Stationery and the Third Law of Demand

It’s been two months and a week since I moved to the US from India. I have had multiple culture shocks. Some that I have been able to explain, while others not. Here’s one that was in the latter category until earlier today.

A striking observation is how people use stationery here. Supermarkets and stationery stores carry mechanical pencils not in packs of up to 20, but the lead refill packs would be difficult to find. Most pens come without cartridges, so when one pen runs out of ink, you use another pen instead of replacing the cartridge. I have used the same mechanical pencil since 2018, and the same pen since 2022. All I have had to do is buy lead refills and cartridges for the pen. A naïve observer, such as myself until recently, would have chalked up the consumption patterns here to American Consumerism or Capitalist Excess, terms which carry little explanatory power.

A better explanation is the Alchian-Allen effect, or the Third Law of Demand! Consider a low-quality good and a high-quality good, where the high-quality good is priced higher. Now, add the same positive cost to both the low-quality and high-quality goods. How would you expect the price-ratio to change? The relative price of the high-quality good would fall. We would expect a shift in consumption from the low-quality good to high-quality good (on the margin!).

Here’s a quick illustration. A pencil and a pack of pencil leads is manufactured in, say, Japan, and are priced there at values $2 and $1. Consider a new pencil as a high-quality good, and an old pencil with a new lead as a low-quality good. The relative price of the pencil is 2. Now, consider that it takes $2 to ship each of them to the store in the US! Assume that the price change fully reflects the price of shipping. Now, the relative price of a pencil falls to 1.33! ($4/$3). On the margin, we would expect more individuals to buy the pencils than the lead refills — and this is what we observe!

Reasoning through price theory also disciplines you as an economist. I may not fully agree with Stigler and Becker’s argument in De Gustibus Non Est Disputandum, that economists should consider that “tastes neither change capriciously nor differ importantly between people”, and that an economist “searches, often long and frustratingly, for the subtle forms that prices and incomes take in explaining differences among men and periods”.

P.S. The third law of demand comes from Armen Alchian and William Allen’s textbook, University Economics, now published as Universal Economics. Get a free PDF from Liberty Fund!

P.P.S. I’m so excited to study price theory during my PhD at Mason and apply it to understand this new world around me! And one important task for me is to differentiate between differences in behaviour due to price and income effects, and differences in culture. For the former, I only need to respond to signals wrapped as incentives (prices!). For the latter, I need to learn culture!