Common Sense Economics: What Everyone Needs to Know about Wealth and Prosperity
In a market economy entrepreneurs are free to innovate. They need only the support of investors (often including themselves) willing to put up the necessary funds. The approval of central planners, a legislative majority, or business rivals is not required. Nonetheless, competition holds entrepreneurs and the investors who support them accountable because their ideas must face a “reality check” imposed by consumers. If consumers value the innovation enough to cover its costs, the new business will profit and prosper. But if consumers find that the new product is worth less than it costs, the business will suffer losses and fail. Consumers are the ultimate judge and jury of business innovation and performance. When new products are introduced, they typically follow a predictable price-quality pattern. Initially, new products are generally very expensive and purchased by relatively few consumers, mostly those with high incomes. These consumers will pay dearly for the earlier availability because during this initial phase, the product quality will be low and the price high. These initial purchasers play a vital role: They provide the revenue to cover the product’s start-up cost and make it possible for entrepreneurs to acquire the experience that will help them improve quality and reduce per-unit cost in the future. Moreover, market incentives will encourage them to do so. With time, entrepreneurs will figure out how to make the product more affordable and expand its availability to more and more consumers. The cellular phone illustrates this price quality pattern. When cell phones were initially introduced in the late 1980s, they sold for around $4,000, were about the size of a brick, and could not do much of anything other than make phone calls. With time, their size was reduced, their information processing power and functions expanded, and their price declined. Today, they are available at a fraction of the initial price and they are viewed as a necessity by many consumers in all income brackets. Numerous goods, including automobiles, televisions, air conditioners, dishwashers, microwave ovens, and personal computers have gone through this same pattern. All were highly expensive when they were initially introduced, but entrepreneurs figured out how to produce them more economically and improve their quality, making them more affordable to the overwhelming bulk of consumers. As we reflect on the role of both entrepreneurs and the competitive process, it is important to recognize this price-quality pattern.
- In the video, from the movie Wall Street, Gordon Gecko is using one of the original cell phones. He’s clearly a wealthy (if corrupt) financial entrepreneur. Why could only people like him use phones back in 1987 when the film came out? Why aren’t wealthy people today using such phones?
- Technical innovation often occurs when the wealthy buy early generation products that are of poor quality and low function, while also being expensive. By being early adopters, however, they allow companies to refine their products, scale up production, and create opportunities for the less well-off to share in the innovation. Today, everyone has a cell phone. Should we repay the wealthy for their contribution to the R&D of our (relatively) cheap phones?
- What products are only available to the wealthy today, that you would like access to in the future?
- Do you think this is a good “system” – allowing those with the ability to pay to “waste” money while prices come down and quality goes up? Or should we prohibit the wealthy from buying such products until they are a good value. Why or why not?
This reading is an excerpt from Certell’s Common Sense Economics eBook. Certell offers curriculum materials and eBooks free of charge for students and teachers. Click here to download the Common Sense Economics materials.
1 April, 2018, Dr. Martin Cooper [Digital photograph]. Retrieved from <knowyourmobile.com>.