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Livio: Don't overlook Xenophon, especially "Ways and Means", but also Cyropaedia.

Bsf: Xenophon-well that is really going way back but I suppose you are right! There are certainly utility strands in the Greek philosophers when it comes to economic thought.

Lovely post.

On reading that passage in Mill twice, there is very clearly a downward-sloping demand curve. But it's not 100% clear to me he has an upward-sloping supply curve. What he says seems compatible with a vertical supply curve, so all the adjustment is on the demand side. Not sure.

Nice post! I don't think I've ever seen such a clear thread from the beginning to end presented in such a succinct manner.

Very nice.

Must be a great course if this is representative.

And just think Livio, now we've come full circle with economists throwing out supply & demand and going back to just price theories...

Two items:

1) I recommend Mary Morgan's _The World in the Model_, which has a nice history of supply-and-demand diagrams (as well as many other models).

2) I would suggest that just price theories are not incompatible with supply and demand analysis. My reading of Aristotle (from whom Aquinas would have drawn his basic analysis) suggests to me that what he was looking at (without having the terms, of course!) was producer and consumer surplus, and the "equality" that had to hold was between these surpluses, so that if I would buy at any price under $2, and Murphy would sell at any price above $1, the just price should be around $1.50. "Unjust" prices would come about when one of us has far greater bargaining power, and "forces" the price to $1.01 or $1.99.

My own take of what people think about "just price" is something about LRAC. Hence the widespread hostility to surge pricing in case of emergencies.

Thanks for the Morgan reference.

I think that supply and demand curves, in and of themselves, are trivial observations known to pretty much everyone, but not really used as the lense through which the price setting process was viewed because, operationally, they are not a good description of the price setting process and provide no useful guidance to price setters or to buyers.

However *if* you use them, you can get really far and talk about different types of competition, surpluses, effects of taxes or shortages, etc. So it was not the use of these curves per se that was influential, but pushing the whole analysis forward to show that these abstractions were useful.

I.e. the drawing of the curves is not useful, the whole book using the curves is useful. It's like a model -- the model does a bad job of describing what happens, but the model is useful. The mathematicians talk about the unreasonable effectiveness of mathematics but economists should talk about the unreasonable effectiveness of simple models. That, to me, is the revolutionary thing, rather than the curves.

And unfortunately I think textbooks should talk about this more at the very start. One of the biggest problems I've personally had is that when reading an economics text, my mind screams "But it can't possibly work like that! That is wrong!" and yet, if you can suspend the disbelief, you do end up with overall conclusions that are often right. Supply and Demand curves might be the first such example -- intentionally adopting something that is clearly wrong as a description of market behavior -- and pushing it do be able to make all kinds of quantitative insights about long run (static) outcomes.

On the other hand, "just price" was trying to answer "what price should I charge", with the theologians basically saying you should charge the price that covers your costs -- which is simple and actionable and also clearly sustainable. The two concepts really are ships passing in the night.

rsj: "On the other hand, "just price" was trying to answer "what price should I charge", with the theologians basically saying you should charge the price that covers your costs -- which is simple and actionable and also clearly sustainable."

Let's flip the question: "what price should I pay?" Should I pay a price that covers my benefits?

Are we talking average cost/benefit, or marginal cost/benefit?

What happens if there is a one period lag in production, and the marginal benefit this period is not equal to the marginal cost last period?

Or, to use (was it the English Opium Eater's?) example, what is the value of a musical snuff box offered for sale in a canoe in the middle of Lake Superior? Is it what it cost to produce in Birmingham? Or is it the benefit of whoever wants to buy it or sell it?

Thomas de Quincey switched from math to economics because he found math too hard when suffering withdrawal symptoms. He was one of the precursors of utility theory and the demand-side.

"What happens if there is a one period lag in production, and the marginal benefit this period is not equal to the marginal cost last period?"

This is why we don't price things at marginal cost, in practice. Producers, when asked about their marginal costs, get very confused because in general they don't know what their marginal costs are, neither is it important to know this. All firms have substantial fixed costs, so the relevant metric for firm survival and profitability would be the average cost, not the marginal cost. Firms do know their average cost. But even then, pricing is very difficult and firms screw it up all the time. This is not a reason to look down on firms, but to acknowledge how difficult the price setting decision is. So they use a number of different strategies -- typically markups traditional in their industries such as keystone (charge 2x cost no matter what), or they charge the MSRP -- let someone else determine the cost. There is a lot of data about cost determination on the part of firms, none of which supports the notion that firms price at marginal cost. But just because it doesn't happen at all like that doesn't mean it's not a useful concept. It's a very useful concept, but it's surprising that it is so useful because it so idealized and disconnected from reality.

The examples that you gave are a great reason why firms, IMO, follow a more evolutionary approach rather than an optimizing approach per se. The optimizing approach says to find the unique equilibrium and you're done. This assumes you have all the information and are able to find the equilibrium (which is an NP complete problem, so really no one can find it, even if they had all the information).

The evolutionary approach is more of an algorithm determined by competitive pressures. I.e. if you are running out of product, then flip a coin. If it comes up heads, increase the price. If it doesn't, do nothing. This type of algorithm is a bit like evolution -- over time, we grope towards overall improvements, but at any point in time, there are many different solutions when the criteria is of firm survival rather than maximum profitability. I.e. there is not one optimum living organism, but a vast variety of different ones, all imperfect in their own way, but good enough to survive. Just like all the oddball firms that somehow manage to survive. This approach is much more robust -- e.g. some disease comes along and suddenly the animals which weren't the most fit in some sense become more fit. This requires a diversity of solutions rather than a single solution, which could be wiped out by a change in in the environment. Some of those firms making bad decisions, should the environment change, will be making good decisions and their market share will grow. So it is robust to have firms take a very heterogeneous approach to price setting, and then throw in some creative destruction as competitive pressure.

Recently, Adobe has been experimenting with trying to find out what the optimal pricing is for their Creative Suite products. As is typical, the problem is not knowing the demand curve. As you may be aware, Adobe was much hated for charging far more for their products in Australia than in the U.S. -- like $1000 more. So Adobe decided to try to be scientific and test how much people were willing to pay by introducing some A/B testing. You can imagine how well that worked out. http://www.creativebloq.com/adobe/adobe-charges-100-extra-using-wrong-browser-101413289

I think its all very fascinating, but progress was made when we ignored reality and started pretending that prices are set by a mechanism which clearly has nothing to do with how prices are set. Yet this abstraction is extremely useful. The uncommon applicability of models to describing complex self-organizing behavior.

Also interesting is baseball ticket prices. You would think all the owners have an incentive to sell all the seats. There were different sized stadiums in different cities with different income levels. Some games featured popular teams but other games less popular teams. Some games were on the weekends but others on weekdays. But the National League kept all prices fixed at 50 cents a seat from its founding in 1876 until the early 20th century. During that time, there were significant movements in inflation as well as baseball demand. When the American League came along, they fixed all prices at 25 cents a seat. Shortly after that, teams were allowed to change prices. During the 1920s, ticket prices went up to a dollar in some teams.

During the Great Depression, Jacob Ruppert, the owner of the Yankees refused to lower ticket prices during the deflation, preferring to leave many seats unsold. When asked why he did this, he answered that because he didn't raise prices during the inflation prior to 1929, he didn't feel the need to lower them now. The Yankees survived the Depression. Another interesting problem they had to worry about was radio. The owners were concerned that by broadcasting the games for free, they would lose ticket sales. They kept radio out until 1921 and didn't put lights into the stadiums until the 1930s -- night games would be better for working people to see, but the owners weren't sure if they could recoup their costs. Comprehensive use of night games didn't arrive until much later. The Chicago Cubs played their first night game in 1988.

It's very easy to draw two curves and say "this is the price" or just to assume that someone is doing the best possible thing. Recently -- in the early 21st century -- a radical idea was introduced: "dynamic pricing". According to this theory, teams would adjust their prices in response to changes in demand up until all seats would be sold. A few teams use dynamic pricing, but even many teams that claim to do so still leave many seats unsold. I think it's best to view this as an evolutionary process rather than as a "well, just pick the best price, stupid", because pricing is hard and when firms are doing well financially, they don't need feel the need to make a lot of changes.

"Yet he also seems to separates demand and supply into separate actors with one determining price in the short run and the other in the long run."

Smith's discussion of the natural price is perfectly consistent with what we teach in Intro Micro. The long run competitive price is equal the minimum average total cost. Demand factors determine the size of the market but supply factors determine the price (and scale of firms).

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