An accidental behavioural economist takes a stroll on the beach
With the summer holidays now firmly behind us, I found myself musing about how much the seaside can tell us about economics. A couple of weeks ago we were spending a few days in a Belgian coastal town, and one afternoon I collected quite a few instances of concepts from mainstream economics and from its behavioural relative. Here are some.
As we were heading out to take a stroll along the low tide, we had to cross a strip between the seawall and the high tide line that was reserved for deckchair and sunbed concessions. Some of these have, over the years, developed into fully-fledged playgrounds and beach bars, but they all have one thing in common: if you want to sit there, you need to rent a deckchair or a sunbed for 4 or 6 euros. Not having to carry something to sit on or lie on when you want to sunbathe on the beach is clearly of benefit to any visitor. But a daily rental of 5–10% of what it would cost to buy it might seem a bit excessive (imagine renting a car for a week and paying between a quarter and a half of the purchase price). Admittedly, there’s some work involved in putting them out in the morning, and storing them overnight, but there is clearly something else happening here: economic rent.
Economic rent on the beach
Economic rent is what customers pay when a supplier has some sort of monopoly, so that the price can be way higher than it would be if there were competition. Sometimes the rent follows from official privilege (e.g. a patent, preventing others from applying certain knowledge), or from a de facto privilege, as in the case of the Epipen. The maker of these autoinjectors, used as an emergency treatment for anaphylactic shock as a result of a severe allergy, recently increased the price in the US by nearly 500% — just because they could. FDA regulations make it so hard to offer competing products that, in practice, they have a monopoly. And often it is related to location — as on the beach: this is a more attractive place than a plain field 5 miles inland, so the concession holders can jack up the price.
It would be tempting to blame the operators for exploiting the poor holidaymakers. That would, however, be unfair to them. How come their prices are so high, given that there are so many? Isn’t competition supposed to drive prices down?
This would indeed be the case, were it not that the rentier in this case is actually the municipality. They ‘own’ the beach, which they could make available as a public good: an open beach is non-excludable, and to all intents and purposes it is big enough to be non-rivalrous either. Instead they collect rent from the concession holders in return for their exclusive right to the piece of land. They then of course pass it on to the tourists. Thankfully at least the sunsets are still free.
Hotelling’s law and externalities on the beach
The people populating the beach were, of course, in need of refreshment and sustenance. Ice cream stalls, shops and cafés along the seawall ensured that these were in ample supply, but one thing was striking. While the beach guests were pretty evenly spread over a length of perhaps half a mile, most of the vendors were concentrated around the central area. This is strange, as it means that the people at the extremities needed to walk further. Any enterprising salesperson would have spotted this, and located closer to an underserved area of the beach. Were there no enterprising salespeople in this town?
This is a conundrum that exercised Harold Hotelling, a mathematician and economist, nearly 100 years ago. He observed that, perhaps counterintuitively, competitors tend to imitate each other in essential ways, like quality and location. This observation became known as Hotelling’s Law. A classic way of explaining this is, ironically, that of two ice cream vendors on a beach.
The optimum placement is such that the average distance to an ice cream for all the beach guests is minimum, and that means they would locate 1/4 and 3/4 the length of the beach, right in the middle of the first half and the second half. Perfect!
But now imagine that one of the vendors figures out that, if she moves a little bit closer to the centre, she will capture some customers from her competitor, while still hanging on to the customers for whom she is still the closest, despite now being a bit further away. But her colleague spots this of course, and reciprocates. Before long they’re side by side, right in the middle of the beach. They still each serve half the beach, and don’t earn a penny more, but the sunbathers now need to walk twice as far on average — a negative externality.
Real life is of course a bit more subtle than two ice cream vendors, but Hotelling’s principle seems to apply on the beach as much as elsewhere. Pharmacists, flower shops, restaurants — they all tend to cluster together in town centres, rather than spread out more evenly to serve the population more evenly. Nobody is better off — unless you count the free exercise the customers get as a result (if they walk at least). That would be a positive externality.
Economies of scale and economic preferences on the beach
Talking of ice cream: the pricing of some vendors can be a little idiosyncratic. The economics are straightforward: the sales price needs to cover the cone and the number of scoops. In order to encourage customers to buy a larger ice cream (and so increase revenue) an astute vendor would reduce the price of each additional scoop. But that is not always how ice cream vendors think.
At one place, a cone with one scoop cost €1.80; one with two scoops was €2.60. So far so good — makes sense: the second scoop costs 80 cents, let’s assume the first one is 90 cents, as is the cost of the cone. But the price of a cone with three scoops was €3.50, and for four scoops you’d pay €4.50 — so the third scoop is more expensive than the second one, and the fourth one is the most expensive of the lot.
It is premature to accuse the vendor of irrationality, though — we can only guess at their preferences. Perhaps they care not just about money, but also about the health of their customers, and provide a negative incentive for eating too much. Maybe they figure the risk of the whole edifice collapsing before it could be eaten is so high they want to discourage people from buying a towering 4-scoop ice. Or maybe they make a huge profit on the cone, and want to encourage customers to buy a small cone twice per day. At any rate, these ice creams were food for economic thought.
Sunk cost on the beach
As we completed our stroll, we heard a young family arguing on one of the benches syncopating the seawall. The wind had picked up, which made sitting there not particularly pleasant, and from what we could make out the two little boys clearly would have preferred to go back to their holiday home to play indoors with their toy cars. That was not the parents’ view, though: “You wanted to come to the beach, we’ve come all this way to the beach, and now we’re here we’re going to stay here until it’s time for dinner!”
Interestingly, the parents themselves appeared far from comfortable. Despite the heated exchange with their offspring, they looked distinctly chilled — literally rather than metaphorically. And despite the fact that they would probably all be better off going home, they shiveringly persevered.
A very nice example of the sunk cost fallacy with which to end the enlightening walk. Of course it doesn’t matter how long you’ve walked to the beach if you want to decide whether you want to stay there or go back home. If sitting in the breeze is so hostile that you would not stay there for a moment if you had only just crossed the road, then the fact that you walked for twenty minutes with two toddlers in tow should not make you decide differently. If the prospect of staying there for another 45 minutes is unappealing, a rational person would just go. Sometimes children, with their nice, straightforward thought processes are wiser than their parents.
If you carry your economics specs along with your sunglasses, a seaside stroll can be enlightening and instructive as well as entertaining. Now if that is not utility maximizing…
Originally published at koenfucius.wordpress.com on September 5, 2016.