2.10. Specialization and Production of Stock

0:0010. Specialization and Production of Stock We have analyzed the exchanges that take place in existing stock and the effect of changes in the stock of a good. The question still remains on what principles is the size of the stock itself determined? Aside from the consumers' or producers' goods given directly by nature, All goods must be produced by man, and even seemingly nature-given products must be searched for and then used by man, and hence are ultimately products of human effort. The size of the stock of any good depends on the rate at which the good has been and is being produced.

0:47An analysis of the rate of production and its determinants is thus of central importance in an analysis of human action. A complete answer to this problem cannot be given at this point, but certain general conclusions on production can be made. In the first place, while any one individual can, at different times, be both a buyer and a seller of existing stock, in the production of that stock, there must be specialization. This omnipresence of specialization has been treated above, and the further an exchange economy develops, the further advanced will be the specialization process.

1:41The basis for specialization has been shown to be the varying abilities of men and the varying location of natural resources. The result is that a good comes first into existence by production and then is sold by its producer in exchange for some other good, which has been produced in the same way. The initial sales of any new stock will all be made by original producers of the good. Purchases will be made by buyers who will use the good either for their direct use or for holding the good in speculative anticipation of later reselling it at a higher price. At any given time, therefore, new stock will be sold by its original producers.

2:31The old stock will be sold by A. Original producers who through past reservation demand had accumulated old stock B. Previous buyers who had bought in speculative anticipation of reselling at a higher price and C. Previous buyers on whose value scales the relative utility of the good for their direct use has fallen. At any time, then, the market's supply schedule is formed by the addition of the supply schedules of the following groups of sellers. a. the supply offered by producers of the good 1. the initial supply of new stock 2.

3:16the supply of old stock previously reserved by the producers b. the supply of old stock offered by previous buyers 1. Sales by speculative buyers who had anticipated reselling at a higher price. 2. Sales by buyers who had purchased for direct use, but on whose value scales the relative utility of the good has fallen. The market demand schedule at any time consists of the sum of the demand schedules of c. buyers for direct use, and d. speculative buyers for resale at a higher price. Since the good consists of equally serviceable units, the buyers are necessarily indifferent as to whether it is old or new stock that they are purchasing.

4:10If they are not, then the stock refers to two different goods and not the same good. The supply of the Class B type of sellers has already been fully analyzed earlier. For example, the relationship between stock and reservation demand for speculative resellers and for those whose utility position has changed. What more can be said, however, of the supply schedule of the Class A sellers, the original producers of the good? In the first place, the stock of newly produced goods in the hands of the producers is also fixed for any given point in time.

4:55Say that for the month of December the producers of copper decide to produce 5,000 tons of copper. At the end of that month, their stock of newly produced copper is 5,000 tons. They might regret their decision and believe that if they could have made it again, they would have produced, say, 1,000 tons, but they have their stock and they must use it as best they can. The distinguishing feature of the original producers is that, as a result of specialization, The direct use value of their product to them is likely to be almost non-existent. The further specialization proceeds, the less possible use value the product can have for its producer.

5:43Picture, for example, how much copper a copper manufacturer could consume in his personal use or the direct use value of the huge number of produced automobiles to the Ford family. Therefore, in the supply schedule of the producers, the direct use element in their reservation demand disappears. The only reason for a producer to reserve, to hold on to any of his stock, is speculative, in anticipation of a higher price for the good in the future. In direct exchange, there is also the possibility of exchange for a third good, say cows instead of fish, in our example.

6:30The removal of direct use value from the calculation of the sellers signifies that all the stock must eventually be sold, so that ultimately none of the stock can be reserved from sale by the producers. The producers will make their sales at that point at which they expect the market price to be the greatest that they can attain. That is, at the time when the market demand for the given stock is expected to be the greatest. Strictly, of course, costs of storage will have to be considered in their calculations. The length of time that producers can reserve supply is, of course, dependent on the durability of the good.

7:16A highly perishable good like strawberries, for example, could not be reserved for long. Suppose that an equilibrium price for a good has been reached on the market. In this case, the speculative element of reservation demand drops out. However, in contrast to the market in re-exchange of existing stock, the market for new production does not end. Since wants are always being renewed in each successive period of time, new stock will also be produced in each period, and if the amount of stock is the same and the demand schedule given, the same amount will continue to be sold at the same equilibrium price.

8:03Thus, suppose that the copper producers produce 5,000 tons in a month. These are sold, no reservation demand, at the equilibrium price. The following month, if 5,000 tons are produced, the equilibrium price will be the same. If more is produced, then the equilibrium price is lower. If less, the equilibrium price will be higher. If the speculative elements are also excluded from the demand schedule, it is clear that this schedule will be determined solely by the utility of the good in direct use, as compared with the utility of the sale good.

8:48The only two elements in the value of a good are its direct use value and its exchange and the demand schedule consists of demand for direct use plus the speculative demand in anticipation of reselling at a higher price. If we exclude the latter element, for example, at the equilibrium price, the only ultimate source of demand is the direct use value of the good to the purchaser. The Purchaser If we abstract from the speculative elements in a market, therefore, the sole determinant of the market price of the stock of a good is its relative direct use value to its purchasers. It is clear, as has been shown in previous sections, that production must take place over a period of time.

9:41To obtain a certain amount of new stock at some future date, the producer must first must put into effect a series of acts, using labor, nature and capital goods, and the process must take time from the initial and intermediary acts until the final stock is produced. Therefore, the essence of specialized production is anticipation of the future state of the market by the producers. In deciding whether or not to produce a certain quantity of stock by a future date, the producer must use his judgment in estimating the market price at which he will be able to sell his stock. This market price is likely to be at some equilibrium, but an equilibrium is not likely to last for more than a short time.

10:35This is especially true when, as a result of ever-changing value scales, the demand curve for the good continually shifts. Each producer tries to use his resources, his labor and useful goods, in such a way as to obtain, in the production of stock, the maximum psychic revenue, and hence, a psychic profit. He is ever liable to error, and errors in anticipating the market will bring him a psychic loss. The essence of production for the market, therefore, is entrepreneurship. The key consideration is that the demand schedules, and consequently the future prices, are not and can never be definitely and automatically known to the producers.

11:27Entrepreneurship is also the dominant characteristic of buyers and sellers who act speculatively, who specialize in anticipating higher or lower prices in the future. Their entire action consists in attempts to anticipate future market prices, and their Their success depends on how accurate or erroneous their forecasts are. Since, as was seen earlier, correct speculation quickens the movement toward equilibrium and erroneous speculation tends to correct itself, the activity of these speculators tends to hasten the arrival of an equilibrium position.

12:17The direct users of a good must also anticipate their desires for a good when they purchase it. At the time of purchase, their actual use of a good will be at some date in the future, even if in the very near future. The position of the good on their value scales is an estimate of its expected future value in these periods, discounted by time preferences. It is very possible for the buyer to make an erroneous forecast of the value of the good to him in the future, and the more durable the good, the greater the likelihood of error. Thus, it is more likely that the buyer of a house will be in error in forecasting his own future valuation than the buyer of strawberries.

13:07Hence, entrepreneurship is also a feature of the buyer's activity, even in direct use. However, in the case of specialized producers, entrepreneurship takes the form of estimating other people's future wants, and this is obviously a far more difficult and challenging task than forecasting one's own valuations. Human action occurs in stages, and at each stage an actor must make the best possible use of his resources in the light of expected future developments. The past is forever bygone. The role of errors in different stages of human action may be considered in the comparatively simple case of the man who buys a good for direct use.

13:58Say that his estimate of his future uses is such that he purchases a good, for example, 10 quarts of milk, in exchange for 100 barrels of fish, which also happens to be his maximum buying price for 10 quarts of milk. Suppose that after the purchase is completed he finds, for some reason, that his valuations have changed and that the milk is now far lower on his value scale. He is now confronted with the question of the best use to make of the ten quarts of milk. The fact that he has made an error in using his resources of one hundred barrels of fish does not remove the problem of making the best use of the ten quarts of milk.

14:46If the price is still one hundred barrels of fish, his best course at present would

15:21The man recognized that it is absurd to criticize such an action by saying that he suffered a clear loss of X barrels of fish from the two exchanges. To be sure, if he had correctly forecast later developments, the man would not have made the original exchange. His original exchange can therefore be termed erroneous in retrospect. But once the first exchange has been made, he must make the best possible present and future use of the milk, regardless of past errors, and therefore his second exchange was his best possible choice under the circumstances. If, on the other hand, the price of milk has fallen below his new minimum From Buying Price, then his best alternative is to use the milk in its most valuable direct use.

16:18Similarly, a producer might decide to produce a certain amount of stock, and after the stock has been made, the state of the market turns out to be such as to make him regret his decision. However, he must do the best he can with the stock once it has been produced, and obtain and the Maximum Psychic Revenue from it. In other words, if we consider his action from the beginning, when he invested his resources in production, his act in retrospect was a psychic loss, because it did not yield the best available alternative from these resources. But once the stock is produced, this is his available resource, and its sale at the best The most possible price now nets him a psychic gain.

17:11At this point we may summarize the expected psychic revenue and the expected psychic cost factors that enter into the decision of buyers and sellers in any direct exchange of two goods. The buyer's revenue is either A. Direct use of purchase good or B. Anticipated later Seller's Sale at Higher Price, whichever is the greater on his value scale. Seller Revenue is either A. Direct Use of Sale Good or B. Anticipated Later Purchase at Lower Price, whichever is the greater on his value scale. Seller cost is either A. Direct use of sale good, or B. Anticipated later purchase at lower price, or C. Exchange for a third good, whichever is the greatest on his value scale.

18:13Seller cost is either A. Direct use of purchase good, or B. Exchange for a third good, or c. later sale at a higher price, whichever is the greatest on his value scale. If we eliminate the temporary speculative element, if we consider the sellers as the specialized original producers, and this will be more true the greater the proportion of the rate of production to accumulated stock, and if we also remember that since the exchange involves It involves two goods. The set of buyers for one good is the set of sellers for the other good. Then, the revenue for both the buyers and the sellers is the expected direct use of the goods acquired.

19:05The costs are the exchange for a third good that is foregone because of this exchange. The revenue and costs that are involved in making the original decision regarding the production of stock are, as we have indicated, of a different order, and these will be explored in subsequent chapters.