Is Consumer really the King?

In free market economics, consumers dictate what goods are produced and are generally considered the center of economic activity. [Wikipedia]

Is the price of commodities and services determined by the consumers? Does the consumer have significant control over the prices of good they purchase through their ‘purchasing power’? Or is it just a farce?

Who is a consumer?

Consumer is an individual who has the necessary purchasing power to consume good and services.

On Consumerism

The prices in an economy are said to be dictated by the consumers. The law of demand states that ‘other things remaining the same, as more and more good are demanded, the prices rise and vice versa.’ In accordance to this law, when the consumers demand a great amount of a particular good or service, their prices tend to rise. The reasoning behind it being, when there is more demand, the producers raise the prices in order to acquire a larger profit arising out of the increased demand.

Consumer and ‘Choice’

The consumer is always at an advantage when there is competition because competition means choice. Their votes determine the fate of the manufacturer or service vendor. [Pai 2001]

The theory of consumer choice in Economics states that consumers take into account the following factors before making a purchase. They are

1) How much satisfaction they get from buying and then consuming an extra unit of a good or service

2) The price that they have to pay to make this purchase

3) The satisfaction derived from consuming alternative products

      4) The prices of alternatives goods and services

[Source: Tutor2u]

Rarely do consumers make this kind of analysis. Moreover these days, all sorts of attractive offers are given along with commodities and even services, which attract the consumer towards a particular commodity or service. In the R and D labs of the companies, huge chunks of monies are invested to create a brand image and to promote the product. The scary thing being, the advertisements go to which ever extent possible to attract the consumer.

Rather than the consumer going through the price of alternatives, the company in question provides a comparison table along with the advertisement; making it easier for the consumer. (Hopefully!)

If the consumer had the resources to make the above mentioned comparisons and then make a transaction based on that, probably the consumers would have been the King. Moreover, most of the information is kept as secret by the company. With regard to the existing informational asymmetries in the markets, the Right to Information Act passed by the Government of India is a welcome step.

Asymmetric Information and Consumers

Asymmetric information in markets is aggravated by the advertisements, as they portray the best in their respective products, by employing the best possible personnel. This not only distorts the true image of the product, but also places the consumer in a difficult position. [Thomas 2006]

Conclusions

Thus, in an economy characterized with sharp informational asymmetries, the presence of trans and multi national companies, a booming advertisement market coupled with more than 50 per cent of the Indian populace earning less then $2 a day, the consumers will really find it extremely hard in making informed choices.

References

1) Alex M Thomas, The Economics of Information, Undergraduate Economist, 2006.

2) M.R. Pai, Consumer Activism in India, 2001.

 

UPDATE

This article which was pointed out to me is an article too important to miss.

Montague’s hunch was that the brain was recalling images and ideas from commercials, and the brand was overriding the actual quality of the product.

While neuroscientist Montague’s ‘Pepsi Challenge’ suggests that branding appears to make a difference in consumer preference, BrightHouse’s research promises to show exactly how much emotional impact that branding can have.

Thanks to Riot, who pointed out this interesting yet shocking read.

The Economics of Information-Part 1

Information in Markets

Generally, we take information to be a collection of facts from which conclusions may be drawn. If the facts tend to be accurate, then so do our conclusions. In the present market economy, information is more or less incomplete and distorted. The discipline of Economics assists us here.

First we need to define and understand what a market is, and then we need to know about the major players in the market. Market is the institutional framework within which the act of exchange takes place or the institutional milieu which is the context of the relationship of exchange between the parties. [Kurien 1993] A market is said to be efficient or in perfect competition if all the participants are fully informed about the various prices and quantities prevailing in the market. This is said to be laputan or impractical. Producers earn profits (Both normal and super normal) based on the fact that they are more informed than those buying from them. The consumers analyse and speculate, and reach conclusions based on that, thinking that they have made the best choice; where as in reality, it is not so. Most often, complaints are hurled at the firms for cheating the consumers and for being opaque in their dealings. This is known as asymmetrical information or information asymmetry.

An exchange or a transaction in a market, is a kind of zero sum game, where a gain for one participant is always at the expense of another. This is so, if we view the market as a separate entity from that of ours. In reality, the whole economy is like a spider’s web, woven closely together which makes its difficult to separately study them.

The main reasons for the exit and entry of firms is based on asymmetrical information. The feeling of ‘more information’ can attract you to the market as well as make you exit from it.

Information system is a crucial and often conveniently ignored component of a market. According to C T Kurien, the major determinants of a market are location, medium of exchange, institutional framework, intermediaries and the information system. [Kurien 1993]

The 2001 Nobel Prize for economics was awarded for the analyses of markets with asymmetric information. George A. Akerlof noted the ‘Lemon Problem’ in 1970. His popular example is that of a second hand car market, where sellers know whether or not their car is a lemon (i.e. perform badly), but where buyers cannot make that judgement without running the car. Given that buyers can’t tell the quality of the car they are buying, all cars of the same model will end up selling at the same price, regardless of whether they are lemons or not. But the risk of purchasing a lemon will lower the price buyers are prepared to pay for any car and, because second hand prices are low, people with non-lemon cars will be little inclined to put them on the market.

Asymmetric information in markets is further aggravated by the advertisements, as they portray the best in their respective products, by employing the best possible personnel. This not only distorts the true image of the product, but also places the consumer in a difficult position.

This phenomenon is present in all spheres of economic activity.

References:

1) On markets in economic theory and policy-C. T. Kurien

2) If Life Gives You Lemons …-Tim Harford

3) George Akerlof, Nobel Prize lecture video