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Profits, Equilibrium and Market Failures

It’s been a while. I have been studying some advanced neo-classical economics! It’s terribly complicated, but there is one thing that has been nagging the corner of my mind about some of the assumptions that I just want to air:

One really big premise is that completely free markets that have perfect information and limitless consumers/producers that compete perfectly will achieve this magical equilibrium where exactly the right amount of the good is produced and purchased and there is no profit or loss anywhere.

This never happens in the real world, for various reasons, but a thought occurred to me that it actually CAN’T happen. This is because both consumers and producers wriggle extra gain out of a trade by purposefully fixing their respective prices too high or too low. For example:

Demand: Qd = 100 – 2P

Supply: Qs = 20 + 2P

The perfect equilibrium price would be 20. I’ve come to realize that the price will at best be around 20, but never 20.

Something will happen like a producer will put the item on sale, offer a coupon, a rebate, SOMETHING that snags just a little bit more of the market. Neo-Classicals will say that this is impossible because producers are price takers. This is an acceptable response, but only in the long run. In the short run they can disrupt all they like. Not to mention the super-subjective value judgments like “this place is convenient” or “I feel they treat their inventory better and I like that” and so on, which could create very real long-term preference in consumers for that producer in the market.

Conversely, consumers can do the same thing. They can demand and possibly receive a discount. This is short-term as well, and according to Neo-Classicals the short-term doesn’t exist in any meaningful sense.

However, I’d like to remind everybody about the concept of “nickle-and-diming”. Because this short-term finagling is going on constantly for virtually every transaction, no perfect equilibrium – no matter how perfect the setup and competition is – will ever be achieved.

I mention this because the Neo-Classicals see a market that SEEMS like it should reach equilibrium, yet it never does. They can’t see why it doesn’t, so they have created this concept of “market failure”, and then they propose that the government should step in and do something about it; and of course this never works as intended or at all really. In reality, it seems to me that the more room the producer and consumer have to haggle, the less likely it is they will approach equilibrium, but the more they will value the sale at the end of the experience. They will each REALLY feel like they came away with something they wanted. This is something economists tend to shy away from because it’s impossible to measure a feeling, and even if you could, no two people would be the same. You can measure past preference though! And we do that through watching profits, which Neo-Classicals view as a market failure.

Here’s something more – reducing profit to zero by reaching that magical equilibrium would distort the “value to me” that each consumer or producer has. The product becomes uninteresting and I suspect that this would actually provide incentive for consumers and producers to look at other, more interesting, products. This exit would throw this product into flux and that flux would make it interesting again, but not at equilibrium.

In conclusion – this notion of market failure is flawed since it is easy to see that equilibrium is quite impossible even under perfect conditions.

Categories: Morality
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