A comment or two will be greeted with warm hands.

05 October 2008

Giffen Goods - Demand Increases as Price Increases

This is a continuation from my previous post of Why does Demand Increase as Price Increase.

Aw is getting very near there, But Shag got a smack to the nose. Shag is correct. I was referring to the Giffen Goods paradox.

"In economics (consumer theory), a Giffen Good is that which people consume more of as price rises, violating the law of demand. In normal situations, as the price of such a good rises, the substitution effect causes people to purchase less of it and more of substitute goods. In the Giffen Good situation, cheaper close substitutes are not available. Because of the lack of substitutes, the income effect dominates, leading people to buy more of the good, even as its price rises." [source]

"The classic example is staple foods such as rice, wheat, and potatoes. As their price goes up, poor people on a tight budget actually consume more of them, because they are forced to cut back on luxuries such as meat, but still need the same number of calories to survive." [Source]

There was an experiment done in the Hunan province to prove this principle:
"Households in the Hunan province of China were shown to buy more rice when they had to buy it at a higher price, and less when the price they paid was subsidized. The reason for this is that, even when expensive, rice was still the cheapest source of calories available. Therefore, when the price of rice was cut, households had more money left over after buying rice. Some of this was spent on buying more expensive foods (meat, vegetables and fruit), which reduced their need for rice." [Source]

With regards to my previous post. I suppose you can use this as an analogy:
Salesman = rice/bread/noodle (or any staple food)
Competitor = meat source.
Customer = the people.

That kind of information makes me wonder: what else can be considered as a Giffen Good?
1) Share market. If a certain share price jumps, wouldn't people want to get into the bandwagon and profit from the jump before it reaches it peak? Well then I suppose shares can be considered as a Giffen Good for that short period of time. [This is not a giffen good as explained by Shag. Check his blog out @ http://www.shagadelica.net]
2) Public Transport. If the price of public transport goes up, people who rely on both public transport and a personal vehicle would have less money to spend on petrol, car maintenance, and etc. Subsequently, taking public transport would be a more viable choice.

These are just my speculation and may not be true.
[After all, I'm no economist or some great forecaster. I'm just a sarcastic blogger.]

Back to the Best Commenter challenge.
Shag would qualify as winner if this was a competition. His winning prize includes a permanent record in this post along with a non-ego deflating moment knowing that he has just pawned all the other commenter with one freaking short sentence without the need to provide any explanation, therefore proving his superior knowledge above those who came across this site.

But, if I have to choose the best commenter, it would have to be AlphaWhale.
His comment is as good as my post if not better. If his comment is to be made into a blogpost, that blogpost can easily be considered as a top quality post. This guy is an analytical thinker and his explanation is superb! *Thumbs up for you, big guy!*

Well then, I have no physical prize for the both you. Instead, I'm gonna attempt to encourage my readers to drop a comment and give you a clap. (Hey guys, let's give him both Aw and AlphaWhale a clap. They deserve this. Even better, visit their website, check out the stuff they write.)

Shag blogs @ http://www.shagadelica.net
AlphaWhale blogs @ http://parkourhelper.blogspot.com/


shag said...

more like a "non-ego deflating moment" rather than an "ego-fulfilling moment" kawan. Those who have studied form 6 level econ would have come across giffen goods.

You didn't say you wanted a proper explanation. So here it is...

Definition of terms
Quantity bought=Q

Demand for a good can be decomposed into 2 aspects, 1. I effect & 2. S effect... the "Slutsky equation".

S effect is the classic inverse P & Q demand identity, i.e. higher P = less Q.

I effect depends on the nature of the good, normal goods (higher I= more Q), while inferior good (higher income=less Q).

Giffen goods are inferior goods whose I effect is so large as to overwhelm S effect.

Hence "higher P=less Q1" is smaller "then lower I=higher Q2". In total Q2>Q1 (i.e. Q2-Q1>0) so what is observed is higher P = higher higher Q.

Kif, picking up stocks on the cheap is not the giffen effect. That is related to expectations, a different motivation.

Alpha Whale said...

"But, if I have to choose the best commenter, it would have to be AlphaWhale. His comment is as good as my post if not better. If his comment is to be made into a blogpost, that blogpost can easily be considered as a top quality post. This guy is an analytical thinker and his explanation is superb! *Thumbs up for you, big guy!*"

Aww, thank you. I feel so flattered. I would like to take this little non-ego deflating moment to self promote in noting that walphale is my secondary blog and that parkourhelper is my main one: just for anyone who cares.

I also want to take this moment to thumbs up 3POINT8, who quite frankly writes awesome material and has interesting challenges. You can see his blog @ http://4-4-4-4.blogspot.com ;).

And once again also: sorry about the calendar scare, I meant no harm.

izzat said...

its really against the economic term. in economy study, when demand high, price high too to lower demand so we can get equilibrium price in market. so demand high come first then price is high, not price is high and then demand is high, maybe for some reason it happen, but mostly not. if substitute, maybe if product A is substitute for Product B, when product B price high, demand for Product A become high too.. :)

good post btw..

YingYang@QS said...

But there is something I don't get about this.

You see right. Using the rice example. If the price of rice increase and while the price of "luxuries" are the same. What would be the result then?

Wouldn't it still be the same? UNLESS its assuming all price of foodstuff increase at the same time (and rate).

Don't flame me; I don't know anything xD

Signing off, DsX

Simon Seow said...

It may also because that ppl worried that the price will go up much higher so buy more to keep stock so that don't have to buy at a higher price.

3POINT8 said...

Because the price of rice went up, ppl are forced to cut back on meat stuff. And since they need to eat the same amount of food each day, they have to buy more rice to compensate for the meat.
(As long as rice is still the cheapest food source, no matter what the price other 'luxuries' may be, demand would still go up)

So, thats why if you raise the price the price of rice, demand will go up. (but this is a very rare case. this only applies to countries that rely heavily on rice)

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