December 2012

Who Pays for your coffee ~ Bargaining Power ~ Ricardian Model ~ Economics

Ricardian Model , Undercover Economist, Who pays for your coffee, Economics & Value Investing, Bargaining Power, Scarcity, Premiums, Marketing , Branding

I was reading the article  Who Pays for Your Coffee? the other day, an interesting take on the concepts of scarcity and bargaining power.

We learn the reasons behind why people pay premium price for the coffee in the morning trip (American Morning’s …that is…)… Interesting .. Ricardian Model of rents, scarcity, bargaining power and pricing… Read on..

A resource (which could be land, brand , car..or for that matter stocks etc..)  which is in demand and which is also scarce will have the bargaining power and get a high premium.

The author uses the example of coffee bars located at stations having huge volume of commuters to drive home the point of the power and the strength of scarcity of resources and the bargaining power of the resource owners.

The exclusive coffee bar at the station is scarce. And so is the station location. The coffee bar has bargaining power over customers for high coffee prices. The station owners have bargaining power over coffee bars for high rent. 

However, the Bargaining Power does not come by just owning the resource. It comes because of scarcity. This viewpoint forms the crux of the article. If the scarcity shifts so does the bargaining power.

Businesses which hold the bargaining power today due to a combination of owning resources, demand and scarcity may go out of favor in future if there is a shift in scarcity which could be because of changing economic environments, changing customer tastes, rapid technological shifts or competition. An important factor to consider in investing, is to not only keep an eye on the past performance of a business / sector but to have vision to sense the future direction as well.

However, in real life the shifts in bargaining power and relative scarcity are often very slow. These shifts also have profound impact on lives of people. And most of the analysts miss this completely.

 In economics, Basic principles and patterns that operate behind seemingly complex subjects can be used as models. These models have been used to explain other complex phenomena in real life.

The article goes on the explain Ricardo’s model of meadowland which expounds on the concepts of scarcity of resource, bargaining power and shifts in bargaining power. It also explains the concept of relative value pricing and marginal land.

For example, although common sense says that the high rent causes the high prices coffee, the application of Ricardo’s model reveals that It is actually the willingness of customers to pay high prices for coffee which sets up the high rent and not the other way round.

The economists try to focus on underlying process, understand the patterns of scarcity in order to unearth developing shifts of bargaining power.

Would be interesting to look at investing in stocks from this angle as well

November 2012

The Illusion of prediction ~ Hindsight Bias

The Illusion of prediction , Hindsight Bias, Financial Pundits, Predicting the stock markets, Stock trends

Everything makes sense in hindsight, a fact that financial pundits exploit every evening as they offer convincing accounts of the day’s events.  

And this Illusion that we understand the past fosters overconfidence in our ability to  predict the future. The idea that the future is unpredictable is undermined every day by the ease with which the past is explained. This is especially true in the financial markets.

Value Investing