Monday, January 01, 2007

A Conversation Between Sam And I

The conversation started with this article.

Sam starts off:

However, the more I read about the subjective theory of value the less convincing and satisfactory it seems.

While I don't mean to get engaged in too great a debate about what makes for a "good" theory this seems to punt on every aspect of market price. As James Buchanan once put, "The result of the market process is the result of the market process." What about Frank Knight's idea of all costs being opportunity costs? If with an hour's worth of effort a man can obtain one deer or two beavers, the price ratio of beavers to deer should be 2 to 1. Not because it is some whimsical happenstance but because there exists an opportunity for arbitrage. The neoclassical ideas of production cost and utility being the two edges of a pair of scissors hemming in the price makes more intuitive sense if you ask me.

Certainly there are exceptions where the Austrian story fits better, rare art work leaps to mind, but the price of nails, chicken or gasoline fits the neoclassical story much better than the subjective theory of value. I have no love for gasoline, I do however enjoy seeing my family during the holidays.

--Sam

The scissors of demand and supply is a great teaching tool. Most people think prices are given by God or decided by evil corporations. Demand and supply is a much better explanation than these mystical interpretations of price, but demand and supply functions do not exist in any tractable form.

The Buchanan example works better when you only have beavers and deer and identical consumers, but add microwaves, toasters, prostitutes, and people with varying preferences. This is why Buchanan could not get his point across. I have no idea my value for a cook until a cook exists. Neo-classicals and their prevalent methodology cannot incorporate new cooks into their models.

The real problem with objective theories of value is the paternalism and socialism they suggest. Once you say nails should cost $X, then you are suggesting that if they do not then it requires collective action.

Answer this, why do nails have different prices at the local hardware store than they do at Lowe's or Home Depot? It is not by transaction costs alone. There is a little subjective theory of value there.

You do love what gasoline can do for you. We (like the Austrians and Neo-classicals) are arguing trivialities, but that is what academics do.

~WB

I think you have asked just the right question. Why is it that nails atone store are cheaper than another?

The economist jobs is to be able to explain, and hopefully predict, the answer to questions like this. I stick by my original answer that the economists role is to help society understand trade offs between policies and look for ways to reduce transactions costs. The subjective theory of value is useless on this front. We might as well just throw our hands up in the air and say we have no idea how any of it works and aren't especially interested in figuring it out. Why might one store have cheaper nails than another. Perhaps they have economies of scale and can out compete their neighbor. Maybe its just a gimmick to get people in their store so they buy other higher margin items.

As economists I think we should be looking at our theories and working on developing new ones, game theory sounds like a good choice for modeling gimmicks, to explain and understand our world. The world will never fit neatly into any theory but that doesn't let us off the hook to continue looking.

--Sam

This is where we disagree. I agree that economists illuminate tradeoffs, but you automatically jump into policy, society, and"reducing transaction costs."

The subjective theory of value tells economists exactly what to do. Let people do whatever the hell they please. I listened to Walter Williams for three hours going down to Raleigh, and he kept saying the same thing over and over again, limited government, limited government. I think it is a worthy claim to make.

You go to Small Town Hardware Store and ask Rick why he prices the nails the way he does, and then go to Medium Sized Hardware and ask Bob why he prices nails the way he does. I am sure they both have reasons, but they are different and based on competing rationales. And you will never be able to formalize these differences. And it would be foolish and a waste of money to try. Now if Rick or Bob is willing to pay you to figure out the optimal price for nails then that is okay. But if Senator Joe pays with my Dad's tax dollars, then I have a problem.

~WB

No comments: