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few dollars in his pocket. Mr. B. has slight want for a coat but plentiful dollars in his pocket. Mr. B. buys and Mr. A. goes without.
. Whims and vanities of negligible utility may be indulged freely because some people have the money to spend, but stern necessities of intense utility may be stinted acutely because some people do not have the money to spend. Scarcity of spending power is just as influential as scarcity of goods. Scarcity of money income and the sacrifice which attaches thereto are set over against scarcity of goods and the utility which attaches thereto.
Opportunity Cost.-A man who decides to buy a house may have to forego the buying of a new automobile. One who decides to join an expensive club may have to stint himself on furnishing his home. If one goes on a camping trip, he surrenders the pleasure of going to the theater. At the margin of choice, the individual decides to give up the enjoyment of one good in order to obtain the enjoyment of another. To indulge in one luxury costs the individual the opportunity to indulge in another. The opportunity cost is the sacrifice of foregoing some alternative utility.
A worker faces an opportunity cost in apportioning his time between work and leisure. If he works a short day, he limits his money income and therefore his ability to buy various goods which would bring enjoyment. But he gains the enjoyment that comes from recreation and diversion. The decision to work another hour more or less entails the balancing of an hour's extra leisure against an hour's extra income. The election of one alternative costs him the opportunity of the other. The displaced alternative is a joy foregone, a pleasure sacrificed.
Cost may be considered ultimately as the most urgent excluded desire. Cost of labor is, in this sense, the sacrifice of the most attractive alternative.
Opportunity cost helps to explain where the points of marginal utility and disutility fall. The marginal utility of any enjoyment depends upon the lure of the most enticing competing enjoyment. What we give up influences our choices in what we consume. The marginal disutility of one kind of labor must be compared with the substitute use of his time which the laborer could possibly make. The man who has a scientific curiosity but becomes a profiteer suffers from self-denial of the kind of work he would particularly like to do. The displaced activity affects the point of marginal utility in the ruling activity. The marginal points are influenced by the most alluring possible alternatives. If the alternatives were not so tempting, the actual choices would be easier to arrive at. The restraints put upon every want by the allurements in some other direction curb the force of wants. Extreme joy in satisfying a want is stifled by the pain of foregoing a highly attractive alternate want. Opportunity cost limits and restricts the enjoyment of goods actually chosen. The joy of everything we have is subdued by the grief over everything we have not.
Margin of Consumption.—Every one has to choose between many possibilities of expenditure. Every one faces the question whether to buy a little more or a little less of a given good. The individual will not be likely to buy an additional unit of one good if a unit of another good, price considered, will have greater utility. If he spends too much for one line of goods, he will suffer keenly the sacrifice of goods which would have yielded greater utility. The consumer will tend to carry each line of expenditure to the point where marginal utility in any line is equal to marginal utility in any other line. He will tend to buy additional units of each good up to the point where each dollar, no matter for what spent, will bring uniform maximum satisfaction. Each time a dollar is spent he will consider whether the additional unit of goods so bought will bring as much satisfaction as a unit of some other kind of goods would bring. Each expenditure means a balancing of the loss of utility by foregoing one good against the gain of utility from enjoying another good.
When the marginal utilities in all lines of consumption are carried to the point of uniformity, the consumer is said to be at the margin of consumption. At this level, marginal utilities are substantially the same all along the line, and the individual's consumption is in equilibrium. No alternative way of spending a dollar would give as much satisfaction as the actual way. No substitute pleasure would be as great as the selected pleasure. Maximum satisfaction is obtained because each unit of goods bought brings greater gain than any other unit of goods could bring. Of course, a perfect equilibrium at the margin of consumption is purely hypothetical, but as an abstract concept it has the advantage of describing the goal or objective toward which consumption tends.
Complementary Goods.-Certain goods must be accompanied by related goods before they can be consumed. For instance, an automobile requires gasoline, a furnace requires coal, a pipe requires tobacco, a rifle requires explosives. The members of each group of such goods are said to be complementary goods. When several articles are mutually indispensable for the enjoyment of any one article, they lead to a complementary process of valuation. The quantity of any one good desired will correspond with the quantity of the other complementary goods to be consumed. For instance, the motorist determines his need for gasoline by the size of his automobile and the mileage covered. In building a house, the need for individual materials such as nails, cement, lumber, and brick, is complementary. They must be used jointly if they are to be used at all. The utility of each good depends upon the utility of the others in the group. Complementary utility is a joint product.
If the individual decides to use more units of one good in a complementary group, his decision automatically involves a proportional increase of consumption of all other goods in the same group. For instance, if a man chooses to spend more time hunting, he must forthwith use more ammunition, more firearms, more sports clothing, more accessories. Goods come in groups. We must buy pairs of shoes or gloves and suites of furniture. We must balance the menu with soups, entrées, and desserts. We must buy all the parts to an automobile, and all the conveniences in a modern home. If we choose one, we choose all in the group. Complementary value results from this joint consumption of related goods in such form that equal or corresponding quantities of all members of the group must be consumed at the same time.
Derived Value.- Are finished goods high in price because raw materials are high, or are raw materials high because the finished goods will sell for high prices ? Are automobiles expensive because steel costs much, or does steel cost much because automobiles command high prices ? Is clothing high because wool and cotton are high, or are wool and cotton high because people are willing to spend freely for clothing?
The answer of econo ics is that the inished goods determin the price of the raw materials and of the machinery used in their oduction. Steel is high because automobiles are high and wool and cotton are high because clothing is high. That this is true is readily seen from the utility analysis. Steel, wool, cotton, and the like have no utility as such. They satisfy no want in their raw state. Utility attaches first to finished consumers' goods, and is passed down to the raw materials necessary to production of the finished goods. The utility of the raw materials and of the machinery is purely incidental to the utility of their finished products. The unfinished goods derive their utility from the utility of the finished goods. Producers' goods derive their utility from the utility of consumers' goods. Capital goods derive their utility from the utility of retail products. This dependence of raw material values upon finished goods' values is the basis for the economic principle of derived utility.
Derived utility often is confusing because of the fact that the raw materials are priced first in order of time, yet are said to derive their price from the subsequent prices of their finished products. How can values which come after, govern values which come first? The answer lies in the anticipation by producers of what consumers will be willing to pay. The flour manufacturer pays a price for wheat based upon the price which he expects to get from the baker. The baker in turn pays a price for flour based upon the price which he expects to get for bread. Prospective prices to be paid for consumers' goods govern the values of raw materials long before the materials have been converted by manufacture and placed in consumable form. This process of depending upon anticipations and prospects of consumers' prices involves a great deal of guess work and forecasting by business men. If they overrate the willingness of consumers to spend money, they suffer from oversupply of goods on the market and a slump of prices. If they underrate the willingness of the consumers to spend money, they suffer from a dearth of goods on the market and a skyrocketing of prices. Only because the finished article can be sold at a high price can the crude material or the capital used in its production be sold at a high price. Producers' values are derived from consumers' values.
The starting point of utilities is the mind of consumers. The fountain and source of value is the marginal utility of the good to the consumer. All earlier utilities in the production process are derived from the subsequent utilities assessed by consumers. All incompleted goods derive their utilities from the prospective utilities of completed goods.
Supply and Demand.—The preceding analysis has not specifically named supply and demand as the subject of its treatment, but in fact the concepts used have been simply a refinement of the two basic notions of supply and demand. On the demand side, we have dealt with utility.
, On the supply side, we have dealt with scarcity. Utility analysis is simply a means of reducing to minute parts the general concept of demand. Scarcity has been emphasized as showing the influence of supply upon value.
In the following chapter, supply and demand will be analyzed directly. In thus treating the effect of supply and demand upon value and price, we shall not be departing from the concepts presented in this chapter. We shall be simply elaborating and rounding out the principles of value along lines already started.
The present chapter has attempted to state the utility analysis clearly and accurately. Little attempt has been made to criticize utility theory. Not that much criticism could not be hurled at the utility concepts, but that little would be gained in this volume by intricate disputation. We have been content to state the utility logic for what it is worth. Some authorities think it is worth nothing; others think it is worth everything. The present author is writing on the assumption that neither of these views is sound. The assumption here is that the utility logic is useful for the purpose of providing an analysis of the logical process of valuation. For this limited purpose, utility theory is indispensable. For many further purposes, it is inadequate. Consequently later chapters will attempt to supplement utility theory by pecuniary theory calculated to supply what utility theory lacks. This brief comment is necessary because of the contentious atmosphere surrounding any mention of marginal utility in recent years.
CLARK, J. B., Essentials of Economic Theory, Chapter VI, VII.
SUPPLY AND DEMAND
The Meaning of Supply and Demand. —Supply is the quantity of a good that will definitely be sold at a given price. Demand is the quantity of a good that will definitely be purchased at a given price.
Both supply and demand are defined relative to a given price. At a high price, supply will tend to be greater and demand less. Supply does not include all units of a good which are in existence, but only such units as will actually be disposed of at a given price. Demand does not include the whole purchasing power of consumers but only such part of it as will actually be used to buy goods at a given price. Supply and demand are not absolute terms. They are purely relative to a given price.
Consequently, we may conceive of as many different supplies and demands as there are different possible grades of prices. A certain kind of good may be offered at any one of countless possible price levels, varying from extremely low to extremely high. But no matter which of these be taken as the actual market price, the supply factor will be the amount actually offered for sale at that price, and the demand factor will be the amount actually bought at that price. With each different gradation of price, there will come a new quantity of supply and demand.
Both terms are used to designate an effective force. Demand is not a vain longing for goods, but decision to buy coupled with the purchasing power necessary for buying. Supply is not a theoretical amount, but the amount that will be made effective in the market. The actual forces must be differentiated from merely potential forces. Potential demand is the demand that could be tapped by changing prices, and potential supply is the supply that could be reached by changing prices. But in common economic usage, the terms are used in the effective sense. Active desire plus ability to pay gives an act of purchase, which is effective demand. Active offering for sale plus willingness to accept a certain price gives an act of sale, which is effective supply.
The Laws of Supply and Demand.—It is very common for popular authorities to attempt an explanation of almost every baffling problem by a vague and mysterious reference to supply and demand. The phrase serves as a kind of blanket explanation to cover confusion and perplexity. When a business situation defies concrete and clear explanation, a loose resort to “the fundamental law of supply and demand'' is