This article is my follow-up to my earlier article: https://www.garynorth.com/public/17825.cfm.
The title of this article is based on economic theory. Specifically, it is based on one of the most important articles ever published in a professional economics journal, Reuben Kessel's "Price Discrimination in Medicine." It was published in 1958. It was the third article in the first issue of The Journal of Law and Economics, sponsored by the University of Chicago Law School. Within a decade, there was a new academic field called law and economics. Within two decades, there were graduate school programs in which a student could simultaneously earn a Ph.D. in economics and a law diploma. I read this article early in my career: no later than 1963. It may have been earlier.
The article is posted here. If you want to learn how the American Medical Association was able to make a cartel out of the healthcare industry, you must read this article. It is the correct starting point for any discussion of the AMA, modern American medicine, and pricing. Hint: it took government intervention: licensing. It still does.
I will go through the basics of economic analysis as provided by Kessel 60 years ago.
In an open market, whenever a producer gains an advantage in a particular market, he may be tempted to establish a system of price discrimination. He charges rich people more than he charges poor people. He can make more money this way, or so he thinks. He gets rich people to pay the maximum price they are willing to pay in order to gain the service he sells, but this price is much higher than what poor people can or will pay. Then he sells the same service to poor people at a price that they are willing and able to pay. So, he collects the maximum amount of money possible across the board from various income level groups. He is charging, in the famous phrase from the anti-capitalist novel, The Octopus (1901), all the traffic will bear.
The question is this: How much will the traffic bear?
CAUSE AND EFFECT
To connect the dots, you first need a theory of causation. Otherwise, your explanation will be haphazard and probably incorrect.
Let us start with a presupposition: people always want a better deal. However they assess the deal, they want a discount. Everybody responds to economic sanctions. If this were not true, then there could be no such thing as economic theory.
This leads to a conclusion: rich people want a discount. They are sometimes willing to pay more if they have to, but they want a discount. Americans are among the richest people on the face of the earth, and there is no group of people this large who are looking for better deals than Americans. We are legendary for looking for better deals.
Say that you are a rich person. You want to buy an item. You go to a seller. What would be your response if the seller asked you what your annual income is or what your net worth is? You will not make a purchase from him. You will not return. There is one thing that Americans do not like to be asked: how much money they make. You can ask an American almost anything about his life, but don’t ask him how much money he makes. This would be a major breach of etiquette. In my view, it should be a major breach of etiquette. It’s nobody else’s business. But, then again, I’m an American.
What if you asked the seller why he is asking you this question? What if the seller then told you that he plans to charge you a lot more for whatever it is he is selling than what he would charge a person with lower income. Would you continue to buy from this seller? You might, but your reason for buying would not be based on price. It would be based on some other connection -- maybe a connection regarding a particular cause. But if the seller is in business only to make money, there is no cause. So, why would you buy from him? If you were short of time, you might buy once. But you would not return.
Then there is the question of rival sellers. If a rival seller sees that you are paying three times as much, he has an incentive to come to you and make you this offer: to sell you whatever it is you want, but at the price that the first seller is charging his poor customers. You will then face a decision. Are you going to pay far more for whatever the item is, or are you going to get a comparable item at a fraction of the cost?
To ask the question is to answer it.
MARKET PRICING
There are several issues here. First, there is the motivation of the seller to maximize his income at the expense of richer people. Second, there is the motivation of richer people to try to get a better price. Third, there is the motivation of a rival seller who is willing and able to offer the richer person a much better deal. These three factors combine to put price competition into every market. Over the long-term, it is extremely difficult for a seller to maintain his market share if he adopts a pricing system based on price discrimination.
When you are shopping at Walmart, Target, or Dollar General, and you bring an item to the check-out stand, the clerk does not ask you how much money you make or what your net worth is. She simply passes the item across a barcode reader. The store’s computer charges you a specific price. It doesn’t matter whether you are rich or poor, you are going to have to pay that price in order legally to carry that item out of the store. This is price competition in action.
The larger a retail enterprise is, the less likely that it is able to operate in terms of price discrimination. The only major exceptions to this rule are discounts offered to senior citizens or children. Let me assure you, I have taken advantage of senior discounts ever since I was eligible to receive them. Why does this policy of price discrimination persist? First, because Americans are somewhat sappy about senior citizens. Second, Americans think they’re going to get in on the deal when they turn 60 or 65. So, it is socially acceptable for a business to use price discrimination to subsidize oldsters.
What about discounts to children? Airlines offer free seats for children under the age of two. Amusement parks offer free entry to children under age 3. This has to do with generating a sale from parents of young children. The parent would not buy a plane ticket or a ticket to an amusement park if the family could not bring along the infant or young child. So, the business decides that it is acceptable to offer free entry to very young children. The public accepts this because people understand that mothers who are dragging around young children will go somewhere else if they don’t receive this discount.
This is age discrimination, pure and simple. It is socially acceptable in the United States, and it maximizes income for certain sellers. Buyers accept it, and sellers profit from it. So, in these rare exceptions, there is price discrimination.
With this as background, I will now analyze the story about the Nigerian chef in New Orleans who has a program of price discrimination.
CONNECTNG THE DOTS
If I had been the reporter set out to cover this story, I would have started my investigation with the following operational assumptions. My questions would have related to these assumptions.
First, while I might out of politeness have called the storefront restaurant's owner a chef, he is operating a one-man food operation that sells Nigerian food at a window. His operation is basically a food truck without wheels. He is renting. He is just getting started. He is not a typical New Orleans chef. I assure you, this is not how Commander's Palace operates. It is not how any successful restaurant in New Orleans operates, and New Orleans is the Mecca for restaurants in the United States, rivaled only by New York City – call it the Medina of Restaurants – which also does not operate in terms of price discrimination.
Second, my guess would be that the ratio of white customers to black customers is low. Whites are not big fans of Nigerian food. They don't know where Nigeria is. So, he is trying to skim off as much money as he can from a Pareto distribution. My guess is that 20% or less of his customers are white, and 80% are people of color. If I had been the reporter, I would have visited the little restaurant at lunch time and dinner time. I would have made a rough calculation of the racial distribution of the customers. I would have reported on this distribution in my article.
Third, I would guess that the white customers tend not to be repeat customers. I would have interviewed some of his customers. I would have asked this question: “How long have you been coming here during this experiment?”
Fourth, I would have researched the number of storefront restaurants in the immediate vicinity. Are there competitors who also offer a comparable menu? In other words, are the white people saving time by coming to this restaurant? My guess is it there are not a lot of competing storefront restaurants nearby.
Fifth, I would have asked when the experiment began. We are told at the very end of the article when the experiment will end: March 11.
If I had been the editor, I would not have run this article without telling the reporter to return on March 12 to see if the experiment had been extended. The fact that the editor allowed this article to be run indicates that he doesn’t understand economics any better than the reporter does, and the two of them are in the same analytical boat as the man who owns the restaurant. They do not understand the effects of competition.
If the article was not worth a follow-up visit on March 12, then it was just filler. An article that is filler should not begin with these words: “A New Orleans-based Nigerian pop-up restaurant is causing quite a stir for conducting a social experiment that forces white people to come to grips with racial disparities.” No pop-up restaurant that sells Nigerian food is creating a stir. It is just a storefront operation.
It is safe to say that the experiment will be abandoned. The “restaurateur and chef” may continue it for a little longer, but if he doesn’t abandon it, he is going to go out of business unless his business is so small that it is not worth competing against. If this experiment were to last a long time, meaning over a year, and if it worked, the owner of the operation would be tempted to open more storefronts. Then a competitor would spot an opportunity. He would open storefronts located close to the ones running the experiment in price discrimination. He would offer the same menu to everybody at the same price. I guarantee you what will happen next, even in New Orleans, unless the chef really is a spectacular chef, and unless the chefs he hires for his franchise operation can deliver equally tasty food. Most whites will eat at the competing franchise.
This is what price competition does to every operation that adopts a policy of price discrimination, again with the exception of age discrimination. This is one of the many facets of capitalism that is universal. Only in the case of government intervention, as described by Kessel in 1958, do we see long-term price discrimination. We see it in higher education. We see it in medical care. We see it whenever and wherever members of a cartel have gained support from the government in limiting access to the market by competitors.
CONCLUSION
The reporter and his editor did not have any background in economic thought. They did not begin the investigation on the assumption of economic cause-and-effect. In other words, they did not connect the dots. It was just a filler article in an obscure publication.
It takes background information to connect the dots. Most reporters do not have sufficient background information to connect more than a couple of dots, and even when they only have a couple of dots to connect, they will probably not connect them coherently. They do not understand cause-and-effect in the many fields in which they are called upon to write articles. This has always been the main problem of journalism, and I think it is unlikely to change in the near future.
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