Why trade happens

Recall that a few weeks ago, I learned that the $5 Trader Joe’s bags are being sold for $25 in Japan, and that really fascinated me. We’ll be revisiting this topic from time to time.

Today, I want to focus on one aspect of this phenomenon: “Why Trade Happens”.

By the way, it is a very hot day in Southern California, and I am writing this from the comfort of an air-conditioned coffee shop. I paid $3 for my decaf ice-americano and a seat at the cafe. Why should you care? Because fundamentally, trading my money for coffee is not any different from all trades that happen globally at massive scales every single day, which leads me to today’s key point: Trade happens because it benefits both parties. Once you understand this, you start to see the world a little differently.

In my case, I gladly traded my $3 for a table in this cafe, because to me, this comfortable spot where I can work on this hot day was way more valuable than the three dollar bills in my wallet. However, for the coffee shop, the opposite is true. To them, the $3 was more valuable than the coffee, so they gladly gave up their cup of coffee away in exchange for my $3. The trade made both of us better off, and we can rest happy that both parties contributed to the betterment of the other. Isn’t that beautiful? And just imagine, trades like this happen everywhere, every day, at unimaginable scale that makes the entire world’s economy function.

Access to the world’s market has been so important that it has lifted more people out of poverty than all of the well-intentioned non-profit volunteer organizations put together. There are tremendous advantages that come to allowing trade to happen freely; it brings costs of goods down, it makes us more efficient, and lives are improved everywhere. It is no accident that when governments try to intervene or restrict trade (or even worse, regulate how much of what should be produced and how much they should be sold for), the economy tanks. No economist is surprised that the Soviet Union has collapsed, and North Koreans are going hungry. I am amazed to see how there are so many well-intentioned but ignorant people today who have forgotten the brutal history of socialism’s collapse, and think that somehow the world will be better if it returns.

But there is a caveat to all of this. Our challenge is to carefully consider policies so that the market can continue to function effectively, while intervening in areas in which the market fails, such as when we act in ways that seem to grow the economy but actually doesn’t (like our increasing dependence on fossil fuel), or when we undermine important aspects of society that have tremendous long-term benefits but the free market will fail to provide because it benefits the entire society as a whole, and not one company (like providing high-quality education for everyone , or mandating a universal health care). Even though it may seem like drilling for oil and cutting back on education is a cheap and easy way to pay back some of our federal deficits and grow the economy, the growth that occurs in the short-term must be balanced with the long-term harm. Most people I know, even Trump supporters, at least agree with me on the point that it’s pretty difficult to grow our planet’s economy if we destroy the planet.

As you can imagine, the trading of Trader Joe’s bags are not too different from my trading my money for a cup of coffee. The bags are sold in Japan for $25 because those trades make both the buyers and the sellers better off, at least in their eyes. Who are these buyers and sellers and why do they act the way they do? We can discuss that in a future post, but today, I want to finish off by pointing out that there exists a common misunderstanding in which people assume that certain things are expensive because the sellers of such goods are evil. You know what I’m talking about if you’ve been surprised to see those $4 bottled-water or $18 sandwiches at airports. But before we make such judgements of merchants who sell these goods and services at outrageous prices, we need to remember today’s key point: trade happens because it benefits both parties.

Some people feel annoyed when they see water being sold for $4 at the airport and blame the merchants for such evil doing. Their anger is understandable because after all, not everybody pays attention in an economics class, but misplaced. Don’t think that the airport stores are charging that price because the store-owners have bad intentions of stealing your hard-earned money. Think again. Even if you refuse to buy that water, there are plenty of other people who are perfectly willing to buy them. I know that there are such people, because if there weren’t, the stores would have lowered the price a long time ago (or have really old water that they can never sell). So is the store to blame for this? Or are they simply charging a price that the buyers are willing to pay?

Another example that is a little more significant and relevant in recent political and economical discourse is the rising price of housing in certain places, namely New York City, coastal California, and Washington state where this is becoming a serious problem. Sometimes, landlords and developers are blamed for such high prices, but that comes from the same misconception. If you have understood today’s point, you should know that rent is simlar to other goods in that it becomes high when there are many people willing to pay it. You cannot blame the landlord, then, for charging that market rate. Why would they charge $500 when there are people willing to pay $1000? If any of us were in their shoes, we would do the same, so it is not right to criticize them. So who is to blame for the high cost of living?

The good news is, economists have studied this topic pretty extensively, and they actually know of data-driven solutions to make housing more affordable to people of varying levels of income, which is a topic for my next post. The bad news is, emotionally-charged political debates that disregard everything that econmists have figured out, and politicians who play to people’s ignorance and emotions to get more votes, get in the way of implementing such solutions.

One big motivator for me to keep writing posts like this is to educate more people about economics, because we are all voting citizens. Let us not forget that stupid politicians are in office only because we put them there.

On monopolies and antitrust laws

“Amazon is getting too big, it’s like a monopoly. I’m scared that they are going to take over the world. Other sellers cannot compete with them, and that’s not good.”

That was a concern my friend expressed recently. I was reminded of it again today, because the authorities of the European Union apparently have the same misunderstanding of what constitutes a monopoly. Today, the E.U. announced a fine on Google worth over $5 billion, claiming that Google’s partnerships with hardware makers such as Samsung, Huawei, and HTC to make Google’s applications the default services on the devices are in violation of antitrust laws.

Simply put, this ruling is not warranted. (Disclaimer: any views I express here are my own, and they are not of my employer, Google. For that, refer to their official blog.)

Antitrust laws exist for a simple reason: to prevent a monopoly from taking advantage of its status to remove competition from the market. Here’s a couple of examples of what might constitute a violation of antitrust laws:

  1. If my local cable company works out a deal with the politicians to make it illegal for other competitors to enter the market, then promptly jacks up the price of its services.
  2. If Google and Apple were to secretly agree that instead of competing to offer good products at good prices to the consumers, they would both jack up their respective phone prices (iPhone and Pixel) to some ridiculous amount.

Honestly, either of the above wouldn’t bother me at all because we’ll all be just fine without cable TV or smart phones, but still, I can see that such actions could be considered a violation of antitrust laws.

Now, let’s be clear about one thing. There is a big difference between a company who gets big because it has removed competition through corruption and has broken antitrust laws, and a company who gets big because the services and the products that they provide are so valuable to the consumers that so many of them choose to use it. So which is the case for Amazon and Google?

The reason Amazon is big is NOT because they are evil and they are taking advantage of all of us. Amazon is big because everybody chooses to use Amazon, which in turn makes them profitable. Why do we all choose to use it? Is Amazon our only choice? No, of course not. We can all stop using it any day, if we wanted to. But we don’t want to. We use Amazon because they offer better prices on many goods compared to their competitors, and that is a good thing for the consumers. That is far from a monopoly taking advantage of its status to jack up prices that it puzzles me why people confuse the difference. It might suck for a store owner about to go out of business due to increased competition, but the whole point of antitrust laws is to encourage this kind of competition, not to stop it. If that store owner were to argue he is going out of business and therefore Amazon must be harming the economy, he would be wrong. It is actually good for the economy for a company who does the job more efficiently to get more of the business, incentivizing businesses who don’t do it as well to step up their game and do it better. If they fail at that, they’ll go out of business as they should in a healthy economy, and hopefully they’ll go on to do something else with their time and resources to benefit the society in another way. Fallacies in economic thinking often comes from only thinking about a negative aspect of a small part of the economy (in this case, the store owners), so let’s make sure that we don’t forget about the positive aspects on the rest of the economy, which in this case obviously includes the consumers, but also the manufacturers whose customer-base has suddenly expanded to the entire world thanks to Amazon.

When it comes to Google and the Android platform, again, it would be wrong to say that they have taken advantage of their position to the detriment of the consumers. First of all, they have not at all removed the competition, and they aren’t trying to. Android is an open platform precisely because Google’s mission is to make the world’s data accessible to anyone and everyone. There are so many choices when it comes to Android devices, from over a thousand manufacturers. The competition in this market is alive and well, and there are many affordable options for the consumers because of it. Some of the manufacturers may have agreed to a contract with Google to pre-install Google’s apps, but it’s not as if they were forced to do so. If they thought that Google’s apps were bad and it would’ve been better to install other apps instead in order to sell more of their devices, they would have. Why didn’t they? Their choice. Customers also don’t have to use these manufacturers’ devices. So why do they? Again, their choice. And I didn’t even mention the competition from non-Android (which basically means iOS) devices, which is also a very healthy competition, so really nobody needs to use an Android device if they all choose to use iOS. Why don’t they all switch to iOS? Again, their choice. (Starting to see a pattern here?) All this competition is good for the consumer, and plenty of choices exist as we speak. There’s nothing confusing here, and I can’t put it any simpler. Despite the competition, customers are still choosing to use Google’s applications because of their high quality. These apps provide them with something valuable. When’s the last time Google Maps helped you navigate and avoid a traffic jam? It happens all the time for me. And recently at a sushi restaurant in Tokyo, I saw a Korean girl use Google Translate to figure out how to say her favorite fish, then proceeded to put in her order in Japanese.

My coworker told me about a time he witnessed a family at an airport attending a sick child, and a nurse happened to be nearby to help. They didn’t speak the same language, so they used Google Translate to communicate. Were they forced to use it? No, they chose to because it was useful and it provided them with something they needed.

The economics behind Trader Joe’s bags: An Introduction

I went grocery shopping today at a nearby Trader Joe’s store. As Joel (my cashier today) was ringing up the items I had picked, he asked me in typical Trader Joe’s fashion, “any exciting stuff happen today?” By the way for anyone who hasn’t been to a Trader Joe’s before, their cashiers tend to strike up conversations with you.

I mentioned to him that I learned some Spanish phrases on Duolingo this morning, and asked if he had tried the app too. It turns out that he uses it for learning Japanese, and he started talking to me in pretty good Japanese: “watashi wa nihongo wo hanashimasu. Trader Joe’s no baggu wa nihon de ninki desu.” (I speak Japanese. Trader Joe’s bags are popular in Japan.)

Clearly that second phrase is not something he learned directly from Duolingo, so he must have taken his learning a bit further, and I was very proud of him for that.

Then he proceeded to tell me about an interesting phenomenon: the $5 Trader Joe’s reusable bags are being sold in Japan for $25. “There is a black market for Trader Joe’s bags in Japan,” he claims.

Of course the “black market” part is a joke because there’s nothing illegal about me buying a few of these bags and selling them in my home country, but I got curious so I searched on some Japanese peer-to-peer shopping sites, and sure enough, these bags are indeed being sold in Japan for around $25.

This fascinated me, because as an educator at heart, I could not stop thinking about what a great lesson in economics this makes. Any curious student of mine, when told about this phenomenmon, would have asked me: “Well why does a $5 Trader Joe’s bag sell for $25 in Japan? Can I get rich by starting a Trader Joe bag business in Tokyo?”

It turns out that answering this seemingly simple question requires a solid understanding of some of the most important economic concepts, such as “supply and demand”, “scarcity”, “free market”, “division of labor”, “tradeable vs non-tradeable goods”, “exchange rate”, “purchasing power parity” and many more.

So let’s delve into those topics in future posts. But first, why should you care? For starters, economics is really interesting, but more importantly, I believe that a firm grasp of economics is essential for any citizen of a modern society. Not only are we affected profoundly by the economic decisions we make in our lives, we are also voting citizens, and as such, we ought to understand the philosophies behind each of the fiscal and monetary policies we support. The field of economics, contrary to popular belief, is not just about money. At its core, economics is about making the best use of limited resources to improve society.

Fallacy of a tariff

This week, Donald Trump announced that he is imposing tariffs on foreign steel and aluminum, tweeting “To protect our country we must protect American steel!”

This is a completely illogical policy. It is not at all based on sound economics, and the result is a significant net-negative on America’s (and also the world’s) economy.

It is shocking to me that tariffs are still a thing. Politicians all over the world keep making this mistake, and I am starting to wonder, are they really ignorant, or are they simply doing this to gain votes from ignorant voters even at the cost of the damage done by their stupid policy?

The fallacy in this kind of thinking stems from a simple omission: the mistake of only regarding the positive effect on a small subset of the economy (in this case, the American metal industry) while ignoring the negative effect on the economy of the country as a whole.

So let’s actually think through this issue and figure out what happens to America’s economy as a result of the imposed tariff on metals.

First of all, we must recognize the reason we import any commodity in the first place. The United States imports foreign metals because there happen to be other countries who produce that same metal more efficiently than we do. This makes perfect sense, why would we pay more for an American metal, when we can just import the same exact metal from another country for cheaper?

A person thinking only about the American steel industry then comes to the erroneous conclusion that foreign metal industries are bad for America, because we should be producing more of the metal here “to put America first, and to bring back our jobs.”

This results in a policy like this tariff on foreign metals. Now, those foreign metals are artificially made more expensive in the United States. Because of this, other American industries that need metal to produce their products are now forced to eat the cost by either buying the artificially expensive foreign metal, or the already expensive American metal.

And here is the problem. Now all of a sudden, an American car, say, that used to be made out of inexpensive metal imported from overseas, is suddenly forced to be manufactured from more expensive metal made in America. To the consumer, that means this car is more expensive than it used to be. That naturally leads to the consumers buying less American cars and switching over to cheaper alternatives such as Japanese cars. At best, we “saved” a few jobs in the American steel industry at the cost of jobs lost in the American car industry. In addition to those lost jobs, the American consumers also now have less money, because many goods are now costing more than they used to. The effect of that lost money is hard to trace, but it means less money in the system that could have been used to buy some product in some other industry, so that unknown industry is now short of the need to create that product which directly means less jobs in that industry. I used cars as an example above but the damage is actually distributed across a countless number of industries.

It doesn’t take a doctorate degree in economics to understand the damage of such an erroneous policy if we just simply follow the exchanges. Yet we keep falling for it. To me, there’s no better reminder that our education system has failed to do its one job: to educate citizens to think critically. It concerns me greatly that we continue to fail to make informed decisions based on sound logic and reason. Why don’t we ever stop to think to ourselves for a second, “wait, why is this politician doing this, and what’ll actually happen as a result?” and calling them out for their stupidity without resorting to tribalism and choosing sides based on the politicians’ image, party loyalty, or our views on just one or two issues that we happen to care about that doesn’t even matter that much, like gun control, our fight against terrorism, and many other statistically insignificant things that the profit-driven news programs made us believe are the most important issues? All this while ignoring issues that are actually much more significant. It seems crazy to me that so much of our recent discourse has been about our outrage at things like lack of gun control or Trump alluding to arming of teachers which was no more than a ploy to garner attention, while we go on ignoring things that harm a lot more people, like the lack of equity of access to education, dangers of bad nutrition, and the countless subsidies, tariffs, and regulations that politicians have enacted throughout history that do nothing more than to harm our productivity and, naturally, our quality of lives.

After explaining all of this, some people wonder, “but isn’t it bad for us to support other countries’ economies by purchasing their goods, making us less competitive?” Ok, a fair question, but actually, no, not at all. If other countries are willing to sell us their goods, we are paying them with the money that, in order for them to get any value out, must be invested back in America. It is an exchange. Mathematically, the amount of all imports and exports for any given country must always balance out. If not in forms of tangible goods, then in the form of currency exchange that will eventually be traded for a tangible good in some future timeframe. By enabling free global trade, we enrich the entire world’s economy. This isn’t a controversial issue: economists of all political inclinations agree on this point, other than the fake economists who make a living through their ties to special interests. If we instead artificially cut off the flow of trade, we impoverish more people.

On rent control

Santa Ana, a city in Orange County, CA near where I live, is considering implementing rent control. This is disturbing news to me, because basic economics principles and past failed efforts to control rent in other cities convince me that this effort, if implemented, will not only fail to solve the problem of expensive rent, but will make the problem worse.
A policy’s outcome is much more important than its intention, so we should never implement a policy just because the people who proposed it had good intentions. Of course we all want affordable rent, so the question is, how do we achieve that? If we want to make rent affordable, we have to look at the root cause: why is rent not affordable in Santa Ana right now? What led to this?
 
Rent control is like putting a bandage on a wound, it treats the symptom, not the root cause. That’s right, high rent is merely a symptom of some other poorly-instituted policy or restriction that cause a shortage in the number of housing units available per capita, so that’s what we ought to target if we wished to actually make a difference. There also exist other factors here that we cannot control, like the great California weather, which makes this a very ideal place for people to live in. We can’t change that, and as a result rent will always take up a higher percentage of people’s income here than it would in other places. With that said, we can still optimize the policies to make housing more affordable, if not cheap.
 
When rent is artificially kept low in certain units below what the market is willing to pay, that leads to a smaller amount of funds available in the economy which would have been invested in more housing. That in turn causes a lack of housing and an overall rise in housing costs. It also incentivizes wasteful use of land. That’s because if market forces naturally raise the cost of housing, people who can’t afford it have one of two options. Either they will find a roommate (which alleviates the economy of the need for one extra room, which is a win), or they will move into a smaller, more affordable space, also a win for the person and the system, because the person can continue to live, and it creates an opening for someone else in the economy, helping to maintain the cost of housing slightly lower. And that’s exactly what is supposed to happen when a city has a housing shortage, short of building more units. But if that cost is artificially kept low through rent control, they will stay in that space instead just because they can. While that might be great for the person who was lucky enough to get that rent-controlled space, that leads to less space available for the rest of the population, leading to a higher overall housing cost, based on the principle of supply and demand. And no, we cannot enforce rent control in every single unit, because the only way to make that happen is through subsidies. Nobody will invest in building or managing housing units in which they are only allowed to charge a fraction of the market rate for rent, because that means a loss of money for the investor unless their work is subsidized by the government. But keep in mind that every single dollar spent in subsidy has to be funded through taxes either now or in the future, and that money comes directly from people. So the effect of rent control, if gone far enough to build new rent-controlled living spaces, is that we will have taken money away from people through taxation, and into the pockets of investors, developers, and property managers.
 
I am from Tokyo, a city that has become a mega-metropolis while still maintaining affordable housing for people of all income levels, and it did that primarily by not restricting land development. When you allow the free market forces to determine how much housing should be built to meet the demands of the the industries in the city and what ought to be its price, miraculously, housing stays affordable for everyone. Some of my American friends who are used to living in gigantic living spaces according to Tokyo standards may say to me, “But you can’t get the same quality of life in Tokyo for the same price. Sure housing may be affordable, but you’re living in a much smaller place for what you pay compared to California.” And that’s exactly right! That is indeed the optimal (and only) way to keep housing costs low for everyone in a city with growing industries. And guess what, that doesn’t diminish people’s quality of lives as much as forcing people to move to far away suburbs only so they can commute into the city for two hours in their gas-guzzling SUVs. So maybe California has something to learn from Tokyo. Because I live in Orange County now, this is an issue I care about deeply. I too want it to be a place where housing is affordable for all people, no matter their income. I ask that policy makers carefully consider the impact of their decisions. Please make decisions based on sound data and logic, and not just on emotions.