Cafe Hayek: Distinguishing Prices From Market Values
asg
· 4 years ago
You write: "First, this way of looking at prices ascribes too much power and influence to sellers and too little to buyers. Yes, some seller chose to ask “$3.79” per gallon of gasoline – a seller who could have physically, morally, and lawfully asked, say, only “$2.79” per gallon. But each buyer chose to pay $3.79 per gallon – each one of whom could have physically, morally, and lawfully chosen not to pay that price per gallon."
Here is what O'Reilly might say in response to that:
"Buyers couldn't REALLY choose not to pay the elevated prices, since the alternatives (not being able to move around somewhat freely in a disaster area, etc.) were unacceptable. However, we know by observation that the sellers were doing just fine and staying in business when the price was $2.79. Therefore the price rise was unnecessary for the sellers to remain in business, unless the increase in price exactly matches the increase in cost to provide gasoline post-Katrina. It is therefore unfair for the sellers to raise prices, since the sellers could charge the same price as before and stay in business whereas the buyers who cannot pay the new price suffer massive adverse consequences."
John Pertz
· 4 years ago
ASQ, your argument doesnt make a whole hell of a lot of sense. If I sell cheese at a road side stand 8 bucks and the supplier raises his price for cheese to 9 bucks then what do you think will happen to my price?
Patrick R. Sullivan
· 4 years ago
What I think is going on in the heads of people who talk the way O'Reilly does, is a failure to realize that the economy is one gigantic auction, in which prices aren't set, but are constantly being negotiated among millions of market participants. He doesn't realize that the price to a buyer will be whatever it takes to bid that product away from a competing buyer, in a particular moment.
It's easy not to realize that there is someone, somewhere, actually participating in an auction as a proxy for the retail consumer who pays a 'set' price. But the 'set' price is really determined up the chain by bidding.
Another thing not understood by people who don't have practical experience of distribution channels, is that the normal retail price of anything is the most efficient way of getting a product from producer to user under NORMAL and PRACTICED methods. It's the lowest price you're going to see.
When a natural disaster hits, that distribution chain is gone. Emergency supplies have to be delivered using more expensive methods, often improvised by people who aren't aware of, nor have the time to research, what, under ideal conditions, would be the most efficient way to deliver merchandise to consumers.
JohnDewey
· 4 years ago
asg,
I think the purpose of price is to fairly ration a scarce resource. An increase in price during a shortage ensures that only those who really need gasoline - the ones who are willing to pay the higher price - actually get the gasoline. At least that's how I understood Walter Williams' explanation.
A second function of price is to attract additional supply. The gasoline wholesaler in Dallas, for example, may be willing to truck gasoline to Houston if he knows he can realize additional profit above the extra transport cost. In that case, the higher price might save the day for Houston evacuees who would otherwise be stranded fuel-less on the highway. Gasoline refiners in Europe will be motivated to ship gasoline over the Atlantic, as some actually did in September.
I'm sure that an economics professor can explain this more succinctly. Don Boudreaux, is it possible to explain the rationing function of price so that even a Bill O'Reilly can understand?
gumpy
· 4 years ago
John Pertz,
I THINK "asg" is attributing the statement to O'Reiley, so your beef should be with O'Reiley and not "asg."
Russell Nelson
· 4 years ago
Excellent explanation, Don. It's very easy to say "Well, it's an economist thing; you wouldn't understand." and very hard to say "here's how we view the matter." in very clear terms.
Prices are set by the hand of man, but it is the invisible hand that determines the price that will clear the market.
Gabriel Mihalache
· 4 years ago
The only point that makes some sense to me in connection to oil prices is related to information asymmetry: suppliers, at any given time know the market and know when to expect for prices to drop, rise, etc. On the other hand, consumers are in no position to judge if to abstain from buying now and waiting for the lower prices, etc.
Oil is a seller's dream because all consumers can do is abstain from consumption, which is really difficult for them, so they'll theoretically accept prices higher than those historically practiced. The only issues is that people (Like O'R.) will feel somehow cheated by producers taking their advantage all the way.
Americans arealdy have very small prices for gas, undoubtedly because of gov. intervention, but if the global market were to level then they couldn't avoid having to face the real pressure of demand.
Gabriel Mihalache
· 4 years ago
P.S. A good way to put it, in relation to who sets the price is to say that business owners may demand a certain sum, but that a transaction happens at that level if and only if a consumer agrees to it.
If we take price to be the value of actual transactions (not potential, or modeled ones) then no one sets prices.
Justin
· 4 years ago
Does Don really believe in externalities leading to "market failure?" I don't recall him writing previously on market failure.
Randy
· 4 years ago
Gabriel,
Re; Information Asymmetry.
I think that is exactly what the accusers of the oil industry believe, that the industry had the information to know that prices would be coming down, and that price increases to take advantage of a temporary crisis therefore constituted gouging.
Not that I buy that logic. I think price increases even for a temporary crisis make sense. But neither do I believe that the oil industry knew that the crisis was temporary. For all we know, the recent drop in prices is temporary. If the war goes badly, or the winter turns cold, we could be back at $3/gal a month from now.
JohnDewey
· 4 years ago
Gabriel: "Americans arealdy have very small prices for gas, undoubtedly because of gov. intervention, but if the global market were to level then they couldn't avoid having to face the real pressure of demand."
It's not government intervention. It's lower taxes. Here's some Oct-05 gasoline prices from the International Energy Agency:
Total price in U.S. $/liter
France $1.386
Germany$1.461
Italy $1.471
Spain $1.166
UK $1.588
Japan $1.156
Canada $0.752
US $0.655
Ex-Tax price in U.S. $/liter
France $0.464
Germany$0.486
Italy $0.559
Spain $0.538
UK $0.530
Japan $0.646
Canada $0.491
US $0.551
http://tinyurl.com/ddvg9
Mark
· 4 years ago
I live in England and if I drove I would be paying about $7 per US gallon.
That is higher than it used to be but even after tax it has not risen by as much as in the US. The only reason I can see for this is that the US dollar is cheaper than it used to be.
The weak dollar is the result of a government policy and market forces trying to correct the trade deficit by making imports more expensive. As oil is an import it makes good sense that it should be more expensive.
Although oil is priced in US dollars, most people who buy it do not use USD as their currency. Saying how much the price of oil has risen in dollars seems a lot like commenting on how fast cars are moving on the opposite side of a motorway/freeway without appreciating that your are travelling towards them.
No-one seems to have mentioned this and I'm not sure why. Someone correct me if I'm wrong.
On another note. O'Reilly (we get him here too) has been blaming OPEC as well as the US companies for high prices. The fact that a cartel is in existence is his justification for interfering with the markets.
In fact, in OPEC only Saudi Arabia is operating below full capacity and that's because they can't sell all their oil. The only refineries that can take Saudi oil (high in sulphur[sic]) were in the gulf.
Even before Katrina, refinery outages were causing refiners to switch from heavy sour crude to light sweet crude (the one quoted on Nymex) which requires less intensive refining. As a result, the spread between heavy and light crude increased by about half.
The refiners could actually have gouged more by collectively agreeing to stick with heavy crude and reduce their gasoline output. That would have increased margins at both ends by cutting input costs and pushing up the price of gas. I wonder why O'Reilly thinks they didn't do this.
Ivan Kirigin
· 4 years ago
This all reminds me of the difference between market value and perceived value of unskilled labor.
The desire for a "living wage" (usually around $15/hr) is another way of saying that the price paid is under the real value.
Just as there are negative consequences that are ignored with calls for a "windfall-profits" tax for oil companies, there are negative consequences for a minimum wage, many of which go ignored by those commenters usually disagreeing with the posts.
Tenderfoot
· 4 years ago
Gabriel,
You are spot on. Government intervention takes many forms. Here is an interesting read on how much our government is willing to do to ensure that gas prices stay low, relative to the rest of the developed world:
Of course, O'reilly lacks a moral foundation - his fuel is populist jingoism - so he doesn't have an issue with either manipulating the US market or the world so that his viewers get cheap gas. His problem runs deeper than a 3rd grade understanding of economics.
ignorant
· 4 years ago
can somebody please explain this. I think what O'Reilly is trying to say is "Ok. You guys raised price to offset the loses. Then how come this huge profits ?" This gives an impression of gouging by oil industry people. If they can explain this obvious contradiction instead of pontificating on market and economics may be common people will appreciate that.
foobar
· 4 years ago
ignorant - it's rather simple and has been said before: Oil companies don't set prices for oil. They just have less product to sell, causing buyers to bid more per unit for the available product. These buyers in turn then raise their unit prices when selling to consumers.
All Comments
You write: "First, this way of looking at prices ascribes too much power and influence to sellers and too little to buyers. Yes, some seller chose to ask “$3.79” per gallon of gasoline – a seller who could have physically, morally, and lawfully asked, say, only “$2.79” per gallon. But each buyer chose to pay $3.79 per gallon – each one of whom could have physically, morally, and lawfully chosen not to pay that price per gallon."
Here is what O'Reilly might say in response to that:
"Buyers couldn't REALLY choose not to pay the elevated prices, since the alternatives (not being able to move around somewhat freely in a disaster area, etc.) were unacceptable. However, we know by observation that the sellers were doing just fine and staying in business when the price was $2.79. Therefore the price rise was unnecessary for the sellers to remain in business, unless the increase in price exactly matches the increase in cost to provide gasoline post-Katrina. It is therefore unfair for the sellers to raise prices, since the sellers could charge the same price as before and stay in business whereas the buyers who cannot pay the new price suffer massive adverse consequences."
ASQ, your argument doesnt make a whole hell of a lot of sense. If I sell cheese at a road side stand 8 bucks and the supplier raises his price for cheese to 9 bucks then what do you think will happen to my price?
What I think is going on in the heads of people who talk the way O'Reilly does, is a failure to realize that the economy is one gigantic auction, in which prices aren't set, but are constantly being negotiated among millions of market participants. He doesn't realize that the price to a buyer will be whatever it takes to bid that product away from a competing buyer, in a particular moment.
It's easy not to realize that there is someone, somewhere, actually participating in an auction as a proxy for the retail consumer who pays a 'set' price. But the 'set' price is really determined up the chain by bidding.
Another thing not understood by people who don't have practical experience of distribution channels, is that the normal retail price of anything is the most efficient way of getting a product from producer to user under NORMAL and PRACTICED methods. It's the lowest price you're going to see.
When a natural disaster hits, that distribution chain is gone. Emergency supplies have to be delivered using more expensive methods, often improvised by people who aren't aware of, nor have the time to research, what, under ideal conditions, would be the most efficient way to deliver merchandise to consumers.
asg,
I think the purpose of price is to fairly ration a scarce resource. An increase in price during a shortage ensures that only those who really need gasoline - the ones who are willing to pay the higher price - actually get the gasoline. At least that's how I understood Walter Williams' explanation.
A second function of price is to attract additional supply. The gasoline wholesaler in Dallas, for example, may be willing to truck gasoline to Houston if he knows he can realize additional profit above the extra transport cost. In that case, the higher price might save the day for Houston evacuees who would otherwise be stranded fuel-less on the highway. Gasoline refiners in Europe will be motivated to ship gasoline over the Atlantic, as some actually did in September.
I'm sure that an economics professor can explain this more succinctly. Don Boudreaux, is it possible to explain the rationing function of price so that even a Bill O'Reilly can understand?
John Pertz,
I THINK "asg" is attributing the statement to O'Reiley, so your beef should be with O'Reiley and not "asg."
Excellent explanation, Don. It's very easy to say "Well, it's an economist thing; you wouldn't understand." and very hard to say "here's how we view the matter." in very clear terms.
Prices are set by the hand of man, but it is the invisible hand that determines the price that will clear the market.
The only point that makes some sense to me in connection to oil prices is related to information asymmetry: suppliers, at any given time know the market and know when to expect for prices to drop, rise, etc. On the other hand, consumers are in no position to judge if to abstain from buying now and waiting for the lower prices, etc.
Oil is a seller's dream because all consumers can do is abstain from consumption, which is really difficult for them, so they'll theoretically accept prices higher than those historically practiced. The only issues is that people (Like O'R.) will feel somehow cheated by producers taking their advantage all the way.
Americans arealdy have very small prices for gas, undoubtedly because of gov. intervention, but if the global market were to level then they couldn't avoid having to face the real pressure of demand.
P.S. A good way to put it, in relation to who sets the price is to say that business owners may demand a certain sum, but that a transaction happens at that level if and only if a consumer agrees to it.
If we take price to be the value of actual transactions (not potential, or modeled ones) then no one sets prices.
Does Don really believe in externalities leading to "market failure?" I don't recall him writing previously on market failure.
Gabriel,
Re; Information Asymmetry.
I think that is exactly what the accusers of the oil industry believe, that the industry had the information to know that prices would be coming down, and that price increases to take advantage of a temporary crisis therefore constituted gouging.
Not that I buy that logic. I think price increases even for a temporary crisis make sense. But neither do I believe that the oil industry knew that the crisis was temporary. For all we know, the recent drop in prices is temporary. If the war goes badly, or the winter turns cold, we could be back at $3/gal a month from now.
Gabriel: "Americans arealdy have very small prices for gas, undoubtedly because of gov. intervention, but if the global market were to level then they couldn't avoid having to face the real pressure of demand."
It's not government intervention. It's lower taxes. Here's some Oct-05 gasoline prices from the International Energy Agency:
Total price in U.S. $/liter
France $1.386
Germany$1.461
Italy $1.471
Spain $1.166
UK $1.588
Japan $1.156
Canada $0.752
US $0.655
Ex-Tax price in U.S. $/liter
France $0.464
Germany$0.486
Italy $0.559
Spain $0.538
UK $0.530
Japan $0.646
Canada $0.491
US $0.551
http://tinyurl.com/ddvg9
I live in England and if I drove I would be paying about $7 per US gallon.
That is higher than it used to be but even after tax it has not risen by as much as in the US. The only reason I can see for this is that the US dollar is cheaper than it used to be.
The weak dollar is the result of a government policy and market forces trying to correct the trade deficit by making imports more expensive. As oil is an import it makes good sense that it should be more expensive.
Although oil is priced in US dollars, most people who buy it do not use USD as their currency. Saying how much the price of oil has risen in dollars seems a lot like commenting on how fast cars are moving on the opposite side of a motorway/freeway without appreciating that your are travelling towards them.
No-one seems to have mentioned this and I'm not sure why. Someone correct me if I'm wrong.
On another note. O'Reilly (we get him here too) has been blaming OPEC as well as the US companies for high prices. The fact that a cartel is in existence is his justification for interfering with the markets.
In fact, in OPEC only Saudi Arabia is operating below full capacity and that's because they can't sell all their oil. The only refineries that can take Saudi oil (high in sulphur[sic]) were in the gulf.
Even before Katrina, refinery outages were causing refiners to switch from heavy sour crude to light sweet crude (the one quoted on Nymex) which requires less intensive refining. As a result, the spread between heavy and light crude increased by about half.
The refiners could actually have gouged more by collectively agreeing to stick with heavy crude and reduce their gasoline output. That would have increased margins at both ends by cutting input costs and pushing up the price of gas. I wonder why O'Reilly thinks they didn't do this.
This all reminds me of the difference between market value and perceived value of unskilled labor.
The desire for a "living wage" (usually around $15/hr) is another way of saying that the price paid is under the real value.
Just as there are negative consequences that are ignored with calls for a "windfall-profits" tax for oil companies, there are negative consequences for a minimum wage, many of which go ignored by those commenters usually disagreeing with the posts.
Gabriel,
You are spot on. Government intervention takes many forms. Here is an interesting read on how much our government is willing to do to ensure that gas prices stay low, relative to the rest of the developed world:
http://citizenofliberty.blogspot.com/2005/08/fiat-money-deficit-spending-and.html
Of course, O'reilly lacks a moral foundation - his fuel is populist jingoism - so he doesn't have an issue with either manipulating the US market or the world so that his viewers get cheap gas. His problem runs deeper than a 3rd grade understanding of economics.
can somebody please explain this. I think what O'Reilly is trying to say is "Ok. You guys raised price to offset the loses. Then how come this huge profits ?" This gives an impression of gouging by oil industry people. If they can explain this obvious contradiction instead of pontificating on market and economics may be common people will appreciate that.
ignorant - it's rather simple and has been said before: Oil companies don't set prices for oil. They just have less product to sell, causing buyers to bid more per unit for the available product. These buyers in turn then raise their unit prices when selling to consumers.