Tuesday, July 31, 2012

Rerun season!

Good morning all. It is now that time of the season that almost all TV stations are rerunning the viewers' favorite programs from the last season. The reason is simple. People do not watch as much television in the summer. As such, stations are competing for a much smaller viewer share compared to the wintertime, plus they are running on essential personnel alone since most are away on vacation.
The fact that TV stations are running programs that have been featured before causes less people to watch television (since a rerun is not taken kindly by some viewers) which in turn causes stations to feature more reruns. Let's call this the rerun-viewer cycle.

I, myself, am going on vacation at the end of the week. I will keep posting when possible but on days that this will prove impossible either because of lack of time or internet connection, I will be featuring an older post in the blog that may have escaped you.

In the meantime, do not forget to check out Gold magazine when it comes out on the 7th of August. I have written an opinion piece entitled "Cyprus needs a Margaret Thatcher" which I believe you will find interesting.

Have a nice summer and keep checking back for updates. I will be back on the usual daily schedule from the 3rd of September.

Monday, July 30, 2012

How can job positions be made available NOW

Good morning economists! I would like to thank you all for reading my blog and leaving constructive comments in the various posts. My article "The Troika is here...now what?" was the cause for controversy this past weekend. I was accused of being an avid supporter of a particular political side and I was even urged to "leave the world of politics".

Let me start by saying that this blog is independent of politics. In my post "Dear politicians, I blame you!" and even my Troika article, I do not mention ANY political parties and I do not discuss any subject other than the economic situation that our country finds itself right now. My references to the government would have been the same no matter which political party was in power. Further, if you read my posts carefully, you will see that I am arguing that a total system restructuring is necessary. This means that all political parties that were in power in the last twenty or so years are responsible for the condition of the economy today. Bottom line the system has failed and we need to fix it.

Having said that, I was also accused of supporting pay cuts and the abolition of the Cost of Living adjustments. Economic theory, however, argues that this is the short run cure to unemployment. This measure was going to be implemented by the Troika no matter what! Suppose the Labour market is represented with the following diagram:
This is what the labour market looks like in the majority of countries. The wage rate is set at WR1. As a result, we have an inequality in quantity demanded and quantity supplied and this is known as unemployment. Only Q1 workers are employed at this wage level. With the abolition of the CoLa and the pay cuts in the PUBLIC sector, to the wage rate level WR2, we have an immediate impact on unemployment. Cheaper labour will be employed at Q2, increasing the number of workers employed from Q1 to Q2. This is the short run cure to unemployment.

Another way to increase employment would be to increase demand for labour but in a period of recession that may prove tricky. The abolition of corporate tax may be helpful but its impact will be felt after a period of two to three years.

So do not be impressed when you hear a government (ANY government) shout and scream about safeguarding the rights of the working class. Who will safeguard the rights of the unemployed class, I wonder? By sustaining the wage rate at WR1, the people working get richer and the unemployed get poorer.

Have a nice "working" day!

Saturday, July 28, 2012

Is the sea an example of a free good?

Good morning everyone! Every weekend in the summer thousands of people visit the beach as a way of keeping cool and enjoying a potentially low cost outing. The sea is in theory a free good in the sense that it does not cost anything to swim in it or even get wet for the rest of use who are non swimmers.

However, there are potential costs that we face when we visit the beach. The cost of petrol for driving to the beach, the cost of sunbeds, the cost of food and drinks we consume while we are there. Plus, let us not forget about all the time we spend for preparation.
How much would you be willing to spend to find yourself on the beach right this instant? I am willing to bet that your answer depends on what you are doing right now!

Have a nice weekend!

Thursday, July 26, 2012

The Troika is here...now what? (Part 2)

Good evening economists. As a follow up on my article in Cyprus Weekly I am posting this piece published in Simerini newspaper.


My original article which you can read a couple of posts below, foresaw pay cuts in the public sector as well as layoffs and increase in indirect taxation. I am saddened by the fact that I was right for the first two and I will probably be spot on for the third when the actual measures are announced. I am saddened because this means that difficult days are coming. I am also saddened because there are still people who remain passive, applauding the government's mishandling of the economy even in this late stage.

Remain then with your "red lines". The rest of us choose to move forward.

Have a goodnight!

UPDATE: The Troika will recommend an increase of VAT to 20 percent. The measures predicted in my article have been realised. Hang on because the most difficult part is still to come.


Wednesday, July 25, 2012

Sale 50% off designer brands

Good morning everyone. Today I would like us to discuss the idea of sales. We all know of course that every year around this time, stores are selling off their merchandise at discounted prices. The reason is simple enough. To make room for new merchandise for the new season. But how do stores decide on the discounted prices?
It is all a matter of supply and demand. The point is that the original price (before the discount) is actually too high. When we bring demand and supply together, they determine what the price of the product should be. Looking at the following graph, the price for the particular product should be P*.
However, before the sales, stores charge P2 for their product resulting to a disequilibrium. At P2, we can see that quantity supplied is greater than quantity demanded. In other words we have excess supply or a significant amount of the product that remains unsold. During sales period, the price is reduced to P* and the remaining amount is sold. (There is also a possibility that the discounted price falls below P* but we are not going to touch on this).

The moral of the story is that if the store is selling at a discount, then it was charging too high of a price to begin with. So shop wisely during the sales period.

Have a nice "sales" day!

Tuesday, July 24, 2012

DJ discovers the secret of happiness

Good morning economists. Today we will talk about the happiest DJ in the world. The happiest DJ in the world is DJ der guten Laune or DJ of good humor as it translates to English. His real name is Christian and he is from Cologne Germany.

In an older entry, I posted a video showing Christian, illustrating the concept of utility. It was that particular video that made him popular. Here is a more recent video of him performing in a club.(The video is kind of long but you get the idea after a few seconds).
So why has this person become so popular? Afterall, there are millions of DJs all over the world. One answer might be that people find him amusing. I will argue that people actually envy him.

Just like all our decisions, our choice of work involves a Cost and Benefit analysis. In other words we weigh the positives and the negatives of our everyday routine. Working is a chore for some people which is offset by the money received as wages. In a sense the situation is balanced as the disutility caused by work is offset by the utility of the received pay.

Christian managed to tip the balance over to the Benefit side. He is not only receiving utility from monetary compensations, but also enjoys his work immensely. He has discovered the secret of happiness.

What type of job would make you happy?

Have a nice "der guten laune" day

Monday, July 23, 2012

The Troika is here...now what? (Cyprus Weekly article)

Good morning economists. For those who did not read my article in the Cyprus Weekly this past week, I have chosen to make it the post of the day.

"The initial inspection of the Cypriot economy by the Troika has now been concluded. Representatives from the European Commission, the International Monetary Fund and the European Central Bank, the three agencies which make up the Troika, have met with government officials, politicians and other key people and have drawn some preliminary conclusions. As of today, we do not have a clear picture of the measures that will be imposed on the Cypriot people. What we do have, however, is a government which is trying to convince us that it has the power to draw “red lines” or refuse recommendations by the Troika.

The government’s attempt to explain how the economic recession is the outcome of the failure of capitalism exemplified by the questionable investment decisions of the banking sector is a rather poor one indeed. How is this related to the dismal government budget deficit? How is this related to the fact that state owned enterprises are draining public funds? And how is this related to the record breaking unemployment level?

The government’s inability to borrow funds in order to prolong the inevitable, namely, the failure of the structure of government as we know it, is now evident. The austerity measures that will be imposed by the Troika in order to balance the government budget will be ruthless. Government spending must be reduced and government incomes must be increased. This means that the Troika will undoubtedly target the inflated number of job positions in the public sector while raising taxation. In the midst of the worst recession in the history of the nation, these measures are a nightmare. In the days that will follow, many of us will wonder who or what is to blame for the current situation. 

 Instead of arguing whether or not an inter country loan would be more acceptable if it came from USA instead of Russia, behavior which is reminiscent of the Cold War years, it is best to work collectively to restructure the economy. There is an immediate need for private investors to enter the public sector, not only to inject private funds, but to take corrective measures to increase productivity. The sale of Cyprus Airways, would be a good start.

There is also an immediate need to reduce unemployment. Despite the objections of the labor unions to discuss the CoLa with the Troika, we cannot overlook the fact that when the wage rate is sustained over the amount determined by the market forces, this leads to unemployment. This is especially evident in state owned enterprises where wages are highly inflated and do not represent the true productivity of labor. I am afraid that pay cuts in the public sector are unavoidable.

How do we proceed, you may ask. I do not think we have a choice. The government will negotiate the conditions of the loan. Hopefully, the negotiations will be in the best interest of the Cypriot people. In the end, inviting the Troika may not be a bad thing afterall. Since our government is unable to handle the economy, let’s leave it to the people that can. Sad, but true!"

Have a nice day!

Sunday, July 22, 2012

Crazy woman in Paralimni

Good morning everyone and have a nice week. Today I would like to discuss an incident which took place yesterday, Sunday, in Paralimni. I was driving on the main road when all of a sudden the car in front of me swerved to the right. Keep in mind that this was at very high speed because this was a busy main street.

I immediately noticed that a woman was walking down the left lane without showing any sign of concern about the probability of being hit by a car. I will not forget the blank look on her face when I was also forced to swerve. The cars that were behind me also managed to avoid hitting her but at least one of them came really close.

This got me thinking about the motivation of this woman who in the meantime was deemed to be crazy by everyone who was riding in the car with me. Could it be that this woman was so desperate so as to want the get hit by a car in order to seek monetary compensation?

Although a stretch, this scenario is not totally science fiction as a lot of cases like these are reported daily to the police (you can also refer to the "Beware of staged car accidents" article).

Is it possible that a sane human being would be willing to sacrifice her health for money? And how much money would it take? I have discussed the economic notion of opportunity cost or sacrifice in a prior post, but never before have I seen it exhibited in this way.

What is the price of sanity, I wonder.

Have a nice swerve-free day!

Thursday, July 19, 2012

Would you lend money to your best friend?

Good morning everyone. Today we will touch on the idea of public goods. A public good is a good or service that can be used by everyone in society. It is impossible to exclude anyone from using it and all the people who wish to use it can do so at the same time (simultaneous consumption). A fine example of a public good is street lighting. Everyone can use it and it would be impossible to limit its consumption.

The problem with public goods is that a lot of people do not contribute to the funds necessary for their provision. This is known as the free rider problem. People figure that since the good is non exclusive, in other words nobody can prohibit them from using it, they can get away with not paying for its provision.
So society is split between cooperators, the people that do pay, and free riders.

In the morning I was listening to the radio while driving to work and the topic of discussion was the refusal of workers' collective funds to lend money to the Cypriot government for three months. This is a relatively short term loan which will most likely be repaid in full with the money received as aid from the European Union. Whats more,  workers, and more particularly government employees, have been enjoying government benefits for a number of years.

  So here we have a situation where the government has been providing public goods to all people (sometimes at a cost) and when the time came, people refused to return the favor in the form of financial assistance. We are becoming, it seems, free riders. Darn recession!

Have a free riding day!

Wednesday, July 18, 2012

Mojito.....10 Euros!!!

Good morning economists. After a day's well deserved rest I would like to discuss today the concept of pricing. I visited Protaras, a tourist resort in Cyprus, this past weekend and I was surprised at the extremely high prices that some restaurants and tourist shops were charging. I also noticed that a lot of people on the beach were bringing their own foods and drinks. This got me thinking about the price elasticity of demand, and most importantly its role in pricing products right.

There seems to be a confusion (at least in Cyprus) as to how to react when quantity demanded for a product is low. For example, hotel and restaurant managers have been complaining that the number of tourists has decreased over the last decade. So they figure (and I actually heard this as an explanation) that in order to keep constant revenues, they should increase the price in order to compensate for the loss of customers. The problem with this, however, is that such behavior totally ignores the concept of price elasticity of demand.
Hotel and restaurant managers believe that their services are represented with the red demand line. They are what we call "inelastic". As such when they increase the price, the total revenue (or income), represented with the rectangle with the dotted red lines, increases.

The problem is that the price elasticity of demand for their services is in reality elastic, represented with the blue demand line. As such when the price increases, their total revenue represented with the dotted blue lines, decreases.

Perhaps, it is not too late to reverse this type of thinking. Would you pay 10 Euros for a mojito?

Have a nice day!

Monday, July 16, 2012

Keeping it real!

Good morning everyone. Yesterday night as I was driving, I was listening to this show called "fight club", a very popular late night show in Greece. So from what I understood, the show was giving away, in the form of a draw, a number of special belts that could be used in a game called "West". I was intrigued because I clearly had no idea what they were talking about, but after listening to the show for 5 minutes, I found out that West is an online role playing game. The special belts could give special powers to their owners.

So here is a show, that instead of real products or services, is giving away virtual goods. Could it be that the virtual world is taking over the real one?

And could it be that virtual utility (enjoyment) is taking over real utility? There are those who would argue that utility cannot be separated into real and virtual. Utility is the enjoyment that one receives from performing a particular action, either playing football or playing video games.

What has changed is the social factor in the utility function. Where utility could be derived in the past by going for coffee with friends, now virtual utility can be had by belonging to a virtual society in a role playing game (like second life). The question that arises however is whether the new virtual utility is enough to compensate for the forgone real utility. In other words, are you getting enough virtual utility to replace the utility lost from not being part of the real world?

Is it worth replacing real experiences for virtual ones? You be the judge.

Have a nice real or virtual day!

Sunday, July 15, 2012

Beware of staged car accidents.

Good morning economists! Did you know that the average car accident can cost the insurance companies anywhere between $85.000-$105.000? Innocent information you may say, but nowadays this is just another tool in the hands of fraudsters.

Enter staged accidents where the culprits are on the lookout for opportunities to claim money from insurance companies. Just watch the video and you will understand.

The problem with such schemes except from the probability of bodily harm, is that insurance premiums are increasing and lots of people can no longer afford paying for insurance. In economics these staged accidents are examples of moral hazard and adverse selection. In the case of moral hazard as far as drivers insurance is concerned, we observe the phenomenon of people driving recklessly because they have insurance which will cover any potential accident.

In the case of adverse selection, individuals with higher risk of having an accident seek to insure the maximum amount for collision damage.

Unfortunately people tend to come up with ways to exploit weaknesses in the insurance system in order to make money. So next time you are out there driving, keep your eyes on the road and watch for staged accidents.

Have an accident free day!

Saturday, July 14, 2012

Weekend reminders

Good morning everyone. A reminder of the Everyday Economist giveaway when you share and like the articles in the blog. The person with the most shares and likes until the 1st of September will win a 20 euro certificate from Starbucks.

Also, during the weekend and the next coming week, you can read my article in the Cyprus Weekly entitled "The Troika is here...now what?"

Have a nice weekend!

Friday, July 13, 2012

New Youtube Video

Are you going on vacation this year?

Good morning economists. Today I would like to discuss the changing patterns as far as the concept of vacationing is concerned. I remember a couple of years ago, around this time, people would ask me where I would go for my summer vacation. This year, the question has changed slightly. "Are you going on vacation", I am being asked.

This got me thinking about the labor-leisure model and how it is changing because of the recession. Imagine for a moment that your decision options involve the hours spent at work and the hours spent on leisure. Your decision will determine how many hours you will work every day and how many hours you will spend on other activities. We can visualise the model in the following way:

Your preferences are represented by the indifference curve IC. Since the day only has 24 hours, your preferences will determine how these hours will be spent. In the example above this person is spending 12 hours working and 12 hours on leisure activities.This is represented with the point A.

Due to the current recession, and the rising need for income, people's preferences are changing. The shape of the indifference curve is such that point A has moved up towards preference for income generating activities. In other words people are working more and vacationing less.

In the end finding the right balance is important as this will have a direct impact on our utility or enjoyment. So are you going on vacation this year?

Have a nice day!

Thursday, July 12, 2012

Think twice before jumping over a moving car!

Good morning economists. During the last couple of years many people have been asking whether the recession will end soon and the economy will rebound. Many academics and other market professionals have been appearing on the evening news throwing different dates and years left and right. The ministry of finance in 2009 projected 2013 as the year that the economy would recover. I am afraid that all of this is pure nonsense.

In order to be able to make an accurate prediction about the state of the economy, we need to know ALL the information about the variables that affect it. I will explain with an example.

Suppose that for some reason or another, a person wants to jump over a moving car (I know...weird). If the information about the speed of the car, the speed of the person, how high the person can jump, the weight of the person and much much more is not known, this is what will happen:

It is exactly the same with the economy. There are so many variables that can affect a national economy that even though we had all the necessary information available we would still have a difficult time predicting the future.

During the couple of months it has become apparent (from the failure of the banking sector and the request for financial assistance from the European Union) that governments have been hiding information from the public. How can anyone make a prediction if information is missing or is purposely false? No, we cannot predict how the economy will behave in the future. Not under these conditions.

We can make recommendations, however, as to what must happen for the economy to enter the path of increased productivity and decreased unemployment. The Everyday Economist article in the next issue of Gold magazine will address these issues.

Have a nice day!

Wednesday, July 11, 2012

Everyday Economist Giveaway! Win a 20 Euro Starbucks certificate!

Greetings economists. In order to reward you for your support I am inviting you for coffee. As of today and until the 1st of September 2012, you have the chance to win a 20 Euro Starbucks certificate (or equivalent in other currencies). I am only asking for two things:

1) Subscribe to the blog by inputting your email address just above my photo on the right.

2) Share the blog entries with your friends on facebook!

The person who subscribes to the blog and has the most shares on facebook will win a 20 Euro Starbucks certificate. Time for a nice cold frapuccino!!!

Enjoy the rest of your day!

Tuesday, July 10, 2012

"We buy gold for cash"

Good morning economists. Today we will discuss the increasing number of pawn shops that started making an appearance all over the globe. A pawn shop operates by lending money to people in return for something of value, a watch, a gold ring or bracelet. In principle, the person who borrows the money can go back to the pawn shop after an agreed time period and claim back the valuable item by paying the amount borrowed plus some interest. In the United States, the concept of the pawn shop has been around for decades, however, the idea seems to be spreading to the rest of the globe because of the current recession. Should you pawn your valuables?

Of course if we had the chance and money was ample, we would not even think of pawning our valuables. However, because money is scarce its value has increased. In other words people value liquidity more than their prized possessions. People who are in a difficult financial situation, either because they owe money or because they have been unemployed for a rather lengthy amount of time place more value on liquidity than people with a steady income. It is these people that will eventually consider using the services of a pawn shop.

Although I am in favor of the free market economy, I am radically against taking advantage of people in need. The Cypriot government decided that pawn shop ads are illegal and should be taken down. I am afraid that nothing has been done to this effect. I call on the government to protect the people by imposing a price floor for gold. In other words set a minimum price that a pawn shop could buy gold in order to protect the interests of the people who wish to use these services.

Have a nice day!

Update on blog and Cyprus Weekly

Good evening everyone. I would like to announce that the Everyday Economist blog will make its first appearance in Cyprus Weekly this Friday the 13th of July. Look for the column in the finance section. It will be entitled "The Troika is here...now what?"

Also I would like to thank everyone for the support and for following the blog. I also appreciate the shares in the social network websites. One month after its creation, the blog boasts 3.600 viewers and the number is increasing exponentially.

Thank you all once again for the support.

Monday, July 9, 2012

This is why you cannot get a loan.

Good morning economists. Today we will discuss the lack of liquidity in the banking sector and why it has become difficult to secure loans from financial institutions. Did you know that every time a bank gives a loan, it essentially creates money?

Let's review a simple example. Suppose Andrew walks in a newly established bank and deposits 100 Euros. He walks away with a deposit slip and assumes that his money is safe in the bank. Now suppose that Mary walks in and requests for a loan of 90 Euros. In order for the bank to make a profit on the transaction it needs to lend money to Mary at a higher interest rate than it is paying Andrew. So it will approve Mary for a loan and Mary's account now has 90 Euros.

So out of the initial 100 Euros deposited by Andrew, the bank has created an additional 90 Euros in loans to Mary. Both Mary and Andrew can in principal spend 190 Euros. The problem arises when both Mary and Andrew show up at the bank asking for cash. Remember, there is only 100 Euros available as physical cash. The remaining 90 Euros is virtual money arising from the loan. We call this problem "a run at the bank".

This is exactly the problem faced by many financial institutions, namely the lack of liquidity to satisfy both depositors and borrowers. The problem was caused by the inability of central banks all over the world to control the lending patterns of the financial institutions. As a result, a lot of people will default on their loan payments and this will in turn decrease the amount of virtual money in the economy. The liquidity problem will subside only when the amount of virtual money has decreased enough so that existing cash is able to sustain the economy.

Have a nice day!

Sunday, July 8, 2012

So are you looking for work?

Good morning economists and have a nice week. Today we will discuss the labor market and the importance of choosing the right education path.

A couple of weeks ago, we heard about the outrageous amount of time that people have to wait until they find work as teachers in the state schools and lyceums. Some people will have to wait 300 years until they find the employment they seek. Is this the outcome of a successful labor market. I do not think so...

The times where each lyceum or college graduate was guaranteed a job after graduation have come and gone. They were replaced with times of fierce competition and inflows of foreign labor. The demand for labor has decreased dramatically in the midst of the recession.

There is no short run magic formula for decreasing unemployment. Not in these economic conditions. The process will be a long and difficult. And it starts by choosing the right education path. The need for people to take their education seriously in order to succeed in their lives.

We invest in our education in order to enjoy the product of our labor in the future. The right education, will lead to the right job position, the right salary and thus the good life. Choosing the wrong education path will lead to unemployment and difficult times. The cost of education should not exceed in value the future benefits received after graduation.

It is now time for lyceum graduates to choose their education path. I say, choose wisely, because your decision is going to run with you for the rest of your lives. Choosing the right education path means studying the market today. It means looking at demand and supply for each type of work and choosing the career path which offers the highest probability of employment and thus income.

Have a nice day!

Friday, July 6, 2012

The Everyday Economist is coming to Cyprus Weekly.

Good afternoon everyone. I am pleased to announce that the Everyday Economist is coming to Cyprus Weekly, one of the most popular newspapers in circulation on the island of Cyprus.

The columns will be dedicated to current economic events explained in simple terms so that everyone is able to understand. During these difficult times, it is necessary that all people have all the information at their disposal so that they incorporate it in their everyday decision making process.

I would like to thank Cyprus Weekly for the opportunity. I will keep you updated on the progress.

Meanwhile have a nice weekend!

Thursday, July 5, 2012

Red tape? What red tape?

Good morning everyone! Today, we will talk about something that we have all experienced. The joy of standing in line for ages in a government run ministry or department. Recall the last time you visited the social security office. Yes, that will do!

Of course each one of us has an opinion of how government departments must be run in order to become more efficient, but have you wondered why they are in the state they are in right now?

There is one major problem in government run departments, red tape. Red tape is another word for bureaucracy. The sequence of forms required to gain approval for something. This is entirely dependent on the structure of the government and the way it is organized. Although rules and regulations and in fact bureaucracy are important for a government to function, having too much of any of these presents a problem. This is the cause for delays and a general sense of discomfort for the people that require government assistance.

In times of recession, when money is limited, it is in the best interest of the government to increase the red tape in departments with money outflows and decrease the red tape in departments with money inflows. In other words, the government can receive money faster than the rate it spends. So do not be surprised if all of a sudden there are new forms to fill in and new timely procedures to follow in order to apply for government assistance.

And by the same token, it is no surprise why you can submit your income tax forms online and make an immediate payment without the hustle of too much paperwork.

So the next time you are standing in line wondering why you have to fill in tens of forms to claim government assistance, remember...it is that way on purpose.

Have a nice day!

Tuesday, July 3, 2012

My chicken for your goat!

Good morning economists. Today we will discuss the reason for the existence of money. Money, or lack of it, to be exact, is the cause of the current recession. However, money is not actually necessary to complete a transaction.

Before money was created there was another system of transactions in place, barter. Barter is the exchange of goods and services for other goods and services. In the older days a farmer who wanted to exchange his chicken for a goat had to search, for a significant amount of time, to find another farmer who was willing to exchange his goat for a chicken.

Barter is more evident nowadays in transactions that require the exchange of large quantities of money. There are many real estate classifieds for example, where the seller would like to exchange her property with another.

The problem with barter and the motivation behind the creation of money, is that it requires a double coincidence of wants. Using the contemporary example described in the previous paragraph, a real estate property seller would require another property that is acceptable for her from the buyer. So both the buyer and the seller need to agree on the properties that will be exchanged. As you may understand, this will require a lot of time and effort from both parties. Money essentially solves this problem because it can act as a medium of exchange and it is generally acceptable by everyone.

In times of low liquidity, when money is scarce, barter is another alternative to completing a transaction. A significant number of ads online and in the press are now requesting for the exchange of goods. This is because people know that money is limited. The sellers and buyers are prepared to spend more time searching for an appropriate counterpart to complete a barter transaction.

Because when the money is not there, time is all you have left.

Have a high utility day!

Monday, July 2, 2012

Read this and save money and time!

Good morning economists! Today I would like to discuss the concept of sunk costs in economists and how these affect the decisions we make on a daily basis. Sunk costs are costs that have been incurred (or paid for) in the past and that money can no longer be retrieved.

Let me give you a couple of examples. Suppose you buy a frozen yogurt from an ice cream kiosk. This is an example of a sunk cost. You bought the yogurt. Once you paid for it, you cannot receive your money back. Another example is buying a shirt or a pair of trousers from the sales rack at a clothing store. Usually you cannot return any clothes purchased from the sales section so the money you paid cannot be retrieved after the purchase.

Sunk costs are by definition costs that have been incurred in the past. In economics, we argue that these costs should not be taken into account when taking a future decision. Unfortunately, this is a common mistake that people make and it is costing them money, time and effort.

 Remember the frozen yogurt you bought from the ice cream kiosk? Suppose you bought the berry flavor just to give it a try. A couple of spoonfuls later you decide that you hate the taste. Do you  continue eating it because you paid for it, or, do you throw it away in disgust?

What you should realize, is that the money you paid for is completely irrelevant in your future decision making. That money is gone and is not coming back. So your decision should be solely based on the level of enjoyment the frozen yogurt provides. If you hate the taste, you should immediately throw it away. Eating the yogurt will result in disutility and will bring you a level of discomfort.

Have you ever met someone who always seems to have car trouble? I have met plenty of people who spend a fortune on fixing their cars only to break down again because they are what we describe to be "lemons" (always breaking down). I was recently talking to a friend who falls in this category and when I inquired as to why he is not selling the darn thing he replied: "But I spent so much money fixing it!"

Obviously my friend is not familiar with sunk costs. He chose to keep the car, knowing too well that it will break down again in the immediate future. He based his decisions on money spent in the past not realizing that this money is gone!

Remember, future decisions are not always based on the past.

Have a high utility day!

New domain for the Everyday Economist

Greetings economists. I hope you are enjoying the articles posted on the Everyday Economics Explained blog. You can now also access the website at www.everyday-economist.com

Further enhancements will include free email accounts to all subscribers. Emails will be of the format user@everyday-economist.com.

The goal is to make the Everyday Economist a website where we can share our economic concerns and collectively learn how we can use economics to better our lives.

If you like this blog or to support this initiative please share this with your friends on the social networks like tweeter and facebook.

Thank you for your ongoing support!

Dr. Constantinos Charalambous

Sunday, July 1, 2012

Timing is key. What you should NOT do when you start a business.

Good morning economists and have a nice week. Today, I would like to discuss the notion of entrepreneurship and more particularly starting a new business.

In 2006, the real estate sector in Cyprus as well as a number of other countries was booming. Banks were quick to provide developers with loans in order to finance the ongoing investments. Then suddenly in 2008 the bubble burst, several developers went out of business and their buildings were seized by creditors. What led to the decline in this particular sector?

We can of course blame the recession but the REAL reason for the decline was the huge increase in the quantity of properties for sale. In the discussion we will refer to what is known in economics as the short run and the long run.

The short run is simply put the time period where there are no new business entrants in the market. In other words, the market operates with the existing suppliers. On the other hand, new businesses can enter the market and supply their products or services in the long run.

There is no specific time frame for the short run and the long run simply because each market is different. We cannot define the short run to be two years for example. If you are a businessman timing is everything. There is an appropriate time to enter the market, and an inappropriate time to enter as well.

Unfortunately, back in 2006 everyone jumped on the real estate bandwagon. Every John, Smith and Andrew (or to put it in Greek every Costis, Yiannis and Pericles) woke up one day and thought "I will be a developer today". Securing loans was not a problem and neither was the demand for properties at the time. When the supply of properties increased dramatically because of this phenomenon, however, there were a large number of properties that remained unsold. There was simply not enough demand to cover the ongoing supply. As a result a lot of developers went bankrupt as they could not make their loan payments.

The moral of the story is this. Careful when deciding to start a business. Study the market. Look at what is happening to demand AND supply as well. Most of the people fail to examine supply. They only care about demand.

And remember! If an idea is obvious to you, chances are that it is obvious to other people as well.

Have a high utility day!