Imperfect Competition: Liquor Edition

Over the weekend, I had the great opportunity to meet a local distiller, Alex Laufer of One Eight Distilling, a company in Washington DC.  Alex’s operation was fascinating to learn about from the perspective of an economist.  He also provided some excellent insight into the nature of competition.

Being a distilling company that makes gin, bourbon, rye, and vodka, One Eight is competing against big companies like Jim Beam, Jack Daniels, Stolichnaya, Beefeaters, and the like.  His prices, like other craft distillers, tend to be higher than these big brands.  Alex knows he cannot compete solely on price; his scale and operation do not allow for that.  Instead, he competes on uniqueness and quality.  His gin uses more peppery ingredients than the competition.  His bourbon and rye are similarly peppery.  He produces a unique product.  One Eight is able to (ably) carve out a niche in the liquor market and successfully compete against the Big Boys.

What’s interesting is, from a purely theoretical perspective, One Eight’s behavior is not, strictly speaking, competitive.  In a “perfectly competitive” market, all firms compete on price and price alone.  Only by lowering marginal cost can they compete.  In a sense, the theory of perfect competition is not one of competition at all.

One Eight’s form of competitive behavior, that of product differentiation, is deemed “imperfect competition.”  It’s considered “monopolistically competitive” and, in straight theory, may be frowned upon as being economically inefficient compared to the perfectly competitive model.  But, in a “perfectly competitive” world, One Eight would not exist.  It would not be able to price low enough.  We, as consumers, would be denied uniquely flavored gin, bourbon, rye, and vodka.  In short, there’d be less diversity in the market, leading to fewer people being able to satisfy their preferences.  I like Jim Beam, but I like One Eight even better.  In a perfectly competitive world, I’d still be better off consuming Jim Beam than nothing, but I’d not be as well-off as I am in the “imperfectly competitive” world of One Eight.

The perfectly competitive market is often touted as some golden standard of competition; regulation is used to try to move the market to this idea (eg, antitrust regulation).  But, ironically, such regulation tends to reduce real competition.

Local Knowledge, World Series Edition

In Game 4 of the 2018 World Series last night, the LA Dodgers held a 4-0 lead over the Boston Red Sox going into the 7th inning.  Dodgers pitcher Rich Hill was almost unhittable.  No Red Sox player had advanced beyond first base to that point.  However, in the 7th inning, Dodgers manager Dave Roberts pulled Hill from the game for a relief pitcher.  The Red Sox go on to score 3 in the 7th inning, 1 in the 8th inning, and 5 in the 9th inning to win the game 9-6.

President Trump sent out the following tweet during the game:

 

Prima facie, Trump looks like he’s got a point.  Why would Roberts pull a lights-out pitcher from the game?  Especially in retrospect, it seems like a terrible move that cost the Dodgers the game.  But Dave Roberts is no fool.  Let’s ask the man himself:

“I didn’t hear about it [the tweet]. … The president said that?” Roberts responded. “I’m happy he was tuning in and watching the game. I don’t know how many Dodger games he’s watched. I don’t think he is privy to the conversation [had with Rich Hill]. That’s one man’s opinion.”

The conversation Roberts was referencing was the one he had with Hill in the dugout prior to the start of the seventh inning, during which Hill told the manager to “keep an eye” on him, as the lefty was starting to fatigue.

Roberts had local knowledge the President (and the millions of people watching the game) did not: Hill was getting tired.  If Hill stayed in the game, the Red Sox may have scored even more runs.

Roberts’ decision only looks bad in retrospect and without the local knowledge he had.  When incorporating in that local knowledge, the decision makes a lot more sense and it is doubtful the outcome would have changed.

To bring this to economics, we see how important local knowledge is to make decisions.  When governments try to direct activity, they necessarily do not know this local knowledge.  Donald Trump makes the same mistake with his cries of “tariffs” and “losing at trade” as he does with his baseball analysis.

Market Power Does Not Equal Coercive Power

Below is an open letter to Bloomberg:

There is a lot to like in Mark Whitehouse’s op-ed from October 21 (US Labor Markets Aren’t Truly Free) .  However, one place he errs is where he writes (emphasis added): “Economists have offered various explanations, including labor-saving technology, weakened unions, and growing competition from lower-wage countries such as China. More recently, though, they’ve identified another: The job market has become less free. The consolidation of American business has left people with fewer places to work, shifting the balance of power to employers.

The consolidation of American businesses does not necessarily mean the job market is less free.  So long as workers are free to move jobs or relocate, then the job market remains free regardless of its concentration.  So long as transactions are coluntarily entered into and there is no outside interference, the exact structure of a market does not matter when determining freedom.

It is not from the concentration of the market that the lack of freedom arises, but rather the other factors Mr Whitehouse identifies: property zoning, non-poaching agreements, etc.  The industry concentration may be a symptom of these lack of freedoms, but they are not the cause thereof.

Tariffs Harm Suppliers, Too

Michael Hicks of Ball State points us to an important bit of news regarding the current Administration’s strategy of using tariffs as a billy club:

The landed cost of U.S. beans in China is currently similar to Brazilian soybeans even with the 25-percent tariff, but Chinese crushers are reluctant to take U.S. supply as they fear authorities may not approve cargoes and that tariffs could climb further.

Hicks adds:

Game Theory 101 (prerequisite is Trade 101): Reduce volatility over the long run by trading with more stable and predictable partners. Signaling through ‘crazy’ behavior, with uncertain payoffs is higher risk.

And while the Chinese may be the ones primarily reducing their imports, this can affect other US trading partners as well.  Once solid allies like Canada, Mexico, South Korea, and the EU suddenly find themselves targets of tariff aggression.  If the behavior of your trading partner’s government is erratic, you face increased costs in dealing with them.  Higher costs, ceteris paribus, mean less quantity demanded.  All firms, then, likely face costs of the tariff, not just the immediate industry facing the tariff.

An erratic tariff regime can be seen as akin to political instability.  Economic actors (buyers and sellers) like certainty.  Countries with greater political uncertainty, where things are more governed by arbitrary legislation rather than principled actions, tend to see weaker economic performance and less economic dynamism as these actors have to take into account these increased costs.

Trump’s supporters may hail his behavior as “4-d chess” and “superior negotiating,” but it comes at a real cost.

A Liberal Justice System is Built on Respect

Over the past year or two, there has been an increased awareness of sexual harassment and sexual assault, culminating in the “#metoo” movement.  The conversation, unfortunately, has gotten a little off track, with simplified “I believe the victim,” and “She lied, he died” memes dominating the conversation.

But there is a liberal way to achieve justice that doesn’t require boiling things down to simplistic taglines: respect.  Respect for both the accuser and the accused.  No victim should be dragged through the mud, asked about their behavior, their clothes, etc when making a claim.  It is respectful to treat them as genuinely aggrieved.

Likewise, The accused should be treated with respect as well.  The accused should be given a fair trial and allowed to defend themselves.  The aggrieved party has the requirement to supply evidence for their claims and the court has the duty to treat both with respect and honor.

No justice system can long function without this form of respect.  Without respect for the victim, it becomes biased toward the accused.  Without respect for the accused, it becomes biased toward the victim.  The goal here is to prevent abuse of the system by anyone.  And respect goes a long way toward achieving that goal.

As Compared to What?

On this Carpe Diem post by Mark Perry, commentator Citizen Buddy writes:

It is my firm belief that Mutual Free Trade is exponentially superior to Unilateral Free Trade.

While Citizen Buddy’s comment may be true, it is wholly irrelevant to the matter at hand.  Rarely is the choice between mutual free trade (he is using it here to state both countries’ governments do not obstruct their citizens’ trading patterns) and unilateral free trade.  The relevant trade-off is between unilateral free trade and scarcityism.  When faced with that trade-off, unilateral free trade will win every time.

Considering the relevant trade-offs prevents us from making a Nirvana Fallacy and keeps us disciplined in our thinking.  Preferences may be one thing, but budget constraints always exist.  We may prefer complete free trade, but in absence of that, unilateral free trade will do.

Whose Tariffs are Reducing Exports?

Business Insider reports that since Donald Trump started a trade war with China, the US trade deficit has increased.  In August, this has been primarily due to falling exports.  BI goes on to say:

The primary reason for the increase in the deficit [in August] was a collapse in exports, especially soybeans, which fell off by $1 billion, a 28% drop from the month prior. China, the largest buyer of US soybeans, imposed tariffs on the American crop and it appears the restrictions are taking a toll.

Placing the blame on Chinese tariffs for falling soybean exports is not entirely correct.

A tax on imports (ie, a tariff) is the same as a tax on exports.  Simply put, by reducing the number of imports into a country, it reduces the amount of currency foreigners can use to buy exports.  By imposing tariffs on Chinese goods, Trump indirectly imposed a tax on US exports to China, reducing the exports himself!

None of this is to say the Chinese tariffs on soybeans didn’t make an already bad situation worse.  But we cannot lay the blame for the decline in exports at the feet of the Chinese.