Friday, July 27, 2007

Thinking in the Average Terms

Reading the reports of the ongoing debate on fuel rationing in Iran, one can't help noticing the extensive use of average terms. Several members of government and parliament have suggested that since the rations are equal to average consumption it should suffice. This is a rather intriguing observation.

It is true that an average car owner with average characteristics would on average use 100 liters of gas in an average month. However this does not mean that in reality every car owner uses only 100 liters per any given month. Average terms hardly exist in reality. They are the sum of extremes divided by the number of events, individuals or cases.
For example If household A drives its car 100 miles per month and household B drives its car 600 miles per month, the average is 350 milers per month per household. Now if they receive gas rations for 350 miles household A has extra fuel and household B needs more fuel and there will be a black market.

In economics theory market demand functions are estimated to forecast the average demand for any given price and they are average in nature, since they are the sum of individual demands. At individual level demand function is derived from a utility maximizing behavior, based on this approach demand is different in summer from winter (and it indeed is in the case of fuel in Iran). It also is different because of income level and the price of other commodities.

An individual decides how much fuel he or she needs based on his or her income, other product prices, public transportation and etc, these parameters are unique for every individual and there is a large variance. The average approach to fuel market and consumer behavior is a misleading one.

Answering a reporter on TV President Ahmadinejad said that those who need more fuel should let government know. There are millions of consumers in this market in Iran and simply there is no signaling system for them to let government know that they need more than what is rationed. Signaling between consumers and producers happens in the market and it has been a market function, in the history of human kind no government had ever replaced the market. There are not enough computers.


leila said...

Practically, if not average, then what other measure they should have adopted for their quota?

Ali said...

I think I should re-write this... I disagree with any quota! based on average or any other pattern. They want to give 100 ltr to every person at subsidized price that is fine, but they should open the market. This is crippling the society.