[From Bill Powers (2002.11.18.0736 MST)]

Rick Marken (2002.11.17.2200) –

Is there any actual quantitative data that shows the Giffen effect?

Like a >plot of per capita consumption of bread increasing as the

price of bread >increases?

I don’t have any, of course, but I’ve thought of another dimension in

which the Giffen effect can occur. Maybe this will lead to still

others.

Instead of money, consider time. We have only H hours of productive labor

we can produce per day. Suppose we budget this time two ways: we work

part of the day at job A, and the other part at Job B. Job A pays more

than job B. What happens now if the wage for Job A is reduced, although

it remains higher than the wage for job B? The answer, I think, is that

we have to work more at Job A, the one for which the wage was reduced.

This assumes that the total time is limited to H hours, so it’s not

possible to add time to one job without reducing it for the other. In

that case we have to add time to the job that that pays more when its

wage is reduced, in order to maintain sufficient income.

In this example, money takes the place of calories and time takes the

place of money relative to Bill W.'s example,

If we can’t add more time to the job that pays more, then reducing the

pay for the lesser job will lead to increasing the time spent on that

job, which also increases the total time spent working. And if we can’t

physically work any more total hours, we have to accept the lower

income.

I believe there are even single-good cases that might work: Bill W. and

Rick, what do you think? Suppose you have a reference level for good A,

and must pay money (i.e., work) to obtain that amount of A. What happens

when the price of A is raised? There are only two long-term possibilities

that will not lead to chronic error: reduce your reference level for A,

or put out the extra money needed to maintain it at the former reference

level. If A is an optional good, the first solution is feasible. You get

a normal downturning price-demand curve. But if it’s a necessity, like

food, the only option is to spend (work) more on A and continue to eat

enough to stay alive. So the higher the price, the more you pay. Maybe

this comes out the same as the original Giffen effect when you include

the reference level for the “necessity.”

Note that this doesn’t increase the amount of A that you get; in fact it

reduces it a little unless the customer is a perfect integrating control

system. There is no demand for *more* A when the price is raised.

But neither is there a demand for less, and if you measure demand in

terms of money flow, the demand increases because the increased price is

paid.

I hope we’re not losing track of my other suggestion, the one for

explaining a down-turning supply-demand curve. Suppose there are 100

people who want to see movies. Their reference levels vary from 2 movies

per day to 1 movie per 14 days, with a mean value of 1 movie every 5 days

(0.2 movies per day). Let’s say that nobody wants to see less than one

movie every 14 days, or more than 2 movies per day.

If only one movie is made every 30 days, then nobody will be seeing as

many movies as desired; errors be maximum for just about everybody. The

price can be raised quite a lot before anybody refuses to pay it.

Now increase the rate of movie making from 1 every 30 days to 1 every 25

days. The errors will still all be very large, and the price can be kept

nearly at the same level without losing customers.

When the rate of movie-making becomes something like 1 every 18 days, the

people who want to see 1 every 14 days will experience less than maximum

error, and will refuse to pay so much to have movies made any faster.Now

the price has to be lowered to induce them to keep seeing movies. As the

rate of movie-making rises even more, it will surpass the desires of more

and more of the hundred people, necessitating even more price-drops to

maintain attendance. Finally, at the highest rate of making movies,

everybody will be satisfied and the price will have to go to rock-bottom

to keep attendance up.

In other words, I propose that the observed relationship between supply

and demand for a *population* is a smeared-out version of the curve

for an individual. If only one person wants one good, then the curve will

show the effort (price willingly paid) decreasing steeply as an

increasing amount of good obtained approaches the amount wanted, going to

zero when the amount equals the reference level. When the amount obtained

equals the reference level, the marginal propensity to consume goes to

zero.

When there are two people with different reference levels for the same

good, the rising price will result in first one person, then the other,

reducing the amount willingly paid for the amount recieved. When there

are 10,000,000 people with widely varyied reference levels and loop gains

relative to a given good or service, there will be a broad decline of the

number willing to pay as the price increases over a wide range. If we

take PCT as a set of first principles, that is a derivation of the

population supply-demand relationship from first principles.

Best,

Bill P.