How do people adjust their utility judgement according to market prices?

Previously I talked about people could have incentives to borrow others’ opinions to adjust their utility judgement and one of the sources would be signals sent in the form of market prices. Market prices would definitely be one of the most significant and effective signals made by the market. Today I want to discuss about how people adjust their utility judgement according to market prices and what are the difficulties of adjusting utility judgement.

For people to adjust their utility judgement, price has several functions. Firstly, price is determined by the supply and demand relationship in the market, so people can use price changes to reflect the moves of either supply side or demand side. Secondly, even in a imperfectly competitive market, price can reflect suppliers’ target consumer groups, so from price, people can know if the product is designed for them. Thirdly, price in the resale market can show how much people can get out of a product they have bought once they decide they do not need the product any more.

However, price is a reflection of all market information; therefore, though individuals may have a sense of what the general market think about the product, individuals do not how different their own individual preferences are from the general market’s preference. Secondly, nowadays, there are many oligopoly markets where suppliers have more power of determining the prices, prices set by suppliers can manipulate people’s opinions, especially when combining use of advertising. Thirdly, once every one adjusts their individual utilities according to others’, a price increase can lead to a multiple effect in terms of people’s judgement of utility. As one individual increases his/her utility expectation, others will also increase accordingly, and this increase will repeat and accumulate and create multiply effects.

Wage adjustment according to inflation may help to improve social equality

I think if employers are made to adjust their employees’ wages according to inflation annually, it will be helpful to improve the social equality. This thought has several reasons.

Firstly, the majority of the population (excluding those who have not finished their education or have retired), especially in developed or developing countries, are employed by others. When their incomes can be adjusted according to inflation, if they stay with the same jobs, their lives will not be affected by inflation. Secondly, it also adds more inflationary pressure in the economy, which could encourage more consumption. When there is more consumption, it can create more jobs, so the unemployment rate could be reduced. Thirdly, the proportions of ordinary people’s wealth that are used for consumption are higher than the proportions of super wealthy people’s wealth that are used for consumption, this implies when ordinary people are given more wealth, it will increase consumption more effectively and wealth is more likely to move across different classes of people. Fourthly, as employees’ wealth is dependent of their incomes, when their incomes change according to inflation, they will be benefited from this policy, this may help to close the wealth gap between the ordinary people and the super wealthy people. Fifthly, the super wealthy people’s wealth may be diluted by high inflation in the economy, this also forces them to spend more, so the wealth from the top wealthy class will be distributed to other classes among the society.

Therefore, if employees’ incomes can be lifted according to inflation, it can contribute more to the economy and further close the wealth gap between the top wealthy class and the ordinary people.

What are the difficulties of interacting with each other when making utility judgement?

Yesterday I talked about why people would like to interact with each other when making utility judgement. My conclusion was people should interact with each other as they do not have access to perfect information. Today I want to explain the difficulties individuals may face when trying to improve their information and utility judgement by interacting with each other.

Between individuals, information asymmetry does exist as well. Because of the existence of information asymmetry, people do not tend to know how the others make their own utility judgement; therefore, when borrowing others’ utility judgement, the judgement may not fit in individuals’ own cases. In addition, due to the existence of information asymmetry, the signals about others’ utility judgement are not reliable or useful as others may also make the judgement based on similar circumstances.

Secondly, besides information asymmetry, different individuals have different preferences, so only observing market prices as signals are not going to be reliable. Thirdly, receiving information from suppliers always will make customers be manipulated by suppliers, as they have put lots of resources on researching on how to manipulate customers’ behaviour. Fourthly, even after interacting with each other, individuals may still be uncertain about utility judgement, so the effectiveness of interacting with other is doubtable in terms of individuals making their utility judgement.

How individuals interact with each other when making their utility judgement?

Yesterday I talked about what differences could be caused when we consider whether or not individuals make their utility judgement independently. Today I want to carry on this topic and make some guesses about how individuals may interact with each other when making their utility judgement and the reasons behind it.

The reasons for people having incentives to interact with each other have several. Firstly, people do not think that they have full access to information in order to make precise estimates about the utilities of products they are going to buy. Therefore, people want to borrow others’ estimates or opinions to try to close the gap between their knowledge and perfect knowledge. Secondly, people are correct that they do not have full access to information. Thirdly, others’ opinions may be another important determinant of utilities, especially the products can be resold to others.

There are many ways for people to have information about others’ estimate of utilities, and here are the most common ones. Firstly, people can directly ask their family members or friends about opinions about their target products. Secondly, people can read suppliers’ introduction about the products, especially the advertises. In this case, people’ utilities are affected by advertising created by suppliers. Thirdly, people can receive signals of others’ opinions about the products by looking at the market prices. Prices can provide implications about products’ utilities, including their popularity, qualities, effectiveness and many other relevant characteristics. Fourthly, people can receive signals of others’ opinions about the products by observing how many people surrounding them are using the products they are interested at. More people are using implies utilities are relatively high.

Overall, people are interacting with each other in the hope of improving their utility judgement.

What is the importance if we do not assume customers estimate the utilities of their potential consumption independently?

Usually we assume that customers have their unique individual estimations about utilities of their potential consumption, the implication of this assumption is that customers will not buy products which have higher prices than their estimated utilities. However, it is extremely difficult to tell customers’ opinions about utilities of particular products, even customers themselves cannot tell clearly what utilities they could gain completely from their consumption. Therefore, it is not reasonable to assume that customers have their independent utility judgement.

If we do not assume that customers judge the utilities they gain from their consumption independently, some common economic theories may violate or potentially violate. The rule of demand tells that when prices increase, the number of customers who are willing to pay tend to decrease. However, if we assume customers do not make their utility judgement independent, when a product’s price increases, the demand for this product could potentially increase as well. This actually happens in our real life, especially in the financial market. When a stock’s price increases, instead of more people selling the stock, it may appear to be more people buying more of the shares. This is a classic example of how people’s utility judgement could affect each other. This may also happen in auctions, a buyer could potentially buy a product with a price that is higher than his or her previous judgement.

In addition, the assumption of customers not making utility judgement independently is the base for marketing strategies. Firstly, customers not making utility judgement independently assures the importance of advertising, as if we assume customers making their utility judgement independently, it implies advertising will not change customers’ judgement about the utilities of their products, thus not change in sales. In addition, For example, making products appear to be cheap is not going to increase sales effectively, as customers are given the impression of cheap products, they could lower their expected utilities of the product, so they are less willing to pay high prices for the product, this could eventually affect the sales.

Overall, once we stop assuming customers making their utility judgement independently, some theorems may potentially violate, marketing strategies can make their theoretical sense (otherwise, marketing would have no impacts on customers’ behaviour).