Different Types of Goods-2

I continue to lecture about types of goods on this article where i stayed at the previous post. There are two types of goods that need to be known and those types of goods have anomalies which are contrary to the law of demand. One of them is Giffen Good and the other one is Veblen Good. Let's start with Giffen good.

Giffen Good: A giffen good is a good that as price rises, demand increases and, as price falls, demand decreases. The increase in demand stems from the income effect of the higher price outweighing the substitution effect. It is hard to find empiricial evidence about it but it can be applied to extremely poor people who have limited diet.
Suppose that you are very poor and you can't afford other alternative expensive foodstuff. On the other hand, the price of your basic foodstuff is increasing. In that situation, you will end up buying more your basic foodstuff. Because, it is the only foodstuff that you can afford.

                                                          Diagram for Giffen Good

Veblen Goods: A veblen good is a good that as price rises, demand increases and, as price falls, demand decreasse because of its exclusive nature and appeal as a status symbol. A veblen good has an upward-sloping demand curve like giffen good.

Studies suggest that people get more satisfaction from buying expensive goods and very expensive goods are indicator of having a hıgher status in society. Besides, consumers think that more expensive goods have better quality. Very expensive goods-such as designer jewelry, pricey watches, luxury cars can be classified as veblen goods.

The Basic Similarity and Difference Between Giffen Good and Veblen Good: For both giffen good and veblen good, as prices rises, demand increases. But, for veblen good, people demand more because the good is indicator of having a higher status in society and people think that it is expensive because it is a better quality. For giffen good, people demand more because the income effect outweighs the substitution effect.

Different Types of Goods-1

First, i will tell you about income elasticity of demand and cross elasticity of demand in order to make easy to understand the type of goods.

Income Elasticity of Demand: It measures the susceptibility of demand in reaction to change in income.
Cross Elasticity of Demand: It measures the quantity of demanded one good in response to a change in price of another.

Normal good: It is a good or service that as consumer income increases, demand of the good rises but, at a rate lesser than the rate of increase in income. In other words, income elasticity of demand increase is positive but, less than one. For instance, if the demand for clothing increases by %8 when real income increases by %12, clothing is classified as a normal good and it is said that it has %12 income elasticity.

Luxury good: It is a good or service that as consumer income increases, demand of the good rises at a rate that bigger than the rate of increase in income. It means that income elasticity of demand is bigger than one. If the demand for sports cars increase by %15 when real income increases %10 then, it is classified as luxury good.

Inferior good: It is a good or service that as consumer income increases, demand of the good falls. As consumer becomes finacially better, the demand for such goods fall because consumers can now afford higher priced goods and services. For example, a consumer prefer his personel car if his financial situation gets better rather than public transportation. In that case, public transportation is an inferior good.
It is a good that has a neagtive income elasticity. Because, demand of inferior good decreases at a rate more than the change consumer's income.

Complementary goods: It is a good or service that its use is dependant to another associated goods or service. For example, tennis ball and tennis racket, car and gasoline.
Complementary goods have a negative cross elasticity of demand. If the price for one good increses, the demand for both complementary goods fall. The more goods are linked eachother, the higher cross elasticity of demand.

Substitute goods: Substitute goods are two different goods which can be used to satisfy same needs. If the price of one good rises, the demand for the substitue increase. Hence, substitutes good have positive elasticity of demand.

What is Mercantilism?

Mercantilism is a movement of thought that is maintained between the Middle Age and Physiocracy between 1450–1750s. As this thought of movement was interpreted differently by thinkers, it was implemented differently in each country, and it is another article’s topic. So, first, I will explain the events leading to the existence of Mercantilism, then; I will indicate the objectives and principles of it.

Mercantilism is derived from the word ‘mercante’ which means merchant in Spanish. Mercantilism is a system of thought that asserts that valuable mines constitute the real wealth of states. Mercantilism defends the entry of mines to the country and prohibits the importation in order to prevent the exit mines from the country. Briefly, it advocates protective policies.

The events that cause the existence of Mercantilism

The collapse of feudalism and the emergence of central states between the end of the Middle Age and Indıstrial Revolution can be shown as

primary reasons for Mercantilism that cause its existence. I will indicate them below:

• The Collapse of Feudalism and Establishment of Cental States: With the collapse of feudalism, states founded newly needed new income resources to maintain their power. At that time, the essential income resource of states was foreign trade. So, foreign trade was encouraged.
• New Inventions: With the invention of the compass, it was facilitated trade with overseas countries. While products which are high in value but light in weight -silk, spice, and so on- were traded with medieval primitive transport vehicles, new trade routes were found with the developed maritime transport. On the one hand, new trade centers came to existence such as London, Lisbon, and Amsterdam; on the other hand, trade improved with geographical discoveries, and golden was imported to Europe, especially from American Continent.
• Religion reform and Renaissance Movement: The rapid spread of trade has caused the Catholic worldview to begin to be questioned. On the one hand, Luther argued that prices and interest rates should be at the control of the state, on the other hand, Calvin stated that the wealth attained by working in this world would be awarded in the next world, too. Renaissance, which symbolizes awakening in Science and Art, made widespread that the thought that prosperity and happiness of the individual should be prioritized.
• Change in Economic and Social Structure: The agriculture was a prevalent economic activity in this term. However, the manufacturing industry began improving. The money supply increased with gold and silver, which was brought from colonies, causing a rise in inflation. While wage- laborers became prevalent, rising prices militated in favor of debtors and cause impoverishment of wage-laborers.
• The Invention of Printing House and its spread: With the invention of the printing house in 1438 and its spread, reformist thoughts of thinkers became widespread quickly.

The Basis of Mercantilist Thinking

According to Mercantilist thought, the power of a country increases with the wealth of that country. The amount of valuable mines which that country has is the magnitude of its wealth. In that case, the goal of a state should be the politics that increase the input of valuable mines. As a result of this thought, economic activities came into prominence, being wealth became a goal for countries.

What is Cryptocurrency?

Crypto means ‘a person who adheres or belongs secretly to a party, sect or another group’; currency means something (such as coins, treasury notes, and banknotes) in circulation as a medium of exchange. The word cryptocurrency created by combining these two words, means encrypted currency. Cryptocurrency used via the internet is a virtual currency that is not bound to a central authority. Individuals or institutions can spend or earn money just as they do with real currency. Cryptography is the deciphering of messages in secret code or cipher; also: the computerized encoding and decoding of information. Reaching and capturing the stored data created by cryptography is quite difficult.
There are a few kinds of cryptocurrencies today: The most known is Bitcoin.
Litecoin, Namecoin, PPCoin, Ethereum, Dogecoin, Devcoin, Primecoin are also other cryptocurrencies that make a transaction on the internet.
Their secrecy stems from the transactions that they make on the internet. In other words, they are not circulated on the market physically, like Dollar or Euro. Their value arises from that people acknowledge the cryptocurrency as a barter item. Their value is determined according to supply and demand conditions.
Founded by Satoshi Nakamoto who is still not known whether he is a real person or not,
Bitcoin was the first of cryptocurrencies and was founded limited to 21 million units. Around 16 million units, Bitcoin was circulated on the internet until today. As of today, 1 Bitcoin is equal to $3921. Bitcoin can be divided up into 8 steps. Its one millionth (0,00000001) is called Satoshi. Calculated how many Bitcoin is circulated, we see that there are more than 62 billion dollars. For making a comparison, I should indicate that there are 1,5 trillion dollars circulated in the market.
Individuals can store their money via the virtual wallet that they create on the internet and make transactions via these wallets.
The most important thing that distinguishes cryptocurrencies from real money is that individuals don’t need to share their identities to make a transaction.
The most superiority of cryptocurrencies from others is that they are not bound to any central bank of a state; therefore, they are not influenced by the economic situations of states. Besides, because the accounts created by cryptocurrency are not known by whom they are created, and they can’t be controlled any authority, the systems are being open to every kind of illegal financial activity.
Suppose you will buy something on the internet, and you need a cryptocurrency account to purchase. First, You need to create a virtual wallet. Encoding the wallet is very important because, in case of no encryption, the wallet will be open to theft. After this stage, it is possible to make a transaction via cryptocurrency. You need to buy this virtual money from a website that sells and put it to your virtual wallet. Then, you are making your payment. When you make that kind of payment, whom, when, how much money you paid can’t be followed. In the same way, when another individual makes a transaction to you, it can’t be controlled.
On the ground that it causes to illegal money transfer, cryptocurrencies are not welcomed by governments. But, the usage of cryptocurrencies is increasingly growing.

Value, Value in Use, Value in Exchange and The Paradox of Value

Value means the utility of a commodity. However, according to Adam Smith, the word value is used in two senses, These are explained below.

Value in Use: It is the satisfaction which an individual obtains from the use of a commodity. For example, water has a huge value in use, because it quenches the thirst. Life is impossible without it. The quality of water is the value-in-use of water.

Value in Exchange: It is the amount of goods and services which we may obtain in the market in exchange of a particular commodity. In other words, it is the price of a particular good which can be sold and bought in the market. For instance, if two kg of potatos can be obtained in exchange of one kg of carrot, then we may say that value of two kg of potatos is equal to one one of carrot.

The Paradox of Value (Diamond-Water Paradox)

Undoubtedly, water has a more utility than the diamond. In that case, how come the water is cheaper than the diamond?

Economists who realised that paradox deduce that the value can’t be explained by the utility. Then, it was understood that the paradox which was encountered here stems from the confusion between marginal utility and total utility. After the principle of marginal utility had come to existence, it was said that the value of a commodity is determined by not its total utility, instead, it is determined by its marginal utility. Because the production of diamond is difficult and it is found scarce in the earth surface, its marginal utility, hence, its price and value in exchange is high. But, its value in use is low.

On the other hand, even though the water is a vital ife-sustaining need, its marginal utility, hence, its price and value in exchange is low because it is found plenty of water in the earth surface. But its value in use is high.

What is the 'Law Of Diminishing Marginal Utility'?

As the quantity of a certain consumed goods increases in a specific term (when the consumption of other goods are fixed), marginal utility, which each additional unit of goods alter the total utility, gradually decrease. This is called the Law of Diminishing Marginal Utility.

In a situation that the Law of Diminishing Marginal Utility is valid, in the time that a goods or service is started being consumed, marginal utility starts decreasing from the first point while total utility is increasing at a decreasing pace. The relations between Total Utility and Marginal Utility can also be summarized as seen on the below.

MU makes an impact on the direction of TU. As a consequence,

• While TU is increasing, MU is always positive.
• While TU is decreasing, MU takes negative values.
• When TU is maximum, MU is zero.

(These consequences can be found out by checking on the chart below)

Example of Diminishing Marginal Utility

Suppose an individual who is quite hungry. She can buy a slice of pizza for $2. But, she buys five slices of pizza. She eats the first slice of pizza and gains certain positive utility from eating the food. Because the individual was quite hungry and this is the first food she consumed, the first slice of pizza has a high utility. While consuming the second slice of pizza, the individual’s appetite is becoming satisfied. She is not as hungry as before now. So, the second slice of pizza gives a smaller utility compared to the first. The third slice, compared to the before, holds even less utility because the individual is now not hungry anymore.

In fact, the fourth slice of pizza has given a diminished marginal utility as well, as it is difficult to be consumed because the individual experiences discomfort upon being full from food. Finally, the fifth slice of pizza cannot even be consumed. She is so full from the first four slices that consuming the last slice of pizza results in negative utility. The fifth slice of pizza refers the decreasing total utility and negative marginal utility that is experienced upon the consumption of any good. It is shown on the figure with arrows.

What is an ‘Increasing Opportunity Cost’ and 'Opportunity Cost'?

Increasing Opportunity Cost

The production possibility frontier (PPF) is a curve showing all maximum output possibilities for two goods, given a set of inputs consisting of resources and other factors. The PPF assumes that all inputs are used efficiently.

I will explain ‘the increasing opportunity cost’ on the production possibility frontier which is below.

The PPF is concave to the origin. It is because in order for producing a commodity more, it should be given up producing another commodity in an increasing amount.

Let's consider the point A on the figure (produced 28 mobile phones, 10 cameras). In order for producing 10 more cameras, it has to be given up 4 mobile phones. It is indicated point B on the figure.

When it is moved forward point C, it has to be given up 6 mobile phones in order for producing 10 more cameras.

On the point D, it has to be given up 8 mobile phones in order for producing 10 more cameras which are same quantity increasing on each point.

As it is seen on each point, in order for having output of 10 more cameras, it is sacrified mobile phones an increasing quantity on each point. This is called 'Increasing Opportunity Cost'.

Opportunity Cost

Needs of human being are infinite. But, goods and services produced in order for satisfying infinite human needs are always scarce. In other saying, there is an imbalance between the quantity of goods and services produced with the intent of satisfying infinite human needs and finite natural resources. It is defined as the Law of Scarcity.

Because it is not possible to satisfy infinite human needs with finite resources, satisfying of some needs are needed to be given up or delayed. At this point, the logic of opportunity cost comes up. Opportunity cost refers to a benefit that a person could have received, but gave up, to take another course of action which is more beneficial.

An Example of Opportunity Cost?

Suppose you have 1 million dollars under-the-mattress saving. You have two options to use the money.

Option one: You can invest your money to deposit account with %10 annual percentage yield.

Option two: You can start your own business with %20 annual percent gain.

But, you don't have enough time and energy to start a new business. So, you are investing your money to deposit account with the %10 annual percentage yield. The opportunity cost of investing your money to deposit account is the %20 annual percent gain you could have got for starting a business.