Here's Why Supply and Demand is Overrated! | Economics Explained

if you were to ask any random person on the street what it is that they knew about economics there is a pretty good chance that the first thing they would blurt out would be the words supply and demand the number of people out there willing and able to buy a good or service versus the number of people out there willing to sell a good or service all individually vying to get the best price possible if demand increases prices increase if demand falls prices fall and vice versa with supply now i know this channel is called economics explained but for most of you watching all of this should pretty much go without saying the only issue is this rosy picture is in no way a reflection of the real world the price you pay for groceries that new iphone or hey even the price your employer pays you to do your job all have a lot less to do with supply and demand than you might expect this departure from perfect economic assumptions can also tell us a lot about what to actually expect during times of economic turbulence and properly being able to predict how an economy works in reality can very easily be the difference between riding out an economic storm or being crushed by it so what is going on here how are prices decided if not through supply and demand what does this mean for regular people in the economy how could all of this be used to make better policies and business decisions and how does this all make the case for a zero dollar minimum wage this episode of economics explained was made possible by acorns your all-in-one financial services app that puts you in control of your financial future if you've been a viewer of this channel for any length of time you already know that there are many moving parts in our globally interconnected economic machine like interest rates inflation and credit cycles just to list a few with so many macroeconomic factors to consider investing can unfortunately seem a bit overwhelming but it doesn't have to be entire acorns with acorns you 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some big disclaimers and that is that long term these forces do of course influence prices but not necessarily in the way that you might expect this all has to do with a phenomenon known as sticky prices there is no such thing as a perfect market in the real world a market where buyers and sellers have perfect access to information a market with limitless competition and an endless selection of identical products this is actually a great thing we do not want perfectly efficient markets because inefficient markets allow businesses to exist to show why consider a farmers market in an area that only grows beets at this market there might be 100 farm stalls and an unlimited amount of prospective buyers if all these buyers is a rational consumer and has perfect access to information they are automatically going to go to the store that has the lowest prices knowing this the other farmer's stalls are all going to undercut those prices in an attempt to sell some of their beets and then other farmers are going to undercut them in response eventually it'll get to a point where all of these farmers lower their prices to a point where they are no longer turning a profit on the beats that they sell just in order to actually try and sell some beats this sounds great for the consumers who now get to walk away with cost price beats but there is a problem who would bother going through all the trouble of buying a farm planting cultivating seeds harvesting the crop and then selling it off all in order to make absolutely no money well with our assumptions that all actors in this market are rational the answer would be nobody so no beats would be supplied and the economy would be all the poorer for it fortunately however markets are not perfectly efficient consumers don't have perfect access to information and might just buy beets from the farmer that they know other farmers might have more efficient farms which means they can lower prices further while still making a profit and of course one farmer's beets might just be tastier and more nutritious than their competition because of this each farmer has a chance to turn a profit stay in business and be there to provide the world with beats next year in this example the forces of supply and demand have given the market a basic price to work round but the actual price that the beats were being transacted at were more fine-tuned by things like consumer relationships salesmanship store location within the market and also just a little bit of good old-fashioned luck this idea of supply and demand being a rough guideline around which prices are formed is a really great way to properly understand markets in the real world take something like a smartphone if a company was to charge five thousand dollars for their new phone chances are not many people would buy it that kind of pricing would fall well outside the bounds of the price dictated by supply and demand but a retailer charging 20 more than their competition for a functionally identical product offering isn't outrageous assuming that they have really good marketing now of course it could be argued that things like marketing are just influencing consumer demand and hence prices are still ultimately determined by demand which is true but this is still a somewhat backwards way of thinking about it especially if the situation in that market was to change if the world went into a recession causing a huge spike in unemployment and a rapid drop in consumer confidence you know i'm just saying hypothetically the logical economist would expect that prices would drop right alongside with it but that doesn't always really happen the classic example of this is a restaurant changing prices in a location like this could be expensive it would mean making all new menus updating their payment terminals and adjusting any marketing they have done which includes those prices this is all on top of the fact that most consumers don't even check this information ask yourself when was the last time you checked the price of a nice restaurant before you sat down for most people the first time they see what they are paying is when they get their menu and it's normally seen as pretty poor form to walk out after you've been seated because of this a restaurant might incur a huge cost to change their prices or for it to not really attract any more consumers and make even less out of the customers they do have this is what's known as sticky prices where prices have a tendency to stick in place despite external pressures trying to move them the important thing to know about this effect is that it is different for different products in different markets take something like the stock market for example this is probably one of the closest real world examples we have to our hypothetical beat market there is lots of information available in real time there is no product variance because there is no difference between one amazon stock and another amazon stock and it's filled with buyers and sellers who always want to get the best price because of this prices in the stock market are very unsticky and they will react extremely quickly to any changes in the behaviors of buyers or sellers in the age of high frequency trading these changes could literally take millionths of a second even then there are rules and regulations in place that mean the stock market has some level of price stickiness traders in these markets have good access to information but it's not perfect things like quarterly earnings reports massively impact stock prices but they are usually released to the public a good period of time after they are finalized with the accountants that put them together in fact even if you did have access to this information you couldn't actually use it to influence your buying or selling decisions without going to prison for insider trading nonetheless financial markets still have their prices change on a dime as they react to shifts in supply and demand on the other end of the spectrum are markets that are filled with a lot of emotions bureaucracy middlemen opaque information and consumers looking for more than just simply getting the best deal the markets for things like pharmaceuticals and medical treatments are almost completely divorced from our typical understanding of a competitive market influenced by supply and demand jake tran actually made a great video recently on just how complex the pricing of something simple like diabetes medication can be this is the kind of product that has extremely sticky pricing now overpriced medicine does cause a lot of social issues but it's unlikely to do something like accelerate a global economic crisis however there might be a market where pricing is pushed off course even further and that is the market for work the labor market is one of the largest operating markets in the entire world but it's one that we don't normally think of as a market because well people don't love the idea that they are selling hours in their day for money nonetheless that's effectively what the market is and companies will pay for services of their employees and the same general rules apply companies will pay a premium for workers of higher quality filled with qualifications and experience and they will probably also pay a price premium for workers that are marketed better got to make that linkedin profile pop with all of these rigidities the same issues of price stickiness come into play in an economic downturn people naturally spend less money this is either because they have lost their jobs so they have less money coming in to spend or they are fearful they might lose their jobs so they cut back on spending to try and build up a bit of an emergency fund in response to this business revenues will fall and they will be forced to cut down on expenses the biggest expense normally being personnel the problem with cutting down on staff salaries is that they are very inflexible employment contracts normally have very defined sets of conditions this much will be done on these days between these hours for this much money and yes i know employers very rarely hold up their end of the bargain around these working hours but most people let that slide so long as they get paid the amount that they were promised so if an employer tried to lower staffing costs by cutting everyone's salaries by 10 or 20 percent most employees would in no uncertain terms direct them to the location where they could stick their new wages what this means is that the only option left for the business is to let some staff go and effectively this is a lose-lose the business will be down on manpower and can't create the same output for the people that do lose their jobs they will be going out into a very difficult job market and don't think the reality is any better for the lucky employees who do get to stay on and maintain their old wages suddenly they will need to pick up the slack of their fallen comrades and they will have much less negotiating power around things like bonuses or pay rises in the future if these workers are on full-time contracts they may end up working so many additional unpaid hours that their actual hourly rate would be worse than if they had just taken the pay cut this is a very clear-cut example of a market failure the demand for labor shrinks and the supply of available labor rises if this were a gallon of petrol or a beat we wouldn't think twice about the price falling but due to arbitrary rigidities involved in employing people the price stays stubbornly high of course the outcome of a market failure is a dead weight loss which as the name would suggest is pretty bad go and watch our video on black market economics if you want to know exactly how they work but even with all of this in mind ask yourself this question your boss walks into your office and says you have a choice you and your team take a 20 pay cut or you have to get rid of whoever the worst performer on your team is it's one hard conversation with an underperforming employee versus five hard conversations with good employees so for a lot of managers out there it's a pretty easy choice to make now there is one big problem even if you can get the workforce to agree to a sweeping pay cut this will massively hinder staff morale a study of senior personnel managers from a diverse selection of countries found that when this strategy was implemented a whole lot of bad things happened staff turnover increased as high performers jumped shipped to competitors that were more than happy to take them on at their previous salaries and even the workers that remained adopted a mentality that they were only going to be paid 80 of what they previously were so they are only going to work 80 as hard as they used to which you know what honestly fair enough employment standards unions minimum wage requirements employment contracts severance requirements not to mention the emotions that come along with tinkering with people's livelihoods mean that the best economic decisions are rarely made when it comes to employment on an individual business or economy-wide level but surely there are some solutions unemployment needs to be carefully controlled during times of economic uncertainty but as we have seen silly humans with their emotions and contracts try their very hardest to create massive market failures so the responsibility then turns to governments to try and sort this mess out while also dealing with all of the other stuff that goes on during a recession now one solution is just to let people out of work claim welfare but this is of course less than ideal welfare won't maintain the quality of life that most employees normally come to expect causing a drop in living standards and consumer demand all while being very expensive for the government also not actually producing anything for the economy there is corporate stimulus where a government can just pay to keep their companies afloat in the hope that they will keep employees on board but there is no guarantee that this will work and what's the point of this anyway if the business will just go on to fail at a later date you are replacing one market failure with another market failure by doing this and finally there is the option of removing all of these rigidities from the labor market you may have heard the argument that if the minimum wage was dropped to zero dollars there would be no unemployment because employers could pay people whatever they are worth and hence it's worthwhile to just have lots and lots of people around even if they are only to fetch coffee at 20 cents an hour obviously it should go without saying that this is a radical solution and big disclaimer time it's not a solution i personally think that most economies are ready for but it's actually true a zero dollar minimum wage would lead to zero unemployment no business would pass up on a super cheap employee so long as they don't actively hurt the company or distract from other employees now the obvious issue with this is that it allows low-skilled or vulnerable employees to be taken advantage of but here's the thing businesses only employ people as an absolute last resort people are expensive and very hard to get rid of if they don't work out no business is going to hire someone even at minimum wage unless they were absolutely sure that that worker was going to make more money for the business than the additional expenses that they create this is to say that most employees should still be able to negotiate a salary which is at or above minimum wage but it just offers flexibility to businesses during periods of reduced cash flow now before the down votes come pouring in most economists that genuinely advocate for this recommend it come along with another form of protection as cold hard as macroeconomists may be we don't want to see people starving while working for 50 cents a day but consider that this policy was introduced with something like a universal basic income sure a business could try to hire someone at 50 cents an hour but they probably won't have much luck attracting otherwise comfortable workers unless they are either offering a better wage or they are hiring a beer taster now this might still seem like a pretty crazy idea one that sounds nice in theory but wouldn't work in any developed country it was actually tried in but consider this there are actually developed nations in the world today that have very similar systems in place where the government does not interfere with wage pricing you may even be able to hazard a guess as to what these corporatis wastelands are that's right it's sweden norway switzerland iceland and denmark economics may purport to be a science and maybe it is but it's certainly not an exact science creating good theories and prescribing good policies relies on us realizing this fact suggesting that the world is going to produce the same results as perfect little economic models filled with assumptions and rational consumers is silly at best and harmful at worst i've said it before and i will say it again economics is a social study and being a good economist relies just as heavily on understanding people and their emotions as it does on understanding rigid mathematical models if this can be done however we will be able to work through solutions to problems that will improve the way that we consume the way that we work and the way that we live but you don't need to wait for an economist to make those improvements you can get started right now with acorns you're all in one financial services app that puts you in control of your financial future thanks to features like acorns's recurring contributions you can finally stop trying to time the market and instead spend more time in the market simply set the dollar amount that you want to auto invest in your portfolio like five dollars per day per week or per month and then let 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Channel: Economics Explained

Views: 604,919

Keywords: supply and demand, supply and demand economics, supply and demand explained, equilibrium price, econ, quantity supplied, quantity demanded, equilibrium quantity, microeconomics, the law of supply and demand, how does supply and demand work, demand stimulation, supply and demand on a free market, stimulate the demand, aggregate demand, aggregate supply, state intervention, falling prices, rising prices, economics explained, minimum wage update 2022

Id: A-I4Vsl-AEg

Length: 20min 10sec (1210 seconds)

Published: Thu Oct 22 2020