WEBVTT NOTE 2.10. Specialization and Production of Stock 1 00:00:00.000 --> 00:00:05.000 10. Specialization and Production of Stock 2 00:00:05.000 --> 00:00:13.000 We have analyzed the exchanges that take place in existing stock and the effect of changes in the stock of a good. 3 00:00:13.000 --> 00:00:20.000 The question still remains on what principles is the size of the stock itself determined? 4 00:00:20.000 --> 00:00:25.000 Aside from the consumers' or producers' goods given directly by nature, 5 00:00:25.000 --> 00:00:39.000 All goods must be produced by man, and even seemingly nature-given products must be searched for and then used by man, and hence are ultimately products of human effort. 6 00:00:39.000 --> 00:00:47.000 The size of the stock of any good depends on the rate at which the good has been and is being produced. 7 00:00:47.000 --> 00:01:06.000 An analysis of the rate of production and its determinants is thus of central importance in an analysis of human action. 8 00:01:06.000 --> 00:01:15.000 A complete answer to this problem cannot be given at this point, but certain general conclusions on production can be made. 9 00:01:15.000 --> 00:01:29.000 In the first place, while any one individual can, at different times, be both a buyer and a seller of existing stock, in the production of that stock, there must be specialization. 10 00:01:29.000 --> 00:01:41.000 This omnipresence of specialization has been treated above, and the further an exchange economy develops, the further advanced will be the specialization process. 11 00:01:41.000 --> 00:01:48.060 The basis for specialization has been shown to be the varying abilities of men and the 12 00:01:48.060 --> 00:01:51.680 varying location of natural resources. 13 00:01:51.680 --> 00:01:58.160 The result is that a good comes first into existence by production and then is sold by 14 00:01:58.160 --> 00:02:04.840 its producer in exchange for some other good, which has been produced in the same way. 15 00:02:04.840 --> 00:02:12.200 The initial sales of any new stock will all be made by original producers of the good. 16 00:02:12.200 --> 00:02:17.720 Purchases will be made by buyers who will use the good either for their direct use or 17 00:02:17.720 --> 00:02:24.840 for holding the good in speculative anticipation of later reselling it at a higher price. 18 00:02:24.840 --> 00:02:31.200 At any given time, therefore, new stock will be sold by its original producers. 19 00:02:31.200 --> 00:02:39.280 The old stock will be sold by A. Original producers who through past reservation demand had accumulated 20 00:02:39.280 --> 00:02:44.420 old stock B. Previous buyers who had bought in speculative 21 00:02:44.420 --> 00:02:52.240 anticipation of reselling at a higher price and C. Previous buyers on whose value scales 22 00:02:52.240 --> 00:02:58.320 the relative utility of the good for their direct use has fallen. 23 00:02:58.320 --> 00:03:05.040 At any time, then, the market's supply schedule is formed by the addition of the supply schedules 24 00:03:05.040 --> 00:03:07.760 of the following groups of sellers. 25 00:03:07.760 --> 00:03:08.760 a. 26 00:03:08.760 --> 00:03:13.140 the supply offered by producers of the good 1. 27 00:03:13.140 --> 00:03:16.560 the initial supply of new stock 2. 28 00:03:16.560 --> 00:03:20.880 the supply of old stock previously reserved by the producers 29 00:03:20.880 --> 00:03:26.320 b. the supply of old stock offered by previous buyers 30 00:03:26.320 --> 00:03:33.320 1. Sales by speculative buyers who had anticipated reselling at a higher price. 31 00:03:33.320 --> 00:03:43.320 2. Sales by buyers who had purchased for direct use, but on whose value scales the relative utility of the good has fallen. 32 00:03:43.320 --> 00:03:50.320 The market demand schedule at any time consists of the sum of the demand schedules of 33 00:03:50.320 --> 00:03:59.320 c. buyers for direct use, and d. speculative buyers for resale at a higher price. 34 00:03:59.320 --> 00:04:06.320 Since the good consists of equally serviceable units, the buyers are necessarily indifferent 35 00:04:06.320 --> 00:04:10.320 as to whether it is old or new stock that they are purchasing. 36 00:04:10.320 --> 00:04:18.320 If they are not, then the stock refers to two different goods and not the same good. 37 00:04:18.320 --> 00:04:24.320 The supply of the Class B type of sellers has already been fully analyzed earlier. 38 00:04:24.320 --> 00:04:31.320 For example, the relationship between stock and reservation demand for speculative resellers 39 00:04:31.320 --> 00:04:35.320 and for those whose utility position has changed. 40 00:04:35.320 --> 00:04:45.320 What more can be said, however, of the supply schedule of the Class A sellers, the original producers of the good? 41 00:04:45.320 --> 00:04:55.320 In the first place, the stock of newly produced goods in the hands of the producers is also fixed for any given point in time. 42 00:04:55.320 --> 00:05:03.320 Say that for the month of December the producers of copper decide to produce 5,000 tons of copper. 43 00:05:03.320 --> 00:05:09.320 At the end of that month, their stock of newly produced copper is 5,000 tons. 44 00:05:09.320 --> 00:05:14.320 They might regret their decision and believe that if they could have made it again, 45 00:05:14.320 --> 00:05:22.320 they would have produced, say, 1,000 tons, but they have their stock and they must use it as best they can. 46 00:05:22.320 --> 00:05:29.320 The distinguishing feature of the original producers is that, as a result of specialization, 47 00:05:29.320 --> 00:05:35.960 The direct use value of their product to them is likely to be almost non-existent. 48 00:05:35.960 --> 00:05:42.720 The further specialization proceeds, the less possible use value the product can have for 49 00:05:42.720 --> 00:05:43.720 its producer. 50 00:05:43.720 --> 00:05:50.720 Picture, for example, how much copper a copper manufacturer could consume in his personal 51 00:05:50.720 --> 00:05:58.040 use or the direct use value of the huge number of produced automobiles to the Ford family. 52 00:05:58.040 --> 00:06:07.040 Therefore, in the supply schedule of the producers, the direct use element in their reservation demand disappears. 53 00:06:07.040 --> 00:06:20.040 The only reason for a producer to reserve, to hold on to any of his stock, is speculative, in anticipation of a higher price for the good in the future. 54 00:06:20.040 --> 00:06:30.740 In direct exchange, there is also the possibility of exchange for a third good, say cows instead of fish, in our example. 55 00:06:30.740 --> 00:06:40.540 The removal of direct use value from the calculation of the sellers signifies that all the stock must eventually be sold, 56 00:06:40.540 --> 00:06:46.840 so that ultimately none of the stock can be reserved from sale by the producers. 57 00:06:46.840 --> 00:06:55.340 The producers will make their sales at that point at which they expect the market price to be the greatest that they can attain. 58 00:06:55.340 --> 00:07:02.140 That is, at the time when the market demand for the given stock is expected to be the greatest. 59 00:07:02.140 --> 00:07:08.640 Strictly, of course, costs of storage will have to be considered in their calculations. 60 00:07:08.640 --> 00:07:16.740 The length of time that producers can reserve supply is, of course, dependent on the durability of the good. 61 00:07:16.740 --> 00:07:22.740 A highly perishable good like strawberries, for example, could not be reserved for long. 62 00:07:22.740 --> 00:07:28.740 Suppose that an equilibrium price for a good has been reached on the market. 63 00:07:28.740 --> 00:07:34.740 In this case, the speculative element of reservation demand drops out. 64 00:07:34.740 --> 00:07:43.740 However, in contrast to the market in re-exchange of existing stock, the market for new production does not end. 65 00:07:43.740 --> 00:08:03.740 Since wants are always being renewed in each successive period of time, new stock will also be produced in each period, and if the amount of stock is the same and the demand schedule given, the same amount will continue to be sold at the same equilibrium price. 66 00:08:03.740 --> 00:08:10.860 Thus, suppose that the copper producers produce 5,000 tons in a month. 67 00:08:10.860 --> 00:08:16.260 These are sold, no reservation demand, at the equilibrium price. 68 00:08:16.260 --> 00:08:23.440 The following month, if 5,000 tons are produced, the equilibrium price will be the same. 69 00:08:23.440 --> 00:08:28.020 If more is produced, then the equilibrium price is lower. 70 00:08:28.020 --> 00:08:32.340 If less, the equilibrium price will be higher. 71 00:08:32.340 --> 00:08:38.140 If the speculative elements are also excluded from the demand schedule, it is clear that 72 00:08:38.140 --> 00:08:44.940 this schedule will be determined solely by the utility of the good in direct use, as 73 00:08:44.940 --> 00:08:48.900 compared with the utility of the sale good. 74 00:08:48.900 --> 00:08:55.300 The only two elements in the value of a good are its direct use value and its exchange 75 00:08:55.300 --> 00:09:06.300 and the demand schedule consists of demand for direct use plus the speculative demand in anticipation of reselling at a higher price. 76 00:09:06.300 --> 00:09:18.300 If we exclude the latter element, for example, at the equilibrium price, the only ultimate source of demand is the direct use value of the good to the purchaser. 77 00:09:18.300 --> 00:09:19.300 The Purchaser 78 00:09:19.300 --> 00:09:25.700 If we abstract from the speculative elements in a market, therefore, the sole determinant 79 00:09:25.700 --> 00:09:33.780 of the market price of the stock of a good is its relative direct use value to its purchasers. 80 00:09:33.780 --> 00:09:39.620 It is clear, as has been shown in previous sections, that production must take place 81 00:09:39.620 --> 00:09:41.920 over a period of time. 82 00:09:41.920 --> 00:09:47.700 To obtain a certain amount of new stock at some future date, the producer must first 83 00:09:47.700 --> 00:10:02.700 must put into effect a series of acts, using labor, nature and capital goods, and the process must take time from the initial and intermediary acts until the final stock is produced. 84 00:10:02.700 --> 00:10:11.700 Therefore, the essence of specialized production is anticipation of the future state of the market by the producers. 85 00:10:11.700 --> 00:10:26.700 In deciding whether or not to produce a certain quantity of stock by a future date, the producer must use his judgment in estimating the market price at which he will be able to sell his stock. 86 00:10:26.700 --> 00:10:35.700 This market price is likely to be at some equilibrium, but an equilibrium is not likely to last for more than a short time. 87 00:10:35.700 --> 00:10:45.700 This is especially true when, as a result of ever-changing value scales, the demand curve for the good continually shifts. 88 00:10:45.700 --> 00:11:00.700 Each producer tries to use his resources, his labor and useful goods, in such a way as to obtain, in the production of stock, the maximum psychic revenue, and hence, a psychic profit. 89 00:11:00.700 --> 00:11:08.200 He is ever liable to error, and errors in anticipating the market will bring him a psychic loss. 90 00:11:08.200 --> 00:11:13.700 The essence of production for the market, therefore, is entrepreneurship. 91 00:11:13.700 --> 00:11:20.700 The key consideration is that the demand schedules, and consequently the future prices, 92 00:11:20.700 --> 00:11:27.700 are not and can never be definitely and automatically known to the producers. 93 00:11:27.700 --> 00:11:41.100 Entrepreneurship is also the dominant characteristic of buyers and sellers who act speculatively, 94 00:11:41.100 --> 00:11:46.980 who specialize in anticipating higher or lower prices in the future. 95 00:11:46.980 --> 00:11:53.480 Their entire action consists in attempts to anticipate future market prices, and their 96 00:11:53.480 --> 00:11:59.160 Their success depends on how accurate or erroneous their forecasts are. 97 00:11:59.160 --> 00:12:06.320 Since, as was seen earlier, correct speculation quickens the movement toward equilibrium and 98 00:12:06.320 --> 00:12:13.020 erroneous speculation tends to correct itself, the activity of these speculators tends to 99 00:12:13.020 --> 00:12:17.640 hasten the arrival of an equilibrium position. 100 00:12:17.640 --> 00:12:24.600 The direct users of a good must also anticipate their desires for a good when they purchase 101 00:12:24.600 --> 00:12:25.740 it. 102 00:12:25.740 --> 00:12:31.600 At the time of purchase, their actual use of a good will be at some date in the future, 103 00:12:31.600 --> 00:12:34.100 even if in the very near future. 104 00:12:34.100 --> 00:12:40.600 The position of the good on their value scales is an estimate of its expected future value 105 00:12:40.600 --> 00:12:45.320 in these periods, discounted by time preferences. 106 00:12:45.320 --> 00:12:50.460 It is very possible for the buyer to make an erroneous forecast of the value of the 107 00:12:50.460 --> 00:12:56.960 good to him in the future, and the more durable the good, the greater the likelihood of error. 108 00:12:56.960 --> 00:13:02.960 Thus, it is more likely that the buyer of a house will be in error in forecasting his 109 00:13:02.960 --> 00:13:07.120 own future valuation than the buyer of strawberries. 110 00:13:07.120 --> 00:13:15.120 Hence, entrepreneurship is also a feature of the buyer's activity, even in direct use. 111 00:13:15.120 --> 00:13:24.120 However, in the case of specialized producers, entrepreneurship takes the form of estimating other people's future wants, 112 00:13:24.120 --> 00:13:33.120 and this is obviously a far more difficult and challenging task than forecasting one's own valuations. 113 00:13:33.120 --> 00:13:45.120 Human action occurs in stages, and at each stage an actor must make the best possible use of his resources in the light of expected future developments. 114 00:13:45.120 --> 00:13:48.120 The past is forever bygone. 115 00:13:48.120 --> 00:13:58.120 The role of errors in different stages of human action may be considered in the comparatively simple case of the man who buys a good for direct use. 116 00:13:58.120 --> 00:14:05.120 Say that his estimate of his future uses is such that he purchases a good, for example, 117 00:14:05.120 --> 00:14:13.120 10 quarts of milk, in exchange for 100 barrels of fish, which also happens to be his maximum 118 00:14:13.120 --> 00:14:16.760 buying price for 10 quarts of milk. 119 00:14:16.760 --> 00:14:22.760 Suppose that after the purchase is completed he finds, for some reason, that his valuations 120 00:14:22.760 --> 00:14:28.360 have changed and that the milk is now far lower on his value scale. 121 00:14:28.360 --> 00:14:33.420 He is now confronted with the question of the best use to make of the ten quarts of 122 00:14:33.420 --> 00:14:34.480 milk. 123 00:14:34.480 --> 00:14:40.580 The fact that he has made an error in using his resources of one hundred barrels of fish 124 00:14:40.580 --> 00:14:46.680 does not remove the problem of making the best use of the ten quarts of milk. 125 00:14:46.680 --> 00:14:51.800 If the price is still one hundred barrels of fish, his best course at present would 126 00:15:21.800 --> 00:15:32.800 The man recognized that it is absurd to criticize such an action by saying that he suffered a clear loss of X barrels of fish from the two exchanges. 127 00:15:32.800 --> 00:15:40.800 To be sure, if he had correctly forecast later developments, the man would not have made the original exchange. 128 00:15:40.800 --> 00:15:46.800 His original exchange can therefore be termed erroneous in retrospect. 129 00:15:46.800 --> 00:15:54.880 But once the first exchange has been made, he must make the best possible present and future use of 130 00:15:54.880 --> 00:16:02.640 the milk, regardless of past errors, and therefore his second exchange was his best possible choice 131 00:16:02.640 --> 00:16:10.080 under the circumstances. If, on the other hand, the price of milk has fallen below his new minimum 132 00:16:10.080 --> 00:16:17.080 From Buying Price, then his best alternative is to use the milk in its most valuable direct 133 00:16:17.080 --> 00:16:18.080 use. 134 00:16:18.080 --> 00:16:24.680 Similarly, a producer might decide to produce a certain amount of stock, and after the stock 135 00:16:24.680 --> 00:16:31.280 has been made, the state of the market turns out to be such as to make him regret his decision. 136 00:16:31.280 --> 00:16:38.040 However, he must do the best he can with the stock once it has been produced, and obtain 137 00:16:38.040 --> 00:16:41.600 and the Maximum Psychic Revenue from it. 138 00:16:41.600 --> 00:16:48.060 In other words, if we consider his action from the beginning, when he invested his resources 139 00:16:48.060 --> 00:16:54.900 in production, his act in retrospect was a psychic loss, because it did not yield the 140 00:16:54.900 --> 00:16:58.960 best available alternative from these resources. 141 00:16:58.960 --> 00:17:06.160 But once the stock is produced, this is his available resource, and its sale at the best 142 00:17:06.160 --> 00:17:11.040 The most possible price now nets him a psychic gain. 143 00:17:11.040 --> 00:17:17.760 At this point we may summarize the expected psychic revenue and the expected psychic cost 144 00:17:17.760 --> 00:17:24.680 factors that enter into the decision of buyers and sellers in any direct exchange of two 145 00:17:24.680 --> 00:17:26.340 goods. 146 00:17:26.340 --> 00:17:34.100 The buyer's revenue is either A. Direct use of purchase good or B. Anticipated later 147 00:17:34.100 --> 00:17:40.460 Seller's Sale at Higher Price, whichever is the greater on his value scale. 148 00:17:40.460 --> 00:17:48.980 Seller Revenue is either A. Direct Use of Sale Good or B. Anticipated Later Purchase 149 00:17:48.980 --> 00:17:55.140 at Lower Price, whichever is the greater on his value scale. 150 00:17:55.140 --> 00:18:03.660 Seller cost is either A. Direct use of sale good, or B. Anticipated later purchase at 151 00:18:03.660 --> 00:18:13.620 lower price, or C. Exchange for a third good, whichever is the greatest on his value scale. 152 00:18:13.620 --> 00:18:23.020 Seller cost is either A. Direct use of purchase good, or B. Exchange for a third good, or 153 00:18:23.020 --> 00:18:30.940 c. later sale at a higher price, whichever is the greatest on his value scale. 154 00:18:30.940 --> 00:18:37.420 If we eliminate the temporary speculative element, if we consider the sellers as the specialized 155 00:18:37.420 --> 00:18:43.260 original producers, and this will be more true the greater the proportion of the rate 156 00:18:43.260 --> 00:18:50.700 of production to accumulated stock, and if we also remember that since the exchange involves 157 00:18:50.700 --> 00:18:57.700 It involves two goods. The set of buyers for one good is the set of sellers for the other good. 158 00:18:57.700 --> 00:19:05.700 Then, the revenue for both the buyers and the sellers is the expected direct use of the goods acquired. 159 00:19:05.700 --> 00:19:12.700 The costs are the exchange for a third good that is foregone because of this exchange. 160 00:19:12.700 --> 00:19:27.700 The revenue and costs that are involved in making the original decision regarding the production of stock are, as we have indicated, of a different order, and these will be explored in subsequent chapters.