In mid-June, Beijing authorities ordered real estate developer Sinobo Group to cease selling apartment units in its No. 7 Diaoyutai complex, which it advertised as “the most expensive home in China.” Apartment units at No 7 cost up to US$46,000 per square meter, 10 times the Beijing average.
Trying to attract customers by advertising how expensive your product is might seem insane. But there is an interesting theoretical basis for the strategy. Thorstein Veblen, an American economist who died in 1929, was the first to posit the existence of an economic good for which demand goes up as its price goes up – in other words, a product whose primary value is captured by the status it delivers.
The “Veblen good” has a theoretical poor cousin, the “Giffen good.” People also buy more of Giffen goods as their price rises, but for a different reason; Giffen goods are cheap products that are also staples, like the potatoes or rice that are key parts of poor people’s diets. When potato prices soared during the Irish Potato Famine, poor people could not afford to buy meat, and perforce bought more potatoes.
Economists still debate the existence of Giffen and Veblen goods. However, Chinese consumers appear to be proving the existence of both. Apparently Sinobo was finding buyers, or there would have been no need to halt sales. When Aston-Martin released the US$6 million “One 77” sports car this year, Chinese customers had bought five before they even hit the showroom.
Meanwhile, rice prices in China are projected to increase 4% this year – although an extended drought complicates the analysis. This year has seen increasingly desperate attempts by the authorities to use old-school price caps to control inflation in housing prices, cooking oil, prescription drugs, personal care products and more.
In this context, advertising that flaunts the absurd levels to which China’s wealthy are prepared to go to show off is a political liability. In May, the National Development and Reform Commission (NDRC) publicly fined Unilever just for discussing increasing some prices. However, as basic economic theory predicts, Unilever’s profit-maximizing competitors did not react to the fine by passively accepting lower margins, but by reducing container sizes while holding prices.
But this kind of newfound scarcity is mild compared to what is happening in the energy sector, where the country is bracing for another round of summer blackouts. Price caps optimistically applied to electricity producers in the hope that they would generate the same amount of power for less money look to have failed again: Just as in the past, producers have hoarded supplies. The NDRC has now allowed power companies to hike rates for business users only. If theory holds, that will concentrate blackouts in residential areas – not exactly the way to calm popular dissatisfaction with macroeconomic management.
This year promises many more such refresher courses in basic economic principles for the planners at the NDRC. Hopefully this time they will stick.