Value And The Consumer
( Originally Published Early 1900's )
1. Suppose the consumer cannot sell.—In this chapter we shall consider the important subject of value entirely from the consumer's point of view. Since all goods are made to be consumed, their value to consumers is of decisive importance.
To the consumer the value of any article depends upon its utility, upon how much he wants it, upon how much satisfaction he expects to get from its consumption. No man will pay a dollar for an article unless he believes he can get a dollar's worth of satisfaction out of it. If he is choosing between different articles he will take the one that promises him the greatest pleasure; that is, the one which seems to him to possess the greatest utility. One man, for ex-ample, may spend his dollar for ten cigars, which he may consume in a day; while another would buy enough pipe tobacco to last him two weeks and think of the other fellow as possessing a foolishly extravagant taste. The first man might get no pleasure from an ill-smelling pipe and condemn what he deemed the vulgar taste of the second. He might, however, refuse absolutely to pay more than ten cents for a cigar; and if the price of tobacco were advanced the pipe smoker might reduce his consumption or change to a cheaper brand.
To the producer the value of an article is closely related to its cost of production. He wants a price that will cover its expense of production. If costs rise he thinks values must rise.
To the trader, who neither produces nor consumes, the value of an article depends on the law of demand and supply.
In this chapter we shall leave both producer and trader out of consideration. We shall think of goods solely in relation to the consumer, and we shall assume that the consumer is not in a position to sell or ex-change any of the goods in his possession. He buys goods for the satisfaction he gets out of them, but he does not sell. For example, if each of six dear friends should give you a gold watch, all of the same make and quality, how much would you value each of those watches? Of course if you can sell five of them you would value them all at somewhere near their market price; but suppose your conscience won't let you sell them because they are gifts of friendship, then you would be facing the consumer's problem.
2. Utility of consumable goods.—A consumable
good is one which gives pleasure or gratification directly to the consumer; for example, a suit of clothes, a fountain pen, a cup of coffee or tea, roast beef, the furniture in our homes.
The amount of goods consumed by a man depends upon his income as well as upon his tastes. While a man of ordinary income might get great pleasure out of a high-powered automobile, yet its purchase and upkeep would make such a serious inroad upon his income that he would have to sacrifice so many other pleasures and comforts that the net result might be loss of satisfaction, and therefore discontent. Almost unconsciously men are weighing desire against desire, seeking to expend their money income in a way that will yield them the greatest psychic income. Each one of us is up against the law of diminishing utility just as a farmer is up against the law of diminishing returns. A man who can satisfy only a few wants, or who is not wise enough to seek variety in consumption, leads a monotonous life and is always liable to the evils of satiety and ennui.
Consumable goods are the ultimate objects of production. The trees of the forest are felled in order that they may be made into houses, boats, furniture, etc. Some of them become the handles of axes, hoes and rakes or the parts of work wagons, but all these goods possess utility solely because of their usefulness in the production of consumable goods. The ax is not a consumable good except to a man who, like Gladstone, gets pleasure from chopping down trees.
3. Utility of capital goods.—The goods mentioned in the last two sentences of the foregoing section are called by economists capital goods or producers' goods. Their utility is only indirectly related to human wants. Indeed, many of them are offensive to the senses no matter how desirable their final product.
Many of our factories are architectural monstrosities. Slaughter houses, packing houses, glue factories and fertilizing works give rise to continuous complaints from people living within several miles of their location. Elevated railroads in cities are declared a nuisance by people who own real estate in their vicinity. John Ruskin never tired of railing at the nineteenth century manufacturer who would slaughter a landscape or befoul a river in order that the rich might have more luxuries.
Probably as the feelings of men become finer, more and more attention will be paid to the aesthetic side of producers' goods. A tool or a machine or a factory can be beautiful as well as useful. Indeed, the French and the Japanese have already proved the truth of this statement, many of the useful products of their manufacture deserving in a sense to be called works of art. The Anglo-Saxon, however, and especially the American, has had his mind mainly bent on usefulness, convenience, speed, economy of production, and too little upon beauty. In this day of dollar watches why should the factories of a city still assault our ears morning, noon and night with their batteries of whistles? In these days of high cost of living why should the factories of towns and cities be permitted to dump poisoned refuse into rivers and so destroy the fish as well as the charm of the streams? In a model city the buildings of a manufacturing plant would be good to look upon and their location would be such that the necessary noise and smoke would not annoy the consumer.
But the utility and value of producers' goods are the result, not of any beauty which they possess, but of their efficiency in the industrial process which has for its end the production of consumable goods.
4. Marginal utility.—In order to give brief and concrete expression to the thought or general principle laid down in the law of diminishing utility, economists have invented the phrase marginal utility. They mean by it the utility of any single unit of a commodity as determined by the amount of the existing supply.
For illustration, let us return to the case of the poor man with only one shirt. To him that shirt must evidently possess great utility. Perhaps he has to stay in bed while his wife carefully launders it. Its utility and its marginal utility are the same, for it constitutes his whole supply. But suppose he gets a second shirt. Then neither to him nor to his wife will a single shirt seem such an important thing. The second shirt will be just as useful as the first, but he will not value it so highly as he did the first, and it should be noticed that his former high regard for the first shirt will have disappeared. Each shirt possesses to him the same utility, and that utility is less than the utility of shirts when he owned only one. Since he probably gets more satisfaction out of two shirts than he did out of one, we cannot say that to him the utility of shirts in general has declined, but merely that the utility of each shirt is less, that he wants each less because he has the other as a substitute; and this fact economists express by saying that to him the marginal utility of shirts has declined.
Now suppose that thru the deaths of. certain relatives he falls heir to twenty shirts and that he has no bureau in which to keep so many, suddenly a shirt has become to him an unimportant piece of apparel. He has more than he wants and would not grieve if his wife should ruin one on the ironing board. This would mean that to him shirts possessed no marginal utility, which is only the economist's way of saying that his supply of shirts exceeded his possible needs as a consumer.
5. Marginal utility connotes supply.—The reader should not fail to note that the phrase marginal utility always connotes the idea of supply. When the sup-ply of wheat increases in a country, assuming that there is no change in the demand, economists say that the marginal utility of wheat tends to fall. That is only another way of saying that each bushel of wheat in that country has become of 'less consequence or importance as a means of gratifying men's wants. On the other hand, if the world produces only half the usual crop of wheat, then a bushel of wheat increases in importance and wheat is said to possess greater marginal utility.
The word marginal is employed because economists first thought of the law of diminishing utility in its relation to successive acts of consumption performed by a single individual. For example, take a man who likes apples and who has not eaten one since yesterday. If he has before him two apples he may know by experience that he will get equal satisfaction out of the eating of each apple and will not willingly part with either. If a third apple is added to his stock he may regard it with some indifference, for he may know that its eating will give him less pleasure than he gets from the first and second apples. This means that he wants the third apple less than he wanted the first and second. It means also that each one of the three apples possesses to him less utility or is less desired than was either of the two apples when they constituted his total supply. The third apple conceived of as added to his supply is spoken of as the marginal apple and its utility represents the marginal utility of apples when the supply is three. If ten apples are before him, the utility of each apple is no greater than the utility of the tenth added to his supply. And if we assume that the apples would be unfit to eat on the next day, it is pretty certain that he would be willing to give away part of his stock. In other words, with ten perishable apples before him the marginal utility of apples would probably become zero.
6. Marginal utility and value.—It must be evident to the reader that marginal utility and value are very closely related. Indeed, in the foregoing section I have used the word value as if it were almost a synonym of utility. I have said that a man possessing only one shirt values it more highly than if he possesses twenty. Here I was using the word value subjectively to indicate the importance of a unit of a good in the judgment of its possessor. In this subjective sense we value all goods which we are asked to buy or which we think of producing for our own consumption. A man who cultivates vegetables for his own table necessarily gives some 'thought to the number of rows that shall be in peas, the number in beans, the number in corn, and so on. Two rows of corn he may value highly, a third row less, while he might decide that the yield of a fourth row would be of less value to him than a row of turnips. By subjective value is meant the importance which man attaches to any object as a means of gratifying his wants.
But in business, as we have said, the word value means exchange power: the value of a bushel of wheat is what you can get for it in exchange. It is evident that the exchange value of any article is somehow very dependent upon its subjective value or utility to the consumer. Subjective value fixes the maximum above which the exchange value cannot rise. Since all buying and selling is done with money, we can at any time think of value and price as being synonymous and speak of values in terms of money. When we say that subjective values fix the maximum of ex-change values, we mean merely that a man will not pay more money for an article than he thinks it is worth to him. If the producer asks a higher price the consumer simply does not buy. He has the last word in the process of bargaining. If he does not like the price he spends his money in some other way, which he believes will yield him greater satisfaction.
Since the marginal utility or subjective value of an article tends to decline as the supply of it increases, it is evident that its exchange value must tend to decline at the same time, for consumers subjectively, valuing it less, will not buy unless the price' is lowered. On account of this fact economists of the ultra psychological school hold that marginal utility and value are virtually identical or at least that the value of an article is the market expression of its marginal utility. As we shall see, this statement is not strictly correct, for we shall find that marginal utility is not the only factor nor the dominant factor in determining the value of a good. In the next chapter we shall discover that the cost of production of the good is equally important.
7. Classes of consumers.—But the reader may ask, "In this world's great and conflicting markets, of what significance is a man eating red apples or a man who owns only one shirt?" What possible bearing can their desires and feelings have upon market prices? The laying out of a garden is simple enough. Any-body knows that a man would be a fool if he put in more corn than his family wants to eat, but what has that got to do with the market price of cotton, steel rails, locomotives, Panama hats and automobiles?
Simply this. All the bargaining, buying and selling and price fixing in the world's markets are determined by the same elemental forces which we have described in the man eating apples or the man who had only one shirt. In order that the reader may see the truth of this statement clearly and begin to unravel the apparent snarls of the markets he must first take note of the fact that in any civilized country there are many different classes of buyers or consumers.
In the first place, we may roughly divide consumers into three classes—the rich, the middle class, the poor. A rich man may want an article no more than a poor man and yet be willing to pay a higher price for it because he values money less. Take, for example, a simple article like milk. A one cent advance in the price of a quart of milk will not lessen its consumption in the rich man's family, but it will in many poor families and many housewives of the middle class will begin to be more economical in its use. Some consumers of meat consider it a necessary of life and do not stop its consumption even tho its price greatly rises; an advance of the price drives others to the consumption of fish, and still others to an increased consumption of beans, peas and other vegetables rich in proteids.
In the case of all commodities, as dealers and manufacturers know very well, there are different classes of consumers. Some buy liberally without much regard to the price while others are most sensitive to price changes. Out of cotton are made fabrics of great importance to the poor. People of the middle class and the rich will not increase their consumption even tho the price greatly declines; hence an unusually large crop of cotton in normal times results in the fall of the price out of proportion to the. increase in the supply.
So in the case of each commodity there are different classes of consumers, some much more sensitive than others to changes in the value, some indifferent as to the price, who consume the customary quantity regardless of what they have to pay for it, others who-reduce their consumption or stop consuming altogether as the result of a certain advance in price.
8. The marginal consumer.—The consumer who is least anxious to buy and consume, whether because his want is the least intense or because his purchasing power is small, is called the marginal consumer. An advance of the price drives him out of the market; he gives up the article altogether and looks for a substitute which will be cheaper. His place as marginal consumer has been taken by another, by one who is barely willing and able to pay the higher price. On the other hand, if the price is lowered another type of marginal consumer may come into the market, one whose desire for the good is less intense or whose means are less ample even than those of the first. Thus any change in the price of an article affects the quality and rank of the marginal consumer who buys it.
When we take into account the fact that society is virtually divided into many different classes of consumers, different because of their tastes and incomes, we can see clearly why it is that a change in the market price of a commodity brings about a change in the effective demand for it, why a rise in its price causes one class of consumers to hold off and so to reduce its consumption, and why a lowering of the price brings into the market a new class of consumers causing increased sales.
In any industry the marginal consumer class is of great importance. That class and the one just below it are the ones to which the appeals of the advertiser must be especially directed. In fact, from this point of view we might define the essential aim of advertising as being able to hold the marginal consumer and gradually to lower the margin of consumption, so that people who are now indifferent to an article because of its price or lack of desire for it shall be persuaded to buy it. To some people the telephone is almost a necessity. They will have it in their offices and in their homes almost regardless of the price. To others it seems a luxury which they can hardly afford. Among these latter are found the marginal consumers and those who are almost persuaded. It is to these that the advertisements of the telephone company should be addressed.
9. Marginal concept in other fields.—This marginal concept is a useful one outside of economics. In politics we might speak of the marginal Republican, meaning thereby the dissatisfied man who votes the Republican ticket with reluctance, not certain that he should not vote with the Democratic or some other party. The "spell binders" should aim their oratory at him and not be content merely with the expression of sentiments which bring applause from the majority.
The slowest ship in a battle fleet might be called the marginal ship; it limits the speed of the whole fleet.
A teacher must pick out the marginal student in his class. Shall he lecture so clearly and simply that even the dullest student can understand? Or shall he take those that are 20 per cent higher in intellectual ability and be satisfied if he make his expositions and explanations intelligible to them, letting those more dull flounder as they please? Every teacher unconsciously does this, altho some think they have in mind the capacity of the average student. But that cannot be true, for there is no such thing as an average student.
The preacher to be effective must make his strongest appeal to the wavering, uncertain ones almost ready to renounce their evil ways, as well as to those members of his church who are sliding backward.
10. Consumer's surplus.—As we have seen, the wants of men differ greatly and are subject to diminution as they are gratified. A man's valuation of money depends very much upon the amount in his possession. The more money he has, the higher the price he is willing to pay for the gratification of any desire., Of two men who want an article with equal intensity the one who has the more money is likely to be willing to pay the higher price.
We have also seen that the price or value of an article is somehow related to its marginal utility, tending to coincide with it. We have seen that the price of an article must be one satisfactory to the marginal consumer, the one who is willing to pay the least for it.
It follows, therefore, that many of us are able to buy articles at prices lower than we would be willing to pay if necessary. Many people get milk at ten cents a quart who would buy just as much at twenty cents a quart if that were the market price. But the marginal consumer keeps the price at the lower figure, for if it is advanced he stops buying and the product is not sold. Many of us would buy as many lead pencils at ten cents apiece as we now buy at five, but the marginal consuming class of buyers forbids the advance; if it were made they would stop buying and the whole product could not be marketed.
Thus it happens that the prices or values of articles in the market, in so far as they are determined by the will and desire of purchasers, represent the intensity of the desire of the marginal consuming classes and not the average of the total desire for the article. Hence most of us are able to obtain with our money the enjoyment of goods for which we would be willing to pay a higher price if we had to. If a man is willing to pay a dollar for an extra pair of suspenders but is able to buy them for fifty cents, he is evidently getting a dollar's worth of satisfaction at half price.
Economists call this unpaid-for satisfaction the consumer's surplus. It may be defined as follows: That part of a consumer's satisfaction or enjoyment which is more than sufficient to compensate for the sacrifice necessary to obtain it.
The marginal consumer gets no surplus. He is barely compensated for the sacrifice he makes. All above him who desire the article more intensely or who have more ample means to purchase, are assumed to get more satisfaction than they really pay for.
11. A Yankee auction.—An auction is a device adopted by the seller to circumvent the law of diminishing utility and destroy the consumer's surplus. In a market uniform prices prevail. A seller cannot ask a high price of one buyer and a low price of another unless he is willing to lose standing among his customers. But at an auction the buyers are shrewdly put into competition with one another and out of each buyer is coaxed the price which he is willing to pay.
In rural districts, especially in New England, auctions of household goods and farm implements always attract crowds from many miles around, some intending to buy, others seeking diversion. When a farmer advertises an auction of his property, his neighbors sometimes utilize the auction to dispose of surplus furniture and china, having discovered that in this way they can get better prices than if they try to sell their stuff at a fixed price.
Let us suppose that Ezekiel Jones announces an auction of his household belongings and that a grand-father's clock is listed on the bill. Let us suppose also that three men go to that auction with their minds made up to bid for that clock. One has been urged by his fiancee to buy it for their new home, and he has resolved to bid up to $75 rather than not get it. The wife of the second has expressed a desire for it and he has fixed the limit of his bidding at $50. The mother-in-law of the third has expressed a desire for the clock and he has resolved to bid at least $25 for it.
So when the clock is brought forth the third man starts the bidding at $10; the second raises him to $15, and the first goes up to $20. The first goes to $25, then drops out as the two other bidders push the price on up to $50; then the second man drops out, and the first man has no competition except perhaps the bidding of a shrewd confederate of the auctioneer, who may push the price up to $75, at which the clock goes to the man who wants to please his sweetheart.
Half an hour later, let us suppose, a second clock is brought forth, just like the first. Again there is lively bidding, but the man who has bought a clock takes no part. To his disgust he sees the second clock, which is quite as fine as his own, knocked down at $50. Then suppose that half an hour later a third clock of the same sort is brought out. There is only one man in the crowd who wants it, but by the aid of the auctioneer's confederate he may be forced to bid up to $25.
Thus the three clocks are sold for a total of $150, whereas if they had been price-marked and sold as in a market, each having the same price, that price could not have been above $25, for at a higher price only two of the clocks would have been sold. In this and in other ways a shrewd auctioneer can always earn his fee.
12. Economic life of commodities.—The reader may object to the foregoing illustration as not being pertinent because the farmer might have priced the three clocks at $50 each, sold two of them, and then have taken in more money than by selling all three at $25 apiece. He might better, it will be said, have sold two clocks at $50 apiece and kept possession himself of one clock.
This objection or criticism overlooks the fact that virtually all goods are now made to be sold and that there is a definite period during which they must be sold. In the case of the Yankee auction we assumed that the goods must all be sold on a single day and showed that the sale by auction was more effective than a sale by fixed price. A similar assumption can be made with respect to all commodities.
By the economic life of a commodity is meant the period during which it retains its utility and is there-fore in demand. The economic life of berries and other fruit is very brief they must be sold within a few days after picking or their utility will vanish, a fact which accounts for the bargain prices for fruits on Saturday evenings. The utility of some other goods depends on the seasons, lasting only a few months; hence the bargain prices for summer goods late in August. The utility of yet other goods is due to fashion, and fashion is a capricious goddess; things that please her today have no charm tomorrow.
There are many other reasons why goods must be sold within a definite period. The most important one is the producer's need for the restoration of the capital which he has paid out in the hire of labor and in the purchase of raw materials. His bank will carry him for a time, but that means the payment of interest and is expensive. Whether his goods are perishable or not, he wants back the value which is tied up in them, and he would rather sell at some sacrifice than become too heavy a debtor at the bank.
In some measure, therefore, the consumer holds the whip-hand in the fixing of prices. He is not obliged to buy any particular article, yet the producer in a way is obliged to sell. For this reason the marginal consumer becomes a personage of exceedingly great importance in any industry.
13. The market price.—Furthermore, in contrasting the Yankee auction with existing business conditions, the reader should take note of the fact that in an ordinary market many sellers are competing with one another and that no one of them is able to fix the market price, whereas at the auction there was an apparent lack of competition among the sellers. Ezekiel may have kept the $75 received from his clock, but he may have agreed with the owners of the two other clocks to divide the proceeds of their sale evenly between them.
In a market there are no such agreements and no such differences in price. At any particular time the market price of any commodity tends toward that figure which in the judgment of the shrewdest buyers and sellers will hold the custom of the marginal consumer. If sales are slower than was expected it is known that the price must be lowered in order that less eager buyers may be brought into the market. On the other hand, if sales are unusual in volume, here and there a dealer tries an advance of prices, utilizing the competition of buyers with one another, but seeking to dispose of his entire stock before a contrary price movement sets in.
Thus market prices are the product of various and conflicting forces and desires, and among these the marginal consumer is one of the most important. The position and power of the producer we will consider in the next chapter.
What are consumable goods and what gives them their utility? Show by an illustration what you understand by marginal utility.
The subjective value of an article as the economist conceives it and the exchange value which the business man understands tend to decline at the same time. Why?
Who is the marginal consumer and why is he so important in the business world?
What is the consumer's surplus? Why is the purchaser at an auction sale likely to lose a part or all of this surplus?
What essential advantage does the ordinary market have over an auction sale? What determines that advantage?