Scarcity and Price, Supply and Demand, Simon and Ehrlich Subject: Two Definitions of Scarcity Date: Sat, 26 Sep 1998 08:17:00 -0400 From: "Steven" Organization: Amron Newsgroups: sci.econ Scarcity and Price: Supply and Demand? "Steven" : Scarcity at a given point in time or temporal scarcity. Scarcity is a function of the limits on satisfaction of all wants at a given point in time giving rise to differentials in costs among economic choices. Scarcity over time or intertemporal scarcity. Increasing scarcity over time is a function of declining stocks of raw materials available for extraction giving rise to an increase in resource prices because of increasing marginal costs of extraction as the resource is depleted. The first definition of scarcity is an eternal problem the second definition is simply a rough statement of the Hotelling Theorem (1931) of the optimal path for scarcity rent over time for an exhaustible resource. We take the first definition as a given or self-evident. The second definition seems to be disproven over the last century as resource prices in real terms have declined and not risen as the finite stocks of exhaustible resources have been further depleted. Though more of the finite stock of most exhaustible resources have been discovered and brought into public or private ownership still the resource owners sell their stocks of these resources even in the face of declining real prices. We must assume that resource owners have reduced their marginal costs of extraction over time. The only variable missing in the analysis is technological change. This seems to explain, if true, lower marginal costs and hence resource owners indifference to lower real resource prices. Brought this reply from Jay Hanson: ------------------------------------- MONEY-PRICE MALFUNCTION The relationship between prices and natural resources is nonlinear. In other words, the market does not reflect long-term declines in natural resources such as oil. The market is like the float in a carburetor: as the engine demands more gas, the float falls and allows more gas to flow in from the tank. But the float has no information concerning the amount of gas left in the tank until the fuel line is unable to keep up with demand. So it is with the market. As the demand for oil increases, the increase in price signals oil companies to pump more oil out of the ground which lowers prices again. The oil market has no information about the amount of oil left in the ground until production is unable to keep up with demand. In October 1980, Julian Simon challenged Paul Ehrlich and colleagues to a $1,000 bet that in ten years the price of any raw material they selected would fall (measured in constant 1980 dollars). In October 1991, Ehrlich paid up. The prices of the five minerals chosen (copper, chrome, nickel, tin and tungsten) had dropped substantially. Obviously, prices did not reflect the fact that ten years’ worth of minerals had been taken out of the ground. Simon demonstrated that prices DO NOT reflect the decline of natural resources. Just for the record, Ehrlich lost the bet because he believed that prices would reflect declining resources. In other words, Ehrlich believed the economists. And this from Shawn Wilson : Ehrlich was a biologist, Simon was the economist. Don't worry about it though Jay, no one actually expects you to be right about anything. Jim Blair: Hi, Price reflects both supply and demand, and when speculation is factored in, it reflects the expected FUTURE supply-to-demand as well as the CURRENT ratio. The problem is in trying to PREDICT the future. Economist Julian Simon proved better at this than biologist Paul Ehrlich, as the case cited by Jay demonstrates. Ehrlich was projecting current known supplies and deposits and projected usage, probably assuming then current technology. Simon was counting on kind of changes that have characterized the past continuing into the future. New technology can enter the price picture several ways. It can lower the cost of finding or mining (but to FIND more, it must BE somewhere). But it can also act to reduce demand by providing cheaper substitutes; in the case of metals, various plastics and fiber glass can reduce the demand. Or new alloys of a more abundant metal like aluminum can substitute for more expensive metals. The CASE of ALUMINUM I remember back in the 1950's Alcoa ran ad add claiming that Adam Smith had it just backwards. He had formulated a "Law of Supply and Demand" which claimed that when the demand increased, so would the price. But in the case of aluminum, as the usage (demand?) increased by thousands of times after WW II, the price fell to historic low levels. (Thus the add claimed that aluminum defied the Laws of Economics). I was just a high school kid, but I was saw the aluminum situation as being exactly in accordance with the laws of economics. Historically, aluminum was expensive because it was hard (and energy intensive) to make from the very common bauxite ore. And there was not much demand for it BECAUSE it was expensive and hard to make. During WW II much research was put into making aluminum because it was perfect for airplane construction: light weight, corrosion resistant, and strong. The Hall process to make it from bauxite was commercialized, and factories were built to mass produce it. After the war, the factories were there, and the problem was then to find uses for the aluminum that could be made in large quantities. So new markets were developed: siding for houses and lawn furniture, and beer and soda cans were some examples. Aluminum replaced wood for many uses and replaced tin and steel in other uses. The point is not that the Laws of Economics (Supply & Demand) were violated, but that technology changed the market. So, Jay, I suppose you COULD say that Ehrlich lost the bet because he "believed the economists". But then you should add that Simon knew better, because he WAS an economist! ,,,,,,, _______________ooo___(_O O_)___ooo_______________ (_) jim blair (jeblair@facstaff.wisc.edu) Madison Wisconsin USA. This message was brought to you using biodegradable binary bits, and 100% recycled bandwidth.