How Do Wine, Cars, and Clothes Defy Economics?

With most goods and services, as their price goes up, demand goes down -- but not so with luxury items from diamonds to college educations. Learn how Veblen goods work in this episode of BrainStuff.

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Episode Transcript

Speaker 1 (00:01):
Welcome to brain Stuff production of I Heart Radio. Hey
brain Stuff, Lauren bog Obam Here. Let's say you're on
a first date and anxious to make a good impression.
The waiter arrives with the wine list, and your date
asks you to order a bottle for the two of you.
You know virtually nothing about wine, but you don't want
to look like an idiot or a cheap skate, so

(00:23):
you quickly scan the list and point to one of
the most expensive bottles on the menu. And while yes,
it is ridiculous to spend a hundred dollars on wine
that's only marginally more tasty than a twenty dollar bottle,
it's actually standard human behavior. More than a hundred years ago,
an American economist named Thorstein Veblen coined the phrase conspicuous

(00:44):
consumption to describe this very thing. You pick the expensive
bottle of wine not because it's five times better than
the cheaper bottle, but because you want to send a
signal to your date, I have good taste and I
can afford it. Wine is, to one example of what's
known as a Veblin good, defined as any good or
service that defies the standard relationship between price and demand. Normally,

(01:09):
when price goes up, demand goes down, but for Veblin
goods like wine, fine art, jewelry, and cars, the rules change.
We spoke with Ori Heffitt's, an economics professor at Cornell
University's S. C. Johnson Graduate School of Management. He explained
the high price is actually part of the attractiveness. In

(01:30):
Veblen's classic book, The Theory of the Leisure Class, he
says that high prices have two functions. The first is
basically marketing. Since winemakers and clothing designers know that most
consumers don't have the knowledge or interest to figure out
which products are objectively better than others, they use price
as a shorthand for quality. Consumers assume, correctly or not,

(01:53):
that a higher price corresponds to a higher value. The
second function of high prices is Veblin called conspicuous consumption.
In this case, the consumer's decision to buy the more
expensive option has little to nothing to do with the
actual quality and functionality of the product. The whole point
is for others to see you drinking the expensive wine,

(02:16):
wearing the brand name clothes, or driving the fancy car.
Hefitt said, when other people see me driving an expensive car.
That's a benefit in itself. They might think that I'm
more successful or that I'm more desirable as a mate.
And of course those two functions of high prices often
work together. And just look at the recent college admissions scandal,

(02:38):
in which wealthy celebrities were caught trying to buy admission
for their children into elite colleges. One of the ways
that schools market themselves as elite is through their high
tuition costs. If the University of Southern California costs more
than seventy seven thousand dollars a year tuition plus room
and board, it must be an amazing education, right. And

(02:59):
because schools like the University of Southern California use their
high cost as a signifier of quality, so do parents.
The wealthy celebrities caught up in the college admission scandals
were willing to go to a great expense to win
brand name status for their kids in their social circles.
Admission to USC is shorthand that their kids are smart
and successful, which in turn means that they, as parents

(03:21):
are also smart and successful. Call it the virtuous circle
of conspicuous consumption. Unless you get caught cheating. Vevlin first
identified conspicuous consumption among the American upper classes in the
late eighteen hundreds, but it wasn't until the nineteen seventies
that economists figured out exactly how it worked as a
market force. In seventy three, the economist Michael Spence wrote

(03:44):
a landmark paper on signaling in which he showed how
our consumer choices send important signals that have real economic repercussions.
Spence one the two thousand one Nobel Prize in Economics
by explaining how education is used as a signal for
produc activity in the labor market. The logic is pretty simple.
If an employer is looking to hire a new worker,

(04:06):
he or she will use the status of the applicants college,
in which tuition cost is variable, as a shorthand signal
of the applicants relative productivity as a worker. Hefits cites
the classic example of someone looking to hire a lawyer.
The assumption is that a good lawyer wins cases and
therefore has a lot of money. So if one lawyer

(04:27):
shows up driving a two thousand four Honda Civic and
the other arrives in a brand new Mercedes, they're sending
two very different signals. If the client defines a good
lawyer by how rich here she is, then the Mercedes
lawyer benefits from conspicuous consumption. Of course, a great lawyer
could be thrifty, or a lousy lawyer could still drive
a fancy car. But there's a far higher cost for

(04:50):
an unsuccessful lawyer to buy a Mercedes. Hefitz said. For
the good lawyer who actually makes a lot of money,
the Mercedes is pocket change. It's cheaper and therefore more
likely for a successful lawyer to send the same signal.
The larger question is why do we bother with all
of these signals anyway? Hef It says that there's a

(05:11):
much more efficient economic solution. Instead of buying a fancy
car to show how rich you are, you could just
walk around with copies of your most recent tax returns,
or introduce yourself to potential clients by saying, hey, I'm
very wealthy and successful. But of course that's not socially acceptable. Instead,
people who spend money on flashy cars or clothing can

(05:32):
hide behind what economists call a functional alibi. If you
buy a very expensive car, for example, you can claim
that you didn't do it to send the signal that
you're rich and successful. But simply because expensive cars run
better and are more reliable or have better features, have
it said, But are they so much better that it's
worth spending twenty times the cost of a good standard car.

(05:54):
Probably not. Today's episode was written by Dave Ruse and
produced by Tyler Clang. Brain Stuff is a production of
I Heart Radio's How Stuff Works. For more on this
and lots of other economical topics, visit our home planet,
how stuff Works dot com, and for more podcasts for
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(06:15):
or wherever you listen to your favorite shows,