The Indiana Jones of Economics, Part I

A few years back the Wall Street Journal dubbed me the Indiana Jones of economics.

JensenRobert Jensen

In reality, that title more rightfully belongs to Robert Jensen, an economist at Brown University who is doing some of the most interesting and adventurous economics studies these days. Jensen has documented how cell phones revolutionized fish markets in India, how simply telling students in the Dominican Republic once about the high value of an additional year of school can impact their choices years later, and how introducing T.V. into rural India affects the position of women.

The real reason I call Jensen the Indiana Jones of economics is because of another paper he has written in which he and co-author Nolan Miller set out to find one of the elusive Holy Grails of economics: a Giffen good. A Giffen good is one where increasing the price for the exact same good actually leads people to buy more of the good. In economic terms, the price elasticity of such a good is positive, rather than negative. The way economists measure elasticities is often by looking at what is called an “arc elasticity.”

Jensen tells his story in three parts which we will post over the next three days, aptly entitled “Raiders of the Lost Arc Elasticity.”

Raiders of the Lost Arc Elasticity, Part I

By Robert Jensen

Several years ago, my colleague Nolan Miller and I set out on a thrilling adventure. OK, this being economics, both “thrilling” and “adventure” are relative terms. But, the story does involve the search for an elusive, fabled prize shrouded in mystery, travel to far-off lands, and the promise of immortality. We had set out to find a Giffen good, a journey we just recently completed.

So, what’s a Giffen good? It’s a (theoretical) violation of one of the most sacred and holy laws of economics: the Law of Demand. It has excited and intrigued economists for over a century, though no verified example had ever been found.

The Law of Demand says that if the price of a good goes up, the quantity demanded decreases. A Giffen good is one where when the price goes up, the quantity demanded increases. It’s named after Sir Robert Giffen, a 19th century British civil servant and economist who is believed to have first suggested the possibility.

How might this happen?

Imagine you are extremely poor, just barely able to afford enough to eat. And for simplicity, pretend there are only two foods: a basic, staple food like bread that gives you a lot of calories and fills your stomach at a relatively low cost, and a luxury food like meat, that tastes good (indulge me, vegetarians) or adds variety to your diet, but is very expensive, offering few calories per dollar.

So, if you’re really poor, you’ll eat a lot of bread to fill your stomach and get your calories — then with whatever money you have left over, you buy a bit of meat to make yourself happy.

You’re going merrily along like this, until the price of bread goes up. Now you can’t afford the same bundle of bread and meat you were buying before. You have two choices:

1. Eat less bread and more meat.
2. Eat more bread and less meat.

Actually, if you enjoy being alive, you really only have one choice: option two.

The problem with option one is that if you cut back on bread, you lose a lot of calories and a lot of bulk to fill your stomach. And because meat is so expensive, you get very few calories from the small amount you add to your diet. So, since you were just barely getting enough to eat before, you would end up with too few calories and a grumbling stomach. Eventually, you might even end up dead.

But if you instead cut back on meat and eat even more bread than before — while you may enjoy your diet less — you’ll at least get enough calories and fill your stomach. Really, you have little choice. So you break the Law of Demand: the price of bread goes up, and you end up eating more of it.

Anyone who has ever sat through introductory economics has probably heard about Giffen goods. Maybe you were told about potatoes during the Irish famine. If so, you were mislead. The potato example has been disproved.

The search for an alternative example has lead economists to explore crazy, far-out cases, like the demand for fermented whale bile among river-dwelling southern Kazoo from 1873 to 1875. But these searches always came up empty.

In fact, just a few years before his death, Nobel Laureate George Stigler wrote that the best proof that no Giffen good exists is that whoever found one would attain immortality (in the economics profession, anyway, which is one-half a step above being the most famous asphalt engineer) — and since this is such a great reward, people must have already looked everywhere for one.

Despite this declaration, we were determined to find the elusive Giffen good!

(Oh, the blog title. For technical reasons, the way you explore demand is through estimating an “elasticity,” which tells you how the quantity demanded changes when the price changes — all in percent terms.

In the Giffen case, where quantity demanded increases when price increases, you would have a positive price elasticity. And for even more technical reasons, you really want to estimate the “arc” price elasticity. Yes, a long way to go just for a bad pun).

So, to rephrase: We were determined to find the elusive positive arc price elasticity of demand!

Next time: Catastrophe strikes!

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  1. Stephanie Manosalvas says:

    In this case we need a subsidy from the government if bread prices really go up, because we need to eat a certain amount of calories but if there is not any subsidy soon we couldnt afford to buy the same amount of bread to complete our diary calories and we would stop eating the calories we need and perish. The only option left is to stop buying meat to supplement the amount of calories we need per day buying more bread, but we couldnt satisfied our necesity for meal.

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  2. Dukundane Gatera Lilinae says:

    the consumer will take more bread because in bread he might find more calories needed for his body and his stamach fills. Eventhought he doesn’t take any meat, he might survivor but he will take less meat just for enjoying his meal.

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  3. Obiora Felix says:

    Increase in price attracting increase in demand should mean that the quantity of bread consumed will increase as the price changes upwards. In other words, bread being a giffen good will mean that if one consumes a loaf of bread at a price of $2, as the price increases to $3, then that should make the consumer purchase 2 or more loaves of bread than that purchased when the price was cheaper, remember that quantity increases in most cases when price decreases. In Nigeria where I come from, an increase in fuel pump price attracts people to buy more fuel and hoard at home because they believe that a reason for fuel pump price to increase is scarcity of fuel. In Nigeria electricity is not sufficiently supplied and is never steady nor trusted to last a whole day, in order not to stay out of business, Nigerians purchase fuel for their electricity generators. No wonder the fear of scarcity of fuel will attract the purchase of a higher quantity of litters in order to guarantee that business continues when the fuel eventually becomes scarce or not available.

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  4. Dinu Varghese says:

    Economics is a science , but it becomes worthy when it collaborates to other sciences and notions . For instance , there are plenty of cheap edible stuffs which could easily contribute similar nutritional qualities like meat . So , what we do need is an ultimate solution . ” Giffen good” in not mandatory situation its just like a life style disorder . If we are careful and responsible such things wont take place. Human beings are responsible a lot of things , when he fails to maintain it , it ends up in global warming , Giffen good, Wars and so on….
    A global campaign is has become mandatory on the need of small scale farming ( Agriculture), Environmental management , Domestic production and consumption etc,.

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  5. Pascal Leena says:

    First of all, it’s great to know that Economics can be such an adventure and thrilling all the way!!, my college economics was so dry and boring. Steve, you have just injected so much humour into an otherwise mundane topic of a rubberband, that it actually demands one to visualise the concept from a lived-world perspective – i find it truly amazing.

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  6. Udom Aniefon says:

    The Giffen theory is possible only in the following circumstances: when there is a hike in the price of gas or fuel people purchase more of this product because of apprehensive scarcity. This product are stored not used, this does not in anyway make the buyers to use more than expected. The second case scenario is during a natural disaster like drought, war or flood people still tend to consume the same amount of food, they also buy with disregard for hike in price e.g staple food like cassava flower “garri” . I would subscribe to the theory of high in price and increase in quantity demanded based on circumstantial purchase and not need based purchase. ( case study Nigeria in West Africa)

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  7. Adrian Contreras Rodriguez says:

    ln my opinion people eat tortillas, and rice as fillings. Rice is used as a filler in many restaurantes. lncluding the mayor part of the asiatic restaurants. Such as the japanese restaurantes. Central america restaurants use tortillas as fillers. You buy one thing for another that`s the main idea.

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  8. Kadidia V. Doumbia says:

    The price is going up when people buy more of a good.
    That can happen when there is a fear to not get the product that everybody wants before it disappears for good. Otherwise, people will wait to get it at a lower price.

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