960 Okay, now the concept of elasticity of demand is badly named. 376 00:45:05.960 --> 00:45:09.240 It should be sensitivity of demand or responsiveness of demand, 377 00:45:09.240 --> 00:45:13.360 but Alfred Marshall called it the elasticity of demand then 378 00:45:13.360 --> 00:45:17.840 because it was very influential, that name caught on. 379 00:45:17.840 --> 00:45:23.240 Basically, it tells us how responsive buyers are to a change in price. 380 00:45:23.240 --> 00:45:28.000 That's what elasticity of demand means, okay? 381 00:45:28.000 --> 00:45:33.000 Now, keep in mind the law of demand tells us, and tells business decision makers in particular, 382 00:45:33.000 --> 00:45:37.000 that at lower prices, more is purchased than at higher prices. 383 00:45:37.000 --> 00:45:44.000 But they are also interested in how much more will be purchased if they cut their price by 10% or 5%, okay? 384 00:45:44.000 --> 00:45:46.000 Or if they raise their price. 385 00:45:46.000 --> 00:45:51.000 Because depending on how responsive demand is, if you cut your price you can actually increase your total revenue. 386 00:45:51.000 --> 00:45:58.000 On the other hand, if you raise your price, you may very well reduce your total revenue. 387 00:45:58.000 --> 00:46:02.000 So, for example, let me just write on this. 388 00:46:02.000 --> 00:46:13.000 If, let's say, a GM is, let's say it's Cadillac, the CTS model, Cadillac is selling very slowly, 389 00:46:13.000 --> 00:46:42.920 very slowly and they decide to cut the price by 10% so the percent change in price so their contemplates minus 10% cut okay if they expect that that will increase sales sales as a result of that cut of 10% in price will will go up that is quantity demanded will go up by 30% then that would will 390 00:46:42.920 --> 00:46:50.420 will increase their total revenue, and they would do that, assuming that there's no additional cost involved, that the units are already on the lot. 391 00:46:50.420 --> 00:46:59.720 On the other hand, what may happen is that this percent change in quantity demanded might only increase by 2%. 392 00:46:59.720 --> 00:47:04.820 If it increases by 30%, we say that the demand for this model is highly elastic. 393 00:47:04.820 --> 00:47:11.920 If it increases only by 2%, we say it's inelastic, meaning unresponsive. 394 00:47:11.920 --> 00:47:22.320 Now, we're not really interested. Now, in economics, there is, let me see, I think I do have the slide for it, yeah. 395 00:47:28.640 --> 00:47:34.720 There's a definite, there are two types of elasticities of demand. 396 00:47:34.720 --> 00:47:46.720 What is called point elasticity? That is, what is the change, what is the ratio of change between price and quantity demanded at one point on the demand curve? 397 00:47:46.720 --> 00:47:56.720 That's totally useless information for the businessman. So the causal realist economist would just ignore point elasticity of demand. 398 00:47:56.720 --> 00:48:06.720 ARC elasticity of demand says, what if there's a discrete cut in price, what will happen to the quantity demanded? 399 00:48:06.720 --> 00:48:13.720 In economics lingo, we are only interested in the ARC elasticity of demand. 400 00:48:13.720 --> 00:48:18.720 And we're not even interested in that formula that I wrote up there, that's the formula for ARC elasticity of demand. 401 00:48:18.720 --> 00:48:22.720 It's basically the percent change in quantity demanded over the percent change in price. 402 00:48:22.720 --> 00:48:52.720 price and just to give you an idea before when I said that price is cut by 10% and quantity demand goes up by 30% that would be 3 divided by 10% that would give you an absolute number of negative 3 or rather a number of negative 3 anything above and we take and we take the absolute value so we take out the negative sign so anything above 1 an absolute value means that 403 00:48:52.720 --> 00:48:57.880 It's very elastic, meaning that the numerator exceeds the denominator. 404 00:48:57.880 --> 00:49:02.960 That is, the change in quantity demanded is greater than the change percent change in price. 405 00:49:02.960 --> 00:49:04.880 And the reverse is that it's inelastic. 406 00:49:04.880 --> 00:49:07.800 But you don't have to worry about that. 407 00:49:07.800 --> 00:49:10.360 What's important is this. 408 00:49:10.360 --> 00:49:14.660 What happens to total revenue when there's a change in price? 409 00:49:14.660 --> 00:49:18.320 Now let's look at this. I use this example from my 410 00:49:18.320 --> 00:49:21.120 students at Pace University in New York City because there is a 411 00:49:21.120 --> 00:49:24.560 a hot dog vendor right outside pace 412 00:49:24.560 --> 00:49:29.000 and he has to decide on how much to charge for his hot dogs 413 00:49:29.000 --> 00:49:32.200 well let's look at this for a moment let's say that he is currently 414 00:49:32.200 --> 00:49:35.060 charging two dollars and he's selling 415 00:49:35.060 --> 00:49:39.040 ninety hot dogs per day 416 00:49:39.040 --> 00:49:42.320 well if you multiply two dollars 417 00:49:42.320 --> 00:49:48.460 per hot dog by the ninety he sells well his total revenue is one hundred and eighty 418 00:49:48.460 --> 00:49:52.860 Is it in his interest to raise the price? 419 00:49:52.860 --> 00:49:55.660 Well, yes it is in fact, okay? 420 00:49:55.660 --> 00:50:00.860 Because at least in a certain range of prices, it's very elastic. 421 00:50:00.860 --> 00:50:03.660 That is, I'm sorry, it's very inelastic. 422 00:50:03.660 --> 00:50:05.060 People aren't very responsive. 423 00:50:05.060 --> 00:50:09.760 If you raise the price from $2 to $3, yes, people cut back according to law of demand. 424 00:50:09.760 --> 00:50:12.260 They cut back by 10 hot dogs, okay? 425 00:50:12.260 --> 00:50:15.860 But you've raised the price by 50%, okay? 426 00:50:15.860 --> 00:50:17.160 So you've raised the price to $3. 427 00:50:17.160 --> 00:50:20.660 So $3 per hot dog times 80 gives you $240. 428 00:50:20.660 --> 00:50:26.760 Now, the range of the demand schedule, the demand curve, where an increase in price, 429 00:50:26.760 --> 00:50:30.460 when you raise the price, you get greater total revenue, that's called an elastic. 430 00:50:30.460 --> 00:50:31.560 People aren't very responsive. 431 00:50:31.560 --> 00:50:35.460 They cut back, but not enough to cause your total revenue to fall. 432 00:50:35.460 --> 00:50:44.960 This hot dog vendor, if he's profit motivated, would not charge a price less than what? 433 00:50:44.960 --> 00:50:52.020 Even at five, he could do better by, okay, now why would he do that? Well, look at the profit equation I drew, I put up there. 434 00:50:52.020 --> 00:51:00.160 Profit is simply the profit, which I symbolize as pi, the Greek letter pi, because we use P for price. 435 00:51:00.160 --> 00:51:04.060 Pi is equal to total revenue minus total cost, okay? 436 00:51:04.060 --> 00:51:10.120 So, notice what's happening. Even at five dollars, if he raised the price to six, his total revenue doesn't change. 437 00:51:10.120 --> 00:51:14.920 But what happens to his total cost? Well, he has to buy how many fewer hot dogs? 438 00:51:14.920 --> 00:51:19.920 10 Fewer Hot Dogs, so his total costs are going down, so his profits go up, okay? 439 00:51:19.920 --> 00:51:26.520 And at any price below $5, he raises his price, increases his total revenue, 440 00:51:26.520 --> 00:51:30.920 and because he has to sell a few units, it cuts back on his total cost, okay? 441 00:51:30.920 --> 00:51:38.220 So he will sell at a price of $6 or above, okay, in the elastic range, 442 00:51:38.220 --> 00:51:44.420 because above $6, as he increases his price, what happens with total revenue? It drops. 443 00:51:44.420 --> 00:51:50.020 Now, does he want to maximize his total revenue, assuming he has an ongoing business? 444 00:51:50.020 --> 00:51:54.420 No, what happens is that, depending on its cost, which we're not going to deal with, 445 00:51:54.420 --> 00:52:00.420 he will set his price somewhere between six and ten dollars, or possibly even higher. 446 00:52:00.420 --> 00:52:06.420 His interest is not in the highest total revenue, but in the greatest gap between his outlays, 447 00:52:06.420 --> 00:52:13.420 which is his total cost, or total money expenses more properly, and his total revenue. 448 00:52:13.420 --> 00:52:25.420 Now, that is a linear demand curve, a downward sloping demand curve, as we'll see in a moment, in the real world, as I pointed out, that doesn't necessarily exist. 449 00:52:25.420 --> 00:52:30.420 But let's look at elasticity and the relationship between a change in price and a change in total revenue. 450 00:52:30.420 --> 00:52:41.420 So, to sum up what we said, you are in an elastic area of your demand curve when, if you cut your price, your total revenue goes up. 451 00:52:41.420 --> 00:52:48.820 That is, people, when you cut your price, they raise their quantity, they increase their quantity. 452 00:52:48.820 --> 00:52:55.820 Even though price is falling, they increase the quantity by more in percent terms when price is falling and therefore they get an increase in total revenue. 453 00:52:55.820 --> 00:53:04.620 On the other hand, if you go the same way, that's between six and ten, if you go the opposite way and raise the price in that area, you'll find your total revenue falls. 454 00:53:04.620 --> 00:53:09.920 If you're in a unit elastic area between five and six dollars, notice what happens. 455 00:53:09.920 --> 00:53:24.200 Even though you raise your price from five to six dollars, people buy less, but your total revenue is unchanged, which means that the percent change in price is exactly equal to the percent change in quantity. 456 00:53:24.200 --> 00:53:30.560 They offset one another, so it's no effect on total revenue, because total revenue is price times the quantity. 457 00:53:30.560 --> 00:53:41.560 Finally, in the inelastic range, which is the low prices, on a linear demand curve, the inelastic range of the demand curve is always the lower half. 458 00:53:41.560 --> 00:53:46.960 In that case, if you raise your price, every time you raise your price, you get greater total revenue. 459 00:53:46.960 --> 00:54:00.060 Now, it's economically wasteful and counterproductive to ever set your price knowingly in an inelastic portion of your demand curve. 460 00:54:00.060 --> 00:54:06.360 You will always tend to set it at a point at which, if you raise it further, what has to happen to your total revenue? 461 00:54:06.360 --> 00:54:08.400 It has to fall, okay? 462 00:54:08.400 --> 00:54:14.660 If you don't do that, then you are not maximizing your profit. 463 00:54:14.660 --> 00:54:28.360 Okay, now, let me give you some rules about the relationship between the slope of the demand curve 464 00:54:28.360 --> 00:54:30.860 and its Responsiveness or Elasticity. 465 00:54:34.360 --> 00:54:43.860 The first is this, that all other things equal, the flatter the demand curve is, the more elastic it is. 466 00:54:45.360 --> 00:54:51.860 So here's an example of a demand curve. Notice that at a price of $8, 467 00:54:51.860 --> 00:55:13.860 And you can see the dotted line, the broken line that drops right from that point where the demand curve is at $8, down to 10,000 units, okay, that's in 10,000 units, so at $8, consumers, buyers will purchase 10,000 units. 468 00:55:13.860 --> 00:55:29.860 Now, let's say that's a big store selling DVDs, and they're deciding, should we cut our price from 8 to 5, should we run a sale, or let's say CDs, should we run a sale, should we cut the price? 469 00:55:29.860 --> 00:55:46.860 Well, if they cut it to $5 and the demand curve looks like DI, they only increase their quantity by $2,000,000, and their total revenue will fall. 470 00:55:46.860 --> 00:55:56.860 However, when the demand curve is flatter, it indicates what? There's a much greater increase in the quantity demanded for every unit decrease in price. 471 00:55:56.860 --> 00:56:06.860 So, in which case are they more likely to cut their price, where their demand is more elastic, where people are more responsive to lower prices. 472 00:56:06.860 --> 00:56:11.860 And this is one thing that's very important. People complain about brand name competition. 473 00:56:11.860 --> 00:56:20.860 But if there was simply one seller of bread, that seller would be able to charge a very high price. 474 00:56:20.860 --> 00:56:24.460 a very high price. The fact that we have a lot of different brands of bread, 475 00:56:24.460 --> 00:56:28.900 and let me go back a step, why would they have very high price when you 476 00:56:28.900 --> 00:56:34.660 have one brand of bread? Well, it's not because it's a monopoly, the demand 477 00:56:34.660 --> 00:56:40.900 for bread is, it is partially, the demand for bread is very, very inelastic, okay? 478 00:56:40.900 --> 00:56:45.860 That is to say, even at higher prices, okay, if it's all the bread we're talking 479 00:56:45.860 --> 00:56:49.660 about, all kinds of bread, even at higher prices, people will cut back much. However, 480 00:56:49.660 --> 00:56:58.660 However, if you have different brands of bread, then what you have is each particular seller, if they raise their price, they'll lose a lot of their customers to some other seller. 481 00:56:58.660 --> 00:57:11.660 So it's the fact that we have a lot of competing brands that keeps everybody's demand curve very elastic and allows them to cut their prices or it makes it more profitable for them to keep their prices low. 482 00:57:11.660 --> 00:57:17.660 I'll come back to that with some examples. 483 00:57:17.660 --> 00:57:24.060 The other thing I want to mention is the shapes of the demand curves in general. 484 00:57:24.060 --> 00:57:27.760 What is realistic and what is not realistic? 485 00:57:27.760 --> 00:57:33.380 First look at this particular demand curve. 486 00:57:33.380 --> 00:57:35.820 That is, it's a perfectly vertical demand curve. 487 00:57:35.820 --> 00:57:40.900 We call it perfectly inelastic because no matter how high you raise the price, will 488 00:57:40.900 --> 00:57:42.660 people change the amount they purchase? 489 00:57:42.660 --> 00:57:45.760 No, they're going to purchase the exact same amount. 490 00:57:45.760 --> 00:57:55.760 People often talk as if the demand for gasoline, the demand for various food items, the demand that people are addicted to, is perfectly inelastic. 491 00:57:55.760 --> 00:58:02.760 That's not true. If it was really perfectly inelastic, what that tells us is that as price goes up, people will never cut back. 492 00:58:02.760 --> 00:58:13.760 Even, let's say, let's take cigarettes, let's say cigarettes are $10,000 a pack, people would still, because that line goes up to infinity, people would still buy the same amount. 493 00:58:13.760 --> 00:58:22.760 It implies then that people would spend an infinite amount of income on buying the same amount of a good as the price rose. 494 00:58:22.760 --> 00:58:32.760 That does not exist. That's the extreme case. What that shows you is that the steeper the demand curve is, the less responsive people are. 495 00:58:32.760 --> 00:58:42.760 But in real action, people are always responsive. They're always willing to substitute something else for the good that's rising in price. 496 00:58:42.760 --> 00:58:49.760 Now, there may not be good substitutes around, as in the case of gasoline, so the demand might be very elastic. 497 00:58:49.760 --> 00:59:00.760 People cut back a little bit when there's a great percentage increase in price, but it's still very inelastic. 498 00:59:00.760 --> 00:59:11.760 Take the other extreme case in the corner here, bottom corner, where the demand curve is completely horizontal. 499 00:59:11.760 --> 00:59:25.760 In that particular case, supposedly, in economics textbooks, you'll find that being supposedly the case for a small wheat farmer in Iowa or wherever wheat is grown. 500 00:59:25.760 --> 00:59:38.760 What that tells us is the following, that this firm, let's say this farm, can sell as much wheat as it wants, which is such a small part of the market, at the same price of $4. 501 00:59:38.760 --> 00:59:43.440 $4 that is no matter how large they grow because again this is infinitely elastic 502 00:59:43.440 --> 00:59:49.920 okay if they try to charge $4.01 no one will buy that wheat okay why these are 503 00:59:49.920 --> 00:59:55.000 many many other farmers throughout the world selling me to $4 so they could go 504 00:59:55.000 --> 00:59:58.840 theoretically from selling an infinite amount at $4 to selling nothing that's 505 00:59:58.840 --> 01:00:05.320 highly elastic that's perfectly elastic okay what's important about real life 506 01:00:05.320 --> 01:00:16.820 The important objection or problem with this demand curve is that philosophically all demand curves must slope downward. 507 01:00:16.820 --> 01:00:25.320 That is, that farmer could get big enough as he continues to increase the quantity that his quantity produced will have an effect on the market price. 508 01:00:25.320 --> 01:00:27.320 We'll drive it down a little bit. 509 01:00:27.320 --> 01:00:33.840 And, in fact, I was making this argument once before in a lecture here. 510 01:00:33.840 --> 01:00:40.200 We had two farmers who had raised wheat in Texas. 511 01:00:40.200 --> 01:00:44.920 And they said, this is not even nearly true of wheat farming, 512 01:00:44.920 --> 01:00:55.560 because in a given area, when the silos begin to get full and someone increases the amount of wheat produced, 513 01:00:55.560 --> 01:01:03.460 One or two big farmers in the area, they will drive down the price by a penny or two per bushel of wheat. 514 01:01:03.460 --> 01:01:12.120 So this is absolutely not true, and this is the basis, by the way, of perfect competition models that you'll see in the textbooks. 515 01:01:12.120 --> 01:01:20.660 Again, what it does is it gives us an extreme case, but the flatter the demand curve is, the more responsive people are. 516 01:01:20.660 --> 01:01:26.960 So, if this farmer raises the price by one cent, even his mother won't buy from him, okay? 517 01:01:26.960 --> 01:01:32.360 He loses all, at four is one cent, there is zero purchase, okay? 518 01:01:32.360 --> 01:01:36.660 Now, let's look at a couple of other demand curves, very briefly here. 519 01:01:36.660 --> 01:01:50.560 The one here, that, see, economists, because it's easy in terms of mathematics to deal with what's called constant elasticity demand curves, 520 01:01:50.560 --> 01:02:01.060 That demand curve in the upper right-hand corner is an inelastic demand curve throughout its whole range. 521 01:02:01.060 --> 01:02:06.060 No demand curve can be that way, because that tells us that no matter where he is on this demand curve, 522 01:02:06.060 --> 01:02:09.060 he can always raise his price and gain more total revenue. 523 01:02:09.060 --> 01:02:16.560 So that implies infinity, that the higher the price is on this constantly inelastic demand curve, 524 01:02:16.560 --> 01:02:21.560 The higher the price is, the more income people will spend, up into infinity. 525 01:02:21.560 --> 01:02:27.560 They'll cut back on the amount they're buying, but not enough to reduce his total revenues. 526 01:02:27.560 --> 01:02:33.560 And then we have the opposite, which is kind of ridiculous, the one in the bottom left-hand corner there. 527 01:02:33.560 --> 01:02:38.560 Notice how flat that is. That has a constant elasticity that's greater than one. 528 01:02:38.560 --> 01:02:48.560 And that means that no matter how low the price is, as the price falls, people will spend more and more income on that good. 529 01:02:48.560 --> 01:02:59.560 That never reaches the zero price. It's going to continue, price is going to drop towards zero, and people at every lower price will buy more and more. 530 01:02:59.560 --> 01:03:06.560 So that they're going to spend, again, possibly an infinite amount of income on that. 531 01:03:06.560 --> 01:03:15.560 Okay, none of those demand curves, none of these, any of these demand curves are true representations of the demand curves in the real world, okay. 532 01:03:15.560 --> 01:03:21.160 In the real world, demand curves are downward sloping, they're discontinuous, they're jagged, okay. 533 01:03:21.160 --> 01:03:30.160 At any given point, people will spend a certain amount, okay, and as price falls, they'll spend greater than that amount, 534 01:03:30.160 --> 01:03:39.800 But eventually, even at a zero price, people, or rather, eventually, as you push the price down, people are going to start to spend less on it. 535 01:03:39.800 --> 01:03:43.720 And as you push the price up, people begin to spend less on it. 536 01:03:43.720 --> 01:03:51.520 Okay, so as you continue to push the price up, you're going to find that eventually the demand curve meets, has to meet the price axis. 537 01:03:51.520 --> 01:03:55.200 That is, the quantity demanded has to fall to zero, okay? 538 01:03:55.200 --> 01:04:02.480 So at $10,000 per pack of cigarettes, demand for cigarettes, quantity demand, it would fall to zero, okay? 539 01:04:02.480 --> 01:04:07.160 People would find substitutes and use substitutes, okay? 540 01:04:07.160 --> 01:04:14.080 Now I'm going to say a few words and then I'll give some examples about what causes the demand curve. 541 01:04:14.080 --> 01:04:16.560 This is what's really important. 542 01:04:16.560 --> 01:04:22.440 Not the shapes of the demand curves, but how changes in prices affect total revenue. 543 01:04:22.440 --> 01:04:28.440 That's what's really important, because that's what business decision makers are vitally interested in. 544 01:04:28.440 --> 01:04:37.440 They're also interested in the reasons that may exist for causing people to be more or less responsive to changes in prices. 545 01:04:37.440 --> 01:04:43.440 So let's talk about them. The first is the greater availability of close substitutes. 546 01:04:43.440 --> 01:04:49.440 The greater the availability of close substitutes, the more responsive demand is, or the more elastic demand is for given good. 547 01:04:49.440 --> 01:04:52.440 Let's take a simple example, step by step. 548 01:04:52.440 --> 01:04:55.440 Let's say you have Coca-Cola at the local Winn-Dixie. 549 01:04:55.440 --> 01:05:01.440 If they raise the price by 10% of Coca-Cola at the local Winn-Dixie, 550 01:05:01.440 --> 01:05:03.440 what's going to happen to their total revenue? 551 01:05:03.440 --> 01:05:06.440 It's going to decline because there are not only many other Winn-Dixies, 552 01:05:06.440 --> 01:05:10.440 there are many other outlets where Coca-Cola is sold. 553 01:05:10.440 --> 01:05:16.440 So that prevents them from raising their price very much, an individual seller. 554 01:05:16.440 --> 01:05:18.440 What about Coca-Cola in general? 555 01:05:18.440 --> 01:05:25.440 Coca-Cola in general. Well, if Coke raises its prices, so if the whole price of Coca-Cola goes up, there are still other brands. 556 01:05:25.440 --> 01:05:34.440 Not only are there other types of colas, but there's also other types of carbonated beverages, and there's other types of soft drinks that aren't carbonated. 557 01:05:34.440 --> 01:05:43.440 So we have a wide range of substitutes to choose from. Once again, it's very difficult, even for Coca-Cola, as big as it is, to raise the price of its brand. 558 01:05:43.440 --> 01:05:47.440 They can do so, they're going to lose a lot of customers, right? 559 01:05:47.440 --> 01:05:51.440 And then, of course, what if all carbonated soft drinks were raised? 560 01:05:51.440 --> 01:05:57.440 Well, then the demand curve becomes more inelastic, that is, people are less responsive. 561 01:05:57.440 --> 01:06:05.440 People will shift to other soft drinks, but more and more people will pay the higher prices. 562 01:06:05.440 --> 01:06:12.440 So the demand curve becomes less elastic, meaning that that higher price for all carbonated beverages 563 01:06:12.440 --> 01:06:17.640 beverages will result in higher total revenue, or may result in higher total revenue. 564 01:06:17.640 --> 01:06:27.840 And then finally, let's say that all drinks that are soft drinks rise in price. 565 01:06:27.840 --> 01:06:33.040 That's almost like the price of gasoline going up in a sense that there are not good alternatives. 566 01:06:33.040 --> 01:06:35.840 There's alcoholic beverages and there's water. 567 01:06:35.840 --> 01:06:38.840 So that demand curve is going to be more inelastic. 568 01:06:38.840 --> 01:06:45.240 So if you had a monopoly of all soft drinks in the United States given a Coca-Cola, 569 01:06:45.240 --> 01:06:48.340 do you think we'd be paying $1 a can or $1.50 a can? 570 01:06:48.340 --> 01:06:55.640 No, we'd be paying $5, $10, because the demand curve for all soft drinks is very inelastic. 571 01:06:55.640 --> 01:07:00.740 So the lesson is, that is, there's not good available substitutes. 572 01:07:00.740 --> 01:07:09.140 You have coffee, tea, milk, and you have water, and that's about it, okay, and alcoholic beverages, all right. 573 01:07:09.140 --> 01:07:13.740 You can't turn, as in the case of just one Winn-Dixie raising the price of Coca-Cola, 574 01:07:13.740 --> 01:07:27.600 where there are thousands and thousands of available substitutes in terms of location, brand, type of carbonated beverage, and so on, okay. 575 01:07:27.600 --> 01:07:33.920 The same thing, you go through that experiment with one model of car, the Ford Taurus, just that price rose. 576 01:07:33.920 --> 01:07:39.800 Well, people have a lot of available substitutes. It's very difficult to raise the price very much for one brand. 577 01:07:39.800 --> 01:07:47.600 But if Ford raised the price of all models, then it would be a little bit narrower, the range of substitutes. 578 01:07:47.600 --> 01:07:55.640 If all U.S. automakers raise their, let's say all unions went on strike, union of auto workers, United Auto Workers went on strike, 579 01:07:55.640 --> 01:08:03.840 In that case, then, the price of all U.S. cars would go up, then your only alternative would be what? Imports. 580 01:08:03.840 --> 01:08:10.240 In fact, there's a very interesting case study of this. 581 01:08:10.240 --> 01:08:22.740 In 1981, as I said, the crisis was on the verge of bankruptcy, and the auto companies went to the Reagan administration 582 01:08:22.740 --> 01:08:27.420 and requested that they negotiate what's called a VER, 583 01:08:27.420 --> 01:08:30.660 which is a voluntary export restraint, quote unquote, 584 01:08:30.660 --> 01:08:31.700 with the Japanese government. 585 01:08:31.700 --> 01:08:33.700 Basically what the Reagan administration said is, 586 01:08:33.700 --> 01:08:38.740 look, if you don't limit the number of exports to the U.S., 587 01:08:38.740 --> 01:08:42.700 Congress is going to pass a quota that's going to limit them even more 588 01:08:42.700 --> 01:08:44.340 than if you do it voluntarily. 589 01:08:44.340 --> 01:08:47.740 So the Reagan administration blackmailed the Japanese government. 590 01:08:47.740 --> 01:08:59.740 So, instead of 2 million units, automobiles being sold in the U.S. every year, as had been the case, the limit was put at 1.65 million units. 591 01:08:59.740 --> 01:09:10.040 Now, what's interesting is, what happened to the, what do you think happened to the price of automobiles in the U.S.? 592 01:09:10.040 --> 01:09:14.440 Well, they went up. In fact, the price of imported Japanese cars went up. 593 01:09:14.440 --> 01:09:24.240 So we set up a cartel. After condemning OPEC for setting up a cartel of oil, which squeezed the amount of oil sold to the West, 594 01:09:24.240 --> 01:09:29.440 we, on our own, set up an automobile cartel between the Japanese producers and our producers. 595 01:09:29.440 --> 01:09:35.240 So the Japanese producers had to, by law, limit, or by their government's edict, to limit the amount of automobiles exported. 596 01:09:35.240 --> 01:09:42.840 And as a result, the price went up. So Japanese automobiles increased in price by about $2,500. 597 01:09:42.840 --> 01:09:50.440 In 1984-85, there was $2,500 higher price than there had been. 598 01:09:52.000 --> 01:09:58.680 So the U.S. producers were now able to raise their price using that higher price as an umbrella. 599 01:09:58.680 --> 01:10:03.360 And so U.S. automobiles went up by about $1,500. 600 01:10:03.360 --> 01:10:09.200 Part of the increase in the price of the Japanese automobiles was due to the fact that 601 01:10:09.200 --> 01:10:15.560 Since they were limiting the number that they could send, they began to send their top-of-the-line products to the U.S. 602 01:10:15.560 --> 01:10:18.920 So part of it was the fact that they were selling more expensive automobiles. 603 01:10:18.920 --> 01:10:31.720 But so U.S. consumers then had to pay a total of, I think the figure was 25 billion dollars more in 1984 and 1985 604 01:10:31.720 --> 01:10:39.120 than they would have had to pay if the government hadn't intervened and restricted the number of Japanese automobiles. 605 01:10:39.120 --> 01:10:44.320 and about 10 billion of that went to the Japanese, 606 01:10:44.320 --> 01:10:47.620 because they were selling their cars at higher prices. 607 01:10:47.620 --> 01:10:51.220 Now in terms of supply and demand and the elasticity of demand rather, 608 01:10:51.220 --> 01:10:56.820 here's what we got. Here's a simple example. 609 01:10:56.820 --> 01:11:00.920 Let's say the U.S. automakers are currently selling at $10,000 610 01:11:00.920 --> 01:11:03.620 and let's take Ford Taurus as an example. 611 01:11:03.620 --> 01:11:06.720 They're selling 100,000 units per year at $10,000. 612 01:11:06.720 --> 01:11:15.720 Now, they're losing money, as many automobiles, auto producers were doing, US auto producers, in the early 80s. 613 01:11:15.720 --> 01:11:24.720 With free trade, if they tried to raise their price, let's say, from $10,000 to current price of $12,000, 614 01:11:24.720 --> 01:11:30.720 just look at the flatter demand curve, D1. Since there's available substitutes, that is foreign cars, 615 01:11:30.720 --> 01:11:36.720 What would happen is that, in this case, the way I've drawn it, Americans would cut back by 60,000 models. 616 01:11:36.720 --> 01:11:43.720 Quantity demand would shrink tremendously. Their total revenue would fall and it wouldn't be worth their while to do so. 617 01:11:43.720 --> 01:11:49.720 What they would do then would be to leave the price of $10,000. 618 01:11:49.720 --> 01:11:58.720 On the other hand, once the government steps in and limits through voluntary export restraints the amount of imports from Japan, 619 01:11:58.720 --> 01:12:05.720 In that price range, Japanese cars go up in price, in that price range the alternatives are much smaller. 620 01:12:05.720 --> 01:12:10.720 You cannot now turn to the cheaper Japanese cars or the equally priced Japanese cars. 621 01:12:10.720 --> 01:12:12.720 Their prices have shot up. 622 01:12:12.720 --> 01:12:18.720 So now the government has coercively changed the shape of the demand curve from D1 to D2. 623 01:12:18.720 --> 01:12:19.720 Now notice what happens. 624 01:12:19.720 --> 01:12:26.720 Because people cannot substitute these cheaper Japanese cars, because they've gone up in price for the American car, 625 01:12:26.720 --> 01:12:44.720 What happens is that people only cut back from 10,000 to 95,000, or 100,000 to 95,000 units per month, and therefore it is worth the while of, and I'll show you with numbers, worth the while of the U.S. producers, in this case Ford, to raise the price. 626 01:12:44.720 --> 01:12:53.720 So if you look, when Ford is selling at 10,000 dollars, it's selling 100,000 units, its total revenue is 10,000 times 100,000 or 1 billion dollars. 627 01:12:53.720 --> 01:13:08.720 Now, if they were to raise the price of $12,000 on that first demand curve, without any VER, they are selling at a higher price, but they've lost 60% of their sales, so what happens? 628 01:13:08.720 --> 01:13:16.720 Their total revenue falls from $1 billion to $480 million. It's not worth for them to raise their price. 629 01:13:16.720 --> 01:13:21.720 However, if the government steps in and limits the range of alternatives, 630 01:13:21.720 --> 01:13:31.720 limits the available substitutes from abroad, then notice total revenue with the VER would be $12,000 a higher price, 631 01:13:31.720 --> 01:13:37.720 but now they're only losing about 5% of their sales because Americans really can't substitute the cheaper foreign product, 632 01:13:37.720 --> 01:13:45.720 because their prices have gone up. Now what happens to their total revenue? It goes up to $1.14 billion. 633 01:13:45.720 --> 01:13:58.720 And in fact, that's exactly what happened. We had higher prices in the U.S. from 1981 to 1985 of both foreign imports and U.S.-made products. 634 01:13:58.720 --> 01:14:04.720 So that's an example, as we'll see later on, of monopoly. 635 01:14:04.720 --> 01:14:09.720 And remember Lee Iacocca, who supposedly saved or turned around Chrysler? 636 01:14:09.720 --> 01:14:13.720 In fact, Lee Iacocca was one of the biggest lobbyists for getting this VER in place. 637 01:14:13.720 --> 01:14:22.720 The higher prices that were caused by this monopolistic privilege, restricting free trade, was what caused the turnaround in Chrysler. 638 01:14:22.720 --> 01:14:28.720 People then looked back and said, look, the government bailed out Chrysler and it stayed in business and it thrived. 639 01:14:28.720 --> 01:14:38.720 In fact, it would not have thrived had it not been for this government, in effect, subsidy from consumers to these firms. 640 01:14:38.720 --> 01:14:48.720 Okay. There's a few other, let me just give you one or two case studies that I brought here on why elasticity is important. 641 01:14:48.720 --> 01:14:54.720 I have it here. 642 01:14:54.720 --> 01:15:02.720 And then I'll take questions. 643 01:15:02.720 --> 01:15:18.720 Here's an interesting case. In Macon, Georgia, there used to be a Macon, or at least when this book was written back in the 90s, there was a Macon Labor Day road race, which was a 5 kilometer and 10 kilometer running event. 644 01:15:18.720 --> 01:15:31.720 It was held annually in Macon, Georgia. The entry for the race in 1990 was $12 per runner. The fee was raised to $20 per runner for the 1991 race because they wanted to increase the revenues for charity. 645 01:15:31.720 --> 01:15:46.720 So they raised it by about 67% from $12 to $20. Prior to the race, there were complaints that the fee was too high for that kind of race and that it precluded many families from being able to afford entry fees. 646 01:15:46.720 --> 01:16:00.720 The newspaper learned a lesson in price elasticity for running events from this experience. In 1990, the road race attracted 1,600 runners and thus times $12 generated an income of almost $20,000. 647 01:16:00.720 --> 01:16:08.720 $18,000, $19,200. Guess what happened in 1992, or in 1991, after they raised the price. 648 01:16:08.720 --> 01:16:13.720 Under similar weather conditions, the race attracted only $900, so people from $1,600 649 01:16:13.720 --> 01:16:19.720 was cut back to $900. Times the higher price of $20, that only gave $18,000. 650 01:16:19.720 --> 01:16:24.720 So they lost total revenue at the higher price, because the demand was very, very high. 651 01:16:24.720 --> 01:16:28.720 People had a lot of alternatives to running a road race that day. They could have stayed home and done yard work, 652 01:16:28.720 --> 01:16:35.280 television, taking their families to the beach, whatever it was, okay. 653 01:16:35.280 --> 01:16:38.960 Another good example has to do with government taxes. 654 01:16:38.960 --> 01:16:47.040 When government taxes things, these so-called, what's the name, 655 01:16:47.040 --> 01:16:53.040 taxes on things that are immoral or sin taxes, yes. 656 01:16:53.040 --> 01:16:57.720 When they put, they call them sin taxes, but really they're inelastic taxes. 657 01:16:57.720 --> 01:17:02.760 There are taxes on goods that are inelastic, because things like cigarettes and alcohol, 658 01:17:02.760 --> 01:17:06.440 if you tax all brands of alcohol and all brands of cigarettes, 659 01:17:06.440 --> 01:17:09.400 the demand for those things are very, very inelastic. 660 01:17:09.400 --> 01:17:17.880 So what happens is that by pushing the price up, the government gets a higher and higher tax revenue. 661 01:17:17.880 --> 01:17:19.480 However, that's not true of everything. 662 01:17:19.480 --> 01:17:36.600 In 1990, the Congress put a luxury tax on both boats, yachts, airplanes, and maybe fur coats, over $100,000. 663 01:17:36.600 --> 01:17:43.680 I think it was a 15% tax. It's pretty high. Here it is. 664 01:17:43.680 --> 01:17:47.120 A 10% tax is added to the cost of luxury yachts. 665 01:17:47.120 --> 01:17:53.320 And I think it was also high-end automobiles like Ferraris and so on that came under this tax. 666 01:17:53.320 --> 01:17:58.600 Since the yacht today, when this was written in 1990, since the yacht today costs anywhere from $100,000 to $200,000, 667 01:17:58.600 --> 01:18:05.960 this means at least $10,000 had to be paid to the government before a potential buyer could get his first whiff of the salt air, as they say here. 668 01:18:05.960 --> 01:18:11.600 With the economy already heading for trouble, this was the proverbial straw that broke the camel's back. 669 01:18:11.600 --> 01:18:18.000 Ocean Yachts in Weekstown trimmed its workforce from 350 to 50. 670 01:18:18.000 --> 01:18:22.600 Egg Harbor Yachts, and this is all New Jersey, it's a big yacht industry in New Jersey where I live. 671 01:18:22.600 --> 01:18:27.600 Egg Harbor Yachts entered Chapter 11 bankruptcy, going from 200 employees to five. 672 01:18:27.600 --> 01:18:33.700 Viking Yachts dropped from 1,400 to 300 employees. 673 01:18:33.700 --> 01:18:38.200 The boat industry nationwide lost 7,600 employees. 674 01:18:38.200 --> 01:18:47.400 So, almost the entire, I think there was only like five yachts built in New Jersey that year compared to hundreds that had been built the summer before. 675 01:18:47.400 --> 01:18:52.400 Why is that? Well, in the case of a luxury good, it's highly elastic. 676 01:18:52.400 --> 01:19:00.400 People can shift to other ways, especially wealthy people at buyouts, can shift to other ways of spending their money. 677 01:19:00.400 --> 01:19:03.500 So, the government repealed that very quickly. It almost destroyed the industry. 678 01:19:03.500 --> 01:19:08.940 The key point to keep in mind is that the government is always aiming at taxing things, 679 01:19:08.940 --> 01:19:13.180 not because they're immoral or because they're harmful to health. 680 01:19:13.180 --> 01:19:17.940 Maybe that might be part of it, but their prime consideration is to tax something 681 01:19:17.940 --> 01:19:23.660 that people cannot substitute out of so that they spend more money on it. 682 01:19:23.660 --> 01:19:27.740 That's why they pick liquor and that's why they pick cigarettes and gasoline. 683 01:19:27.740 --> 01:19:29.940 What's so sinful about gasoline, right? 684 01:19:29.940 --> 01:19:32.460 Why do they tax gasoline at such a high rate? 685 01:19:32.460 --> 01:19:38.460 Because it's inelastic. They're doing what OPEC was trying to do. 686 01:19:40.460 --> 01:19:47.460 Back in the 18th century or so, and maybe a little later than that, 687 01:19:47.460 --> 01:19:54.460 the kings in Europe and Great Britain used to tax matches and salt. 688 01:19:54.460 --> 01:19:59.460 Why? Well, because there was a match monopoly and a salt monopoly. 689 01:19:59.460 --> 01:20:05.140 ...tax those things at very high rates to earn revenue for the treasury, because people could... 690 01:20:05.140 --> 01:20:09.460 ...salt was the only way to preserve meats back then. There was no refrigeration, obviously, okay? 691 01:20:09.460 --> 01:20:19.300 And matches were, you know, a very convenient and only way of creating fire, unless you wanted to, you know, rub sticks together and so on. 692 01:20:19.300 --> 01:20:25.900 So, in any case, governments are always looking to tax inelastic products. 693 01:20:25.900 --> 01:20:31.500 We'll have a few other case studies, but I see it's a little bit late, so I'll take some questions. 694 01:20:31.500 --> 01:20:34.000 Questions, comments? 695 01:20:34.000 --> 01:20:41.700 Well, just so the young people in here will know, the least suitable way to wear your slides a little back in the 60s was in a leather holster swimming. 696 01:20:41.700 --> 01:20:43.700 That's funny, yeah, I know that's... 697 01:20:43.700 --> 01:20:49.700 I'm not even as religious as a hollow church, you know, we have that. 698 01:20:49.700 --> 01:20:50.700 I like that. 699 01:20:50.700 --> 01:20:56.700 The book satchel didn't have you if you had these books in the satchel, but a backpack I guess you had beaten up. 700 01:20:56.700 --> 01:21:00.700 Yeah, no one wore a backpack back in the 60s, absolutely not. 701 01:21:00.700 --> 01:21:01.700 Yes? 702 01:21:01.700 --> 01:21:07.700 You said that all demand curves hold to the right, but it seems that there are some significant exceptions, 703 01:21:07.700 --> 01:21:14.700 Go ahead. 704 01:21:37.700 --> 01:22:06.100 The question is, what about goods in which there seems to be a positive correlation between their price and the quantity demanded? 705 01:22:06.100 --> 01:22:18.100 That is things like a fine art in which the higher the price, the more desirable the good becomes and the more of it, or the greater demand, let's say, for it, or the greater quantity demanded. 706 01:22:18.100 --> 01:22:26.100 Well, in fact, I think someone who follows a causal realist approach would say the key is the intermediary step. 707 01:22:26.100 --> 01:22:41.100 is people's reaction or people's view of the piece of art is changed when they feel that for whatever reason, it could be a change in price. 708 01:22:41.100 --> 01:22:45.100 For whatever reason, it is something that has a higher quality. 709 01:22:45.100 --> 01:22:54.100 And that might be the case when people go into some stores and they avoid the cheapest type of the product and try to get an intermediate price product. 710 01:22:54.100 --> 01:22:57.600 What they're doing is they're using price as a proxy for quality. 711 01:22:57.600 --> 01:23:03.100 So in their eyes, subjectively, quality is going up as a result of the higher price. 712 01:23:03.100 --> 01:23:07.100 So we would say that the demand curve is actually shifting out to the right. 713 01:23:07.100 --> 01:23:10.600 We wouldn't say that the demand curve is upward sloping to the right. 714 01:23:10.600 --> 01:23:12.100 We're just saying it's shifted. 715 01:23:12.100 --> 01:23:19.100 That is, von Mises used the example of a restaurant that serves the same type of food, 716 01:23:19.100 --> 01:23:31.400 But, yet, it's in the same location, let's say, there's one across the street from the other, and so, and let's say their staff is equally competent and so on. 717 01:23:31.400 --> 01:23:38.700 But one has more intimate lighting and so on, and also they sweep the floor, and the other doesn't. 718 01:23:38.700 --> 01:23:46.300 Well, the key here is that there are other dimensions of the physical product that factor into your demand for the good, okay? 719 01:23:46.300 --> 01:23:50.000 And one of the dimensions may very well be price. 720 01:23:50.000 --> 01:23:53.200 That is, there are many dimensions that affect your perception of quality. 721 01:23:53.200 --> 01:23:57.000 Actually, it's really a package. An entrepreneur sells a package. 722 01:23:57.000 --> 01:24:02.600 The good is the meal within a certain ambiance and a certain location at the restaurant. 723 01:24:02.600 --> 01:24:11.000 The same thing is true with art in the sense that once people think that there's prestige attached to this particular item 724 01:24:11.000 --> 01:24:22.000 or Group of Items of Art because of the higher price, there's an increase in demand for it, but of course it can't go on forever, that relationship, because it would absorb all the income in the world. 725 01:24:22.000 --> 01:24:32.000 It's better to look on it as a downward sloping demand curve which is shifting out, as people's perception of its quality change. Yes, Matt. 726 01:24:32.000 --> 01:25:01.000 I was trying to listen closely to what you were saying. You were defining the precondition of voluntary exchange, and you made the point that both parties don't have to value the goods exchanged equally in a one-to-one relationship, but in fact there's a double inequality of value where, well, as I guess, so as I understand, it's not a one-to-one relationship, it's a double inequality of value. 727 01:25:01.000 --> 01:25:14.000 What I was thinking is, what is being described, a measurement, a value, based on a social relationship, as opposed to just the goods themselves? 728 01:25:14.000 --> 01:25:24.000 And why that would be important again for thinking about the political implications of economics? 729 01:25:24.000 --> 01:25:33.200 okay the question is what in the case of voluntary exchange one of the 730 01:25:33.200 --> 01:25:36.720 preconditions is a double inequality of value that is both parties valuing 731 01:25:36.720 --> 01:25:40.800 things differently now what is the implications of that versus the 732 01:25:40.800 --> 01:25:44.480 implications social implications of that and implications for political economy 733 01:25:44.480 --> 01:25:50.720 versus sort of an equality of value being assumed between the two items 734 01:25:54.000 --> 01:26:01.000 So, doesn't it have something to do with the culture or the social relationship between people? 735 01:26:24.000 --> 01:26:30.240 It's a relationship between his own mind and the items that are to be valued. 736 01:26:30.240 --> 01:26:32.280 And each person does it individually. 737 01:26:32.280 --> 01:26:38.000 Socially, it's expressed in the exchange ratios or the prices. 738 01:26:38.000 --> 01:26:45.200 The point about value of two items being equal, 739 01:26:45.200 --> 01:26:49.960 I think, is sort of a hangover from maybe from Aristotle, 740 01:26:49.960 --> 01:26:56.440 that somehow, when things are exchanged, they must somehow be equal in value. 741 01:26:56.440 --> 01:27:00.000 There's some equality expressed in that. 742 01:27:00.000 --> 01:27:05.080 And I think one of the most important contributions of the marginal revolution 743 01:27:05.080 --> 01:27:12.120 is that that's really not true in any sense, on an individual level or on a social level. 744 01:27:12.120 --> 01:27:17.680 That is, prices are expressed in money. 745 01:27:17.680 --> 01:27:20.160 they don't measure the value of anything 746 01:27:20.160 --> 01:27:24.040 okay money is another form of commodity or another type of commodity that it's 747 01:27:24.040 --> 01:27:26.360 exchanged 748 01:27:26.360 --> 01:27:28.200 universally among people 749 01:27:28.200 --> 01:27:34.800 for other items that that they they desire to use 750 01:27:34.800 --> 01:27:54.800 I'm a little disappointed in Reid's article, I Pencil, I think he did a half excellent job, the other half being how the price system ties all of this together, it's a nervous system just like in our body and so on. 751 01:27:54.800 --> 01:28:10.300 The comment is that in letter-read article I, pencil, it's not informed with enough references to the price system and how the price system ties all of these activities involved in producing a pencil, how it ties it together. 752 01:28:10.300 --> 01:28:17.000 I just think what he was sort of assuming that without any government intervention, the price system was there in the background operating, 753 01:28:17.000 --> 01:28:26.800 And he was showing that you didn't need centralized knowledge to bring about the production of this very, very complex, or at least in a way that's produced, complex good, okay? 754 01:28:26.800 --> 01:28:31.000 The good itself is simple, but it's produced most cheaply in a complex way. 755 01:28:31.000 --> 01:28:39.300 You could produce it probably very simply, okay, or much more simply, but yet it wouldn't be as economical. 756 01:28:39.300 --> 01:28:45.800 The price system tells us, as we'll see, through monetary calculation, that that is the cheapest way to produce it. 757 01:28:45.800 --> 01:28:52.800 Okay, thank you.