1949. Prices of things. Supply and demand does not describe a real system.

provocation 125

The nearly ubiquitous teaching tool in economics is the suppy-demand curve. The idea is that supply and demand will come into balance.

This is intuitive. The problem comes when it is treated as the core example of economics analysis, and thus to justify treating the economy as a precise system that self regulates and that government should stay away from modifying.
If we take prices in this way a physicist might argue that yes but, like a falling stone affected in its gravitational grip is also modified by the friction of air. Yes, but says the economist, we can measure that too so we have two measured things adding to each other.
But, says the physicist gravity is known, air friction is known. But in economics the way people make up their minds is a mix of supply demand and an infinite number of other factors few of which are known or knowable.

Can you give and Example?
Sure, here are several.

1. I once spent a year inside Hewlett Packard on a Harvard research grant. The task was to understand how HP worked, among other things, in the market.(I never heard the work “market” at HP.)

A typical sales meeting would never look at any supply demand curve but go like

A. “If we raise the price by X I think we can sell almost as many.”
B. Yes if we also add some new features.
C. Hey, our identity is being high-end, we can afford to have a higher prices and sell less because its like advertising. We must keep our image as high end quality all the way, no sacrifice of quality for price.
A. OK let’s go for twenty percent.
C. A little more caution. Fifteen.

Note that the supply demand analysis leaves out so many interesting considerations, the kinds of things that real societies run on, and creates an image of a market that looks rigorous hence rational hence like physics.

Second example.
I watch a neighbor and her husband buying a new car.
Yea, we need a new one, this one is on the edge. Costs of repair will go up (no numbers, not spread-sheets).
I like the Toyota X.
That’s good. Which model?
The one with the glass roof.
What if something falls on it?
These days glass is as strong as whatever it is they make the normal roof from.
But I like the one with the good sound system.
If that’s is important to you.
Well I like the glass roof too.
What does it cost?
32 thousand.
You think we can talk them down?
Bill at work has one and he said he got fifteen percent off.
Sounds good. What color…?
No comparisons hardly, no spread sheets, no listing out pro’s and cons. Mostly intuitive. This points to a different kind of society (maybe even more efficient and functional) than one filled with robotic accountants looking at prices and car details, such as the kind of rings on the pistons, or weight distribution.

The equilibrium in a demand supply situation leaves out that the price offered has a history. The rich person pays less interest. If we only add in that factor, the”other” equilibrium – wealth – shifts inevitably to the already wealthy. Why is one model equilibrium accepted and the other ignored?Supply and demand do not ad up to economic thinking.

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