Tuesday, February 13, 2007

How do markets clear? Valentine's Day edition

Previous:
The rule of law, "overpriced," market clearing, and information in markets
Happy price-gouging day!
How do markets clear?
How markets work with imperfect information

Earlier today I found myself recalling a "Married With Children" Valentine's Day episode where Al and others, procrastinating in buying gifts, scramble for the last few items remaining. The store turns it into an auction where the husbands reveal how desperate they are, and prices reach several times the regular retail price. I won't say anything really new tonight, but I thought for tonight I'd help us guys feel better and post a reminder about why we're spending more.

Even outside of sitcom absurdity, we guys will spend much more for the most prized flowers on Valentine's Day than we would any other day of the year. Those who understand free market processes know there's nothing wrong with that. As I've explained previously, when prices are left free to adjust, then markets will eventually clear, given time. It's dependent on the quality of participants' information, of course, but as the quality approaches perfection, then markets will clear perfectly. In reality, information is not perfect, and because information has a cost, both buyers and sellers will settle on prices where, they judge, the cost of improving information won't exceed the benefit. A common example in the real world is advertising something for sale in additional venues, which certainly improves information for potential buyers, but in the end it may not yield an increased profit as great as the cost of the additional advertising.

Last year, I noted that the high prices also minimize search costs, because prices fundamentally are information about an item's scarcity. You might spend $100+ on a dozen roses, arranged and delivered in glass, but be glad you didn't spend $10 in cash only after spending several hours trying to find the last roses at that price. In the end, buyers and sellers will settle at an equilibrium point where the price reflects the "convenience" of not having to run all over town. Remember the auction toward the end of "Jingle All the Way"? In a real situation, some people would be glad to pay double the price, and much more, so they can stop searching.

Besides, the flower shop, candy store, et al, take the risk of offering a certain quantity of items, counting that they'll all sell (or at least enough to make a worthwhile profit). As risk-bearers, they are particularly justified in seeking whatever profit they can get; they do not force customers to pay the prices.

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1 Comments:

Blogger Lord Boner said...

YOU'RE FINALLY ON TO SOMETHING MY FRIEND - IT'S A GREAT IDEA TO RECALL MARRIED WITH CHILDREN ON VALENTINES DAY - BUT LET US NOT FORGET THE WORDS OF THE IMMORTAL AL BUNDY: "HOOTERS HOOTERS YUM YUM. HOOTERS HOOTERS, GIVE ME SOME!"

LORD BONER HAS SPOKEN...

Wednesday, February 14, 2007 4:38:00 PM  

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