What is the right price?

The question is obviously not a simple one – contrary to what standard micro-economics would have us believe. This stuck me the other day when I happened to buy a wicker basket from a roadside vendor. He was part of the large (and growing) informal economy that makes up urban India today. You find them at just about every street corner – selling all sorts of goods and services.

What made this transaction particularly interesting to me was the following:

1. This was typically a low-frequency purchase and clearly not an impulse buy.
2. It was a high value transaction, relative to what you would normally spend at a street vendor.
3. There is obviously no standard price – after all, this is the informal sector.
4. The product itself was manufactured by the vendor himself, usually at the point of sale itself.

All this meant that she would have to be facing the following challenges on a continuous basis:

1. Estimating the demand (Rate of Sale) is not easy – while the response from a supply point of view would be to build to a replenishment level model, pricing the product to ensure an acceptable average revenue stream is practically impossible.
2. Given the low frequency of her sales, she would be forced to cover her costs from a fewer number of transactions. And given that she and her family would be operating in a hand-to-mouth situation, there is literally no room for error – she would have to earn enough to survive on a daily basis.
3. And what it makes even more complicated is factor #4 – given that there is no principal-agent transaction here, she has no clear way of measuring the marginal cost of each product. And that makes identifying the minimum acceptable price for each incremental product impossible to ascertain.

Formidable challenges, as anyone who has gone through an elementary course in micro-economics would realize. In fact, I am pretty sure that this would stump your favorite economist. And yet she does it on a continuous basis – and to me, it is condescending to write her off as being stuck in the poverty trap. One thing we definitely ought to do is to take a brief moment and admire her ‘jugaad’ ability.

And oh by the way, she started with a price of Rs. 450 and we settled at Rs. 200. The haggling process took less than a minute and throughout this brief transaction, she kept pointing towards her brood of kids who were looking on with a mixture of amusement and pathos. And as I walked away, I couldn’t help but feeling –did the presence of the kids contribute to a guilt-induced circuit breaker in the negotiation process? In other words, was I snookered?