Briefs: The Economics of Pokemon®

pokemon
Pokemon® is a game that I know little about. My six year old son, however knows a lot about it and talks frequently about the phenomenon of rare Pokemon® cards. He kept talking about how these rare cards cost a lot of money. I seized the opportunity to teach him his first lesson on economics: the basic lesson on price, using the principles of supply and demand. I first asked him he knew why these rare cards cost so much money (as if I expected him to say yes). He obviously said that he did not know why and so I proceeded to explain why.

I explained to him that the price of anything (in this case the price of rare Pokemon® cards) is controlled by the how much of it is available to buy (supply) and number of people who want to buy it (demand). This, of course assumes that we are operating in a free market economy. When there are a lot of people that want to buy something of which there is little supply of, the price will tend to increase and that something will eventually be considered to be “expensive”. Conversely, if there are a few people want something that there is a great abundance of, the price will decrease and that something will eventually be considered to be “inexpensive” or even “cheap”. Rare Pokemon® cards (and anything desired that is considered rare) fall into the category of something many people want of which there is little of. In this case desired rare items, people are willing to pay more for something that there is little supply of, because they know that they are competing with a lot of other people that want the same limited amount of the desired items. People who are selling the items know this and are incentivized to sell the items for an increased price. This is the reason why rare items are generally expensive in price. Consumers and their free choices determine the price of items.

It’s not too difficult to understand this idea and how the price of something is affected by supply and demand. This applies not only to rare Pokemon® cards, but also to virtually every good and service that is not regulated by governments and organizations. Even my six year old gets it now…I think.

Briefs: Profit, and its Importance

profit

Profit is simply what is left over from the sale of a product after all of the expenses necessary to create it have been paid. It is an essential aspect of business in the capitalist, free market economic system and is the measure of success and failure of a business. With profit, businesses can continue to exist and grow, but without it, they simply cannot exist.

While profit determines the success and viability of a business, it is also the only means for jobs to be created. Employment is dependent on businesses being successful and thus, profitable, allowing the business to employ workers in its pursuit to become more profitable. In this sense, both the business owner and the employees of a business have the same incentive. The business owner’s incentive for the business to make a profit is that the business is at least sustained, allowing him more income to either grow the business, save or pay himself back for a job well done. The employee’s incentive for the business to make a profit is that the business is at least sustained, allowing him to continue to be employed. Employment happens in stages in the genesis of a business. In a sole proprietor business, the one business owner develops his business into one that turns a profit. He is the one employee of the business. As the business becomes more profitable and eventually grows (more customers), the nature of business requires more responsibility, which creates more work to be accomplished. As growth continues, the work required will become so much that the one employee (the business owner) cannot do it by himself and will eventually have to hire someone else to help him. Employment is created by successful businesses, which are only made successful because of profit.

Profit is the great equalizer in business because it dictates the winners and losers. The winners in business (the ones that are profitable) are the businesses that have found a way to produce a product efficiently enough to minimize expenses and maximize income (revenue). The losers in business (the ones that failed to become profitable) are the businesses that were unable to find a way to minimize expenses and maximize revenue. No matter how good or beneficial the product is, if it can’t be manufactured in a way that produces a profit, it will not continue to be made. The presence of profit indicates that there is some efficiency in production but it doesn’t necessarily mean it is the most efficient. That is the ever present quest of a business, to become as efficient as possible in order to maximize profits. When profits decrease or even disappear (expenses exceed revenue), then there are present some inefficiencies in production that need to be addressed. The winners address these inefficiencies effectively and the losers do not. When governments intervene in this process and “bail out” certain businesses (or even whole industries), they disincentive the business efficiency and delay the necessary changes needed for them to improve their efficiency, at the expense of the businesses that have been successful in being efficient.

Entrepreneurs (business owners) that start businesses do so at a huge risk. They risk their own money (and sometime other’s) in order to venture into a business with the hopes of being successful, but there are never any guarantees for success. Many times, for one reason or another, these ventures end up losing money and fail. Their reward for not operating efficiently enough to be profitable is the termination of the business. This is the negative side of business risk. For the successful business ventures, the reward for risking their own money is the profit that is generated from the business. For all of the work that goes into making a successful business, the reward is great. And the incentive of this reward of profit makes the business owner want to continue to sustain his business.

Economics is life.

Briefs: Competition

competition
The Wikipedia entry for “competition” reads as follows. “In economics, competition is the rivalry among sellers trying to achieve such goals as increasing profits, market share, and sales volume by varying the elements of the marketing mix: price, product, distribution, and promotion.” Let’s discuss.

The primary goal in any business is the same, no matter what level of competition that exists. A business operates with the primary goal of making a profit. Some business owners may say that they started their business for a number of reasons, but their goal is to turn a profit. Profit is what is left over after the business sells a product and then pays all of the expenses that were necessary to create the product. If a business cannot make a profit, then there is no reason for the business to exist. Not only is there no reason for it to exist, it will eventually naturally not exist because it cannot continue to operate when expenses exceed income. Competitive industries exist when companies in those industries are trying to make the most profit as possible, in order to continue the business and grow.

The goal of market share is one that stems from the existence of multiple businesses in the same industry, competing for the same customers (market). The portion of the customers that buy products from a particular business is that business’ market share. Market share is important because it dictates the business’ ability to impact prices in their favor. The bigger companies (ones with more market share) influence price with their ability to manufacture more efficiently and other reasons like brand name recognition. You can see why companies in the same industry are competing to gain more and more market share, giving them the ability to have more influence on price.

Sales volume is another important factor because it is generally that way companies grow. Every business wants to attract more customers than they already have to buy their products. The more sales (revenue) the more profit the business gets to keep, assuming everything else is equal. Meaning, if you sold a product for $100 and it costs you $60 to make it, you keep $40 worth of profit. Well, for each product you sell, your total profit is the number of products you sell times $40. And as the sales volume increases, the more $40 worth of profit per product sold you can keep. However, with most industries, the more sales you can achieve (the more sales volume increases) that $40 profit actually goes up, due to a phenomenon called “economies of scale”. As production volume increases, it actually gets cheaper to make, and the profit you make becomes larger.

Economics is Life.

Briefs: Technophobes, as they are

technophobes

Not a long time ago, I had a conversation with a friend about cars that could drive themselves automatically, and the reality of them existing one day. And the friend that I was talking to began to lament about how these vehicles would eventually put taxi drivers out of business. His point was basically how this one technological advance would be bad in the sense that it would do way with jobs for one segment of workers. My argument to him was that the new technology would actually create other jobs that had previously not existed at all and would make up for the jobs lost. Would the taxi drivers need to perhaps find a new profession? Probably. The same way the buggy drivers had to when the automobile became widely available after Henry Ford’s invention of the assembly line.

In Henry Hazlitt’s timeless book, “Economics in One Lesson”, he talks about a segment of the population that he refers to as “technophobes“. These are people resist technology advances because, in their mind they lead to the demise of some steady employment for some. They don’t consider that these new technologies don’t exist in a vacuum and require labor to sustain its existence. Technological achievements should be looked at as a labor-saving positives instead of a labor-robbing negatives. The empirical evidence shows time and time again throughout history that despite the introduction of new labor-saving technologies, jobs (as an aggregate) have not dwindled away. In fact, each major technological advance has brought with it a need for more production, a need for more innovation and in short, a need for more jobs.

Imagine that you were around when the concept of the personal computer was born and the thoughts that may have crossed your mind as you thought about the impact of this device on jobs. You might think about how adversely it would affect employment, because after all, the computer can do so much with so little effort or labor. Certainly, it would be the cause of major unemployment. What would happen to the masses of workers who take 8 hours in a day to do the same task that it would take a computer to do in 15 mins? Now think about how much we are surrounded by computers in our current world and how ridiculous a thought like that would seem now. The same could be said about other technological advances like the automobile or the steam locomotive. Think about what those inventions did to human productivity and not only how their introduction into existence did not dwindle jobs but in fact they led to the increase of needed jobs to facilitate all of the economic activity created as a result of their existence.

Mr Hazlitt puts it like this: “Each of us is trying to save his own labor, to economize the means required to achieve his ends. Every employer, small as well as large, seeks constantly to gain his results more economically and efficiently— that is, by saving labor. Every intelligent workman tries to cut down the effort necessary to accomplish his assigned job. The most ambitious of us try tirelessly to increase the results we can achieve in a given number of hours. The technophobes, if they were logical and consistent, would have to dismiss all this progress and ingenuity as not only useless but vicious. Why should freight be carried from New York to Chicago by railroads when we could employ enormously more men, for example, to carry it all on their backs?

Economics if life.

Note: You can get Henry Hazlitt’s book “Economics in One Lesson” at Amazon Books





Briefs: Incentive

incentive

An important factor in the study of economics is incentive. Incentive is defined as a thing that motivates an someone to perform an specific action. Obviously, there are different types or categories of incentives. Social or moral incentives are built on a persons character, where the motivation is the desire to do what is deemed to be the right thing to do. In economics, incentives are technically referred to as remunerative incentives, where the motivation is for some material benefit, usually money. Some economic incentives include profit, reduced prices, and wages.

An employee’s incentive to work is generally the expectation of a wage or salary. His incentive to work harder at his job or to take on extra responsibility is the expectation of a raise, or some other extra material benefit (perhaps even keeping his job altogether). He wouldn’t accept the proposition of the extra work without the expectation of a extra future benefit. And the employer knows that, also. The incentive for him to even sacrifice other leisure activities to further his education is the expectation of even more future material benefit, usually in the form of money, but maybe in the form of job security or leverage to find another job, if he is let go of his current job. With any economic incentive, there is an expectation of a future benefit (usually material) to the one the incentive applies to. The incentive of a sole business owner to hire a person to manage the finances of the business is the expectation that it will free up some of his time to expand his business or to focus on the current customers to maintain his clients. The incentive of a business owner to hire 40 full-time workers is expectation of the profit that those 40 workers will earn for the business, in one capacity or the other.

Incentive is one of the backbones of free market economics, as opposed to a socialist economic model where incentive is reduced or eliminated and the spiral of inefficiencies and waste rule the day.

Economics is life.

Briefs: Supply and Salaries

qb2

I heard this morning a comment lamenting the fact that NFL quarterbacks get paid so much more than teachers, and how that just does not seem right. Well, that may be true in once sense; maybe our society in fact places too much emphasis on sports than it does education. But, the salary differential is simply the effect of supply and demand. There are very few individuals in the US that can be NFL quarterbacks (meaning the supply is very small). That drives the price (salary) of the NFL quarterback up very high, when compared to a teacher. And we know that the demand for a good quarterback in the NFL is very high (our society’s emphasis on sports). Conversely, there are millions of individuals in the US that can be teachers (meaning the supply is very high). That drives the price (salary) of a teacher down, when compared to an NFL quarterback.

Economics is life.