Counter Intuitive Econ Solved By Operational Analysis: The Internet Increases Prices

—Economists have two standard very simple models of product competition: firms can compete on price or compete on quantity.—

—“whether firms compete on price or quantity depends more on which of these they must commit to earliest, not which is easier to change at the last minute. Knowing this, once you heard that it would be easier to change prices at the last minute for products sold on internet, you should have predicted that the internet would increase quantity competition and reduce price competition. Which it in fact has. Economics is general and robust enough to predict things like how selling products on the internet changes competition. But you have to use it right.”—

[F]irst, I want to point out that the reason the author is able to make his argument is that he has operationally explained the phenomenon as a sequence of decisions and actions in time.  Yet intuitive economics would suggest that price competition would be increased while operational analysis (incentives) would cause competition to be decreased.   This simple example illustrates why operationalism is so important to the testing of hypothesis.

[S]econd, the author is trying to make a different point, but I want to riff off it to show that firms compete in commodity and non-commodity spaces. And to some degree economists study commodity activity where noise and signal cancel one another out. But that isn’t how companies think about competition, it’s how distributors do.

I have taught the following means of competition by firms:

1) Price,
2) Quantity,
3) Profitability or Debt
4) Rents (firms like polities accumulate renters)
5) Adaptation Costs (innovator’s dilemma).
6) Geographic Housing Costs (salary costs)
7) Segmentation (startups start in niches and expand)

Why? Decreasing production cycles, increasing distribution of production, the increasing importance of TALENT and innovation service industries. vs capital or credit in manufacturing and distribution companies.

In a highly efficient market, one can sacrifice profits for talent while larger organizations accumulate internal rents. This is most frequently the reason

Generally speaking, higher profits incentivize more rents. And while prices are sticky, internal rents are much stickier than prices.

Generally speaking, adaptation costs vary dramatically from industry to industry: service firms trade out people and production firms trade out people and capital. The difference being that GAP regulation and tax policy obscure the tail of fixed vs human capital, largely because we can finance against the illusion of fixed capital value while we cannot finance against the obvious lack of control over human capital.

Curt Doolittle
The Propertarian Institute
Kiev, Ukraine

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