Why the Dow’s rise isn’t a sign of President Trump’s great policy for me

The featured photo is licensed under the Creative Commons Attribution-Share Alike 2.0 International license, and was taken by Gage Skidmore.

Characteristically, President Trump has recently been all about showing off how well he’s performed in his first year as one of the most powerful people on Earth. While for myself and some others his first year has been unsuccessful (to put it mildly), Trump is dead set on proving us naysayers wrong largely by using the sustained rise in the Dow Jones Industrial Average (an index showing how shares in 30 of the US’ largest companies have traded over periods of time) during his presidency. While at first glance well-performing large companies may seem to indicate that the economy as a whole is performing well (which it is currently), in this article I will make and support two propositions: firstly that the current US economic boom is unsustainable (assuming the Dow is a good measure of current economic performance), and secondly that the Dow, either way, isn’t a very good reflection of how the economy is doing.

Looking more in depth at our first strand of argument, while business spending increases have allowed the US economy greater than 3% economic growth over the past two quarters, the Trumpian tax cuts for corporations and the wealthy run the risk of actually increasing the American budget deficit (exactly the opposite of what many Republican deficit hawks campaigned for). Politically, this becomes very difficult for the Republicans to justify, but more than that, the fact that that according to the Tax Policy Centre Trump’s plan actually would hurt the lower 50% of income earners represents a decrease in future consumption and thus a decrease in US short run (and long run if firms then stop investing) economic growth arising from this set of policies. Essentially, then, the point I’m trying to make here is that hurting the little guy may boost growth in the short term, but in the long term when real after-tax incomes and consumption fall, the economy might not be doing so great. This is because the rich consume less than the poor for an equal addition to income, so even though the rich get richer, it might not actually boost consumption and growth all that much. So Trump can be happy with the buoyant Dow and economy for now, but he should know it may not last long.

Taking the issue from another perspective weakens Trump’s Dow-focused point further. If we look at who the Dow Jones’ rise actually helps, we see that it serves to increase income inequality further. A NYU report in 2013 showed that the richest 20% of Americans owned 92% of stocks, indicating that the benefits from the Dow’s rise are not equally distributed. Even if we look at the Dow’s rise in isolation as a sign that the economy is doing well, we still see numerous faults with the theory. By seeing what the Dow actually is, and how it may have been affected by recent news, we can see that it may have been buoyed by Trump’s plans to cut business taxes and not actually an improving economy. Within this plan, Trump has also presented changes to the individual tax code that disproportionately benefit the wealthy, but although the American middle and lower economic classes may not actually benefit from his plans, the Dow is rising. This one example shows the divorce that may exist between the performance of large companies and the economy in general; income inequality worsens the economy through decreasing growth, but tax cuts boost large corporations’ after-tax profits. Hence, through this example we can see that the Dow Jones may not be able to accurately gauge US economic performance, putting another dent in the logic behind some of Trump’s recent tweets.

To summarise and conclude, I have established in this piece why I think that President Trump using the Dow Jones Industrial Average to cement his claim to doing well in his new job is flawed. This is both for reasons relating to economic unsustainability, and also because the Dow doesn’t actually tell us how the economy performs all that well. On another, slightly related note, this sort of issue is why I think that the backlash against experts these days is so unhelpful. The things I’m saying here would be much more credible if an actual expert was saying it, but without experts there are no credible voices to inform people that their President may not actually be doing the wonders for the economy that they think he is. I sincerely hope that in the future we can arrive in a world where experts are given the respect they deserve, and are able to call out any figure for saying something potentially wrong without being disregarded because they can’t predict a world that is fundamentally unpredictable. Without it, well, we’ll have lost one crucial, perhaps vital, check on people in positions of great power.

Price discrimination: the bane of consumers everywhere

Photo by James Petts. This file is licensed under the Creative Commons Attribution-Share Alike 2.0 Generic license.

If you’ve been to two different branches of the same retailer, one in the heart of London and one in a less central area, chances are you’ve been a victim of price discrimination. The “discrimination” part of this phrase is probably ringing a few alarm bells with you already, but in the end, price discrimination is just another (relatively harmless) way of firms’ seeking to maximise profits, as basic economic theory states that they do. But what is price discrimination? Essentially, what this is is when firms charge different prices to different buyers for the same good or service. This manifests itself in many forms in our daily lives, from our taking advantage of age discounts to the annoyance we feel when paying large amounts for coffee in Leicester Square. Whilst often denounced by many as simply a discrete form of consumer exploitation, I see it as an ingenious tactic employed by firms to yet again slip under the watchful eye of the average buyer; however, the reason you don’t see price discrimination employed in the real world as often as you thought it might have been is because there are a certain set of criteria that need to be fulfilled in order for price discrimination to take place, the first of which relates to price elasticity of demand.

Intuitively, one of the only reasons that price discrimination works in the first place is because different groups of people will think differently about changing their quantity demanded in response to the change in price of a good or service. Hence, a prerequisite for price discrimination to be viable is that the price elasticity of demand (the responsiveness of demand after a change in a product’s own price) by different consumer groups is different. If the price elasticity of demand for a product were to be similar for two different consumer groups, they would both, ceteris paribus, reduce their quantity demanded by around the same amount for an equivalent increase in price, therefore rendering this pricing strategy ineffective. The firm will also need substantial information about consumer preferences to be able to confidently change the prices for the same good for different consumers, which may prove difficult for a number of firms that are strapped for cash and cannot easily carry out the essential market research. The firm must also not be operating within a perfectly competitive market (otherwise any attempt at price discrimination would simply result in the firm’s getting priced out of the market), and with this, there cannot be a great deal of market seepage (whereby consumers buy the good/service where there is a high price elasticity of demand and sell where demand is comparatively inelastic).

As with many business strategies, price discrimination can take many different forms, with their severity denoted by the “degree” suffix, with first being most severe, and third being the least severe. First degree discrimination is when a particular firm produces products for the same marginal cost, but then sells each product at a different price, depending on the consumer. For example, if I were to want to buy a packet of crisps at a Tesco in Harrow, I’d find that the price of a packet would be quite comparatively cheap. Why? Because I’m surrounded by other retailers that could potentially take my money as opposed to Tesco, and more importantly, I, like many others buying a packet of crisps in Harrow, am likely not in any sort of hurry to buy one. If I’m in bustling central London, however, and am running late to meet my friends, then I’d want to buy a packet of crisps as quickly as I possibly can. Here’s where firms can exploit you. Because you’re less willing to look for alternatives in central London than Harrow, firms can charge you a higher price here, due to the price elasticity of demand for this consumer group being lower than it would be in Harrow. This reduces consumer surplus for the consumers in central London, while giving firms higher revenues. Clever, isn’t it?

Let’s now move on to second-degree price discrimination. Basically, this is when the average cost per item decreases when you buy the items in bulk. This can be used by companies who are not able to pick apart consumer groups as well as the ones carrying out first-degree price discrimination, for example. When companies want to shift excess supply due to changing consumer preferences, for example, they could potentially use this form of price discrimination as although profit margins will be hit, they get the double benefit of at least making some profit on the items and also shifting the excess stock that they needed to shift. This is quite frequently also employed in major retailers such as Tesco and Asda and also at restaurants such as McDonalds and Burger King in order to shift stock of items that just aren’t selling very well any more. Second-degree price discrimination is not exclusively limited to these scenarios, however, and could be used in a wide variety of other contexts, although it has to be said that this form of discrimination is probably quite ineffective in general when compared with the former.

Finally, we move on to third degree price discrimination, which is perhaps the most widely employed in everyday life. Unlike the previous version of price discrimination, this relies heavily on differentiation between different consumer groups. Normally, what happens is that a firm (for example a company offering trips to the cinema) splits ticket prices (broadly) into adults, seniors and children, due to the latter two having a higher price elasticity of demand than adults, for whom the cost of a cinema fare is a comparatively small proportion of their income. The firm attempt this only if if they feel that P1Q1 + P2Q2 + P3Q3 > P0Q0, where P1 and Q1 are the price and quantity demanded for adult tickets respectively, P2 and Q2 are the price and quantity demanded for senior tickets respectively, P3 and Q3 are the price and quantity demanded for child tickets respectively, and P0 and Q0 are the price and quantity demanded had there been a uniform ticket price for all ages of people. Given that first-degree price discrimination occurs quite rarely, and second degree price discrimination is comparatively ineffective, this form of price discrimination is the most lucrative for a potential firm to engage in.

So now we come to the question: is price discrimination ethical? Well, it depends. The profit motive is always going to encourage firms to try to maximise their revenues while minimising their potential costs, and this obviously means that some consumers will lose out; however, the fact remains that price discrimination strategies are employed by firms only because they work, plain and simple; they generate more profit than they would have done without these price discrimination strategies, meaning that the targeted consumers are, by and large, still willing to buy goods for which the strategies are employed, even if they don’t know exactly what firms are doing behind the scenes. Simply, this is just another development in the cat-and-mouse game that is firms’ trying to maximise profits and consumers trying to maximise potential utility, and the fact that firms are finding this worthwhile to do shows that we as a society don’t really have an objection to this happening, even when it’s happening right in front of our eyes (as shown in the third degree price discrimination example above). As firms continue to become more and more savvy to make profits, it’s down to consumers to ensure they’re not being continually one-upped by price discrimination.

So consumers, the ball is in your court.

Game theory: A gem of microeconomics

Microeconomics has many captivating branches within it, but the newest and most exciting one has to be game theory. In fact, just two years ago in 2014, the Nobel Memorial Prize in Economic Sciences went to the game theorist Jean Tirole. This is indicative of just how far game theory has come in such a short time, since John von Neumann set the building blocks for game theory not even a century ago, in 1944. Nowadays, it is an essential part of microeconomics, which helps one understand how firms operate in a variety of different situations. But what exactly is it? Continue reading “Game theory: A gem of microeconomics”