Author: Mario Ortez, PhD Student, Purdue University Department of Agricultural Economics
About Mario
I was born and raised in northern Nicaragua in a family of coffee growers. Much of the agricultural sector in my home region is for subsistence, which is why I decided to study agriculture and see how I could help. I majored in agribusiness at Zamorano Pan-American Agricultural School in Honduras and obtained a Master of Science in agricultural economics from Kansas State University in 2015. I later worked at JBS USA in Greeley, Colorado crunching data and pricing beef for about four years until I decided I hadn’t gotten enough schooling. I then came to Purdue University to start my doctoral studies in agricultural economics. If you would like to chat more about our coffee (preferably over a coffee!), feel free to reach out. I can be reached via Twitter at @MarioAmadoOrtez or e-mail at mortez@purdue.edu.
Joachim Beukelaer’s Fish market (1568), currently at the Museum of Fine Arts of StrasbourgValue and price have been a matter of discussion by moral philosophers and economics writers ever since Antiquity [1]. For example, see Aristotle and St. Thomas Aquinas’ thoughts on fairness, price, value, trade, buyers and sellers. Economic historian Raymond de Roover summarized the historically prominent trends of thought when it comes to value determination — either value depends upon perceived utility by individuals, or value is created by the labor or cost incorporated in exchangeable goods.
The articulation of the whole idea of a value theory based on subjective utility is credited to Pierre de Jean Olivi, O.F.M. (1248-1298) [1]. Building upon Olivi’s earlier work, San Bernardino of Sienna, O.F.M. (1380-1444) stated that value is composed of three elements: usefulness, scarcity and pleasurableness or desirability [2]. In his magnum opus, “History of Economic Analysis”, Joseph Schumpeter (1883-1950), one of the most influential economists of the early 20th century, praised the work of these friars “for ascribing a comprehensive vision to the economic process” [3]. To be fair, a famous exponent to the second idea that cost (which labor is a part of) creates the value is the Marxian system, taking after the famous German polymath Karl Marx (1818-1883), according to which the quantity of labor alone creates value [1].
But that is enough history for now, and I presume you have now been convinced by history and philosophical inquiry that price does not (or may not, if you wish to be cautious about it) equal cost, if you weren’t already of this opinion before.
As a coffee farmer myself (see my bio here in my last letter), the concept of cost is straight forward. I invest in technology and better and more inputs not for the sake of good-looking coffee bushes (however fulfilling this may be), but expecting an economic return on my investment. Whether or not I earn a return is dependent upon what the market demands. In other words, is my coffee going to generate extra utility on the beholder? If it is, has that extra utility generated enough to justify my added costs? The dichotomy happens when you go about your business adding inputs and practices and simply expecting compensation without regards to whether the market wants them.
Let me explain what I mean in a different way: a consumer at the store probably does not see a bag of organic coffee and wonder how much it cost to produce it, but instead, they may wonder how much they might increase their own utility/happiness by buying organic, for whatever reason buying organic makes them as an individual happier. To the organic coffee drinker, the cost on farm to produce the product is entirely irrelevant. Speaking again about the coffee drinker, the price of the product and its value (expected utility) is relevant, but not driven by production cost.
It’s about supply and demand, not cost to produce. In the coffee world, the international coffee price is the result of the interaction between global supply and global demand. Global demand is largely impacted by consumer trends, which in turn are influenced by cultural views of the drink, availability of substitute products and such.
Talk about the global influence of a single product, coffee was credited with fueling the ensuing scientific and financial revolutions of the 17th century [4]; therefore, it is indeed a pretty big deal.
Global supply is affected by factors such as droughts in major producing countries or when a new country like Vietnam (which used to not produce any coffee 30 years ago and is now ranked one of the top five producers in the world) enters the market. The recent dips in coffee prices are largely credited to a few years of surplus from Brazil, the world’s largest coffee producer [5]. My main point here is that the value of this good is not given by the cost incurred in producing it (a small margin would also be nice), but by a wide array of economic forces driven by coffee’s usefulness, scarcity and pleasurableness or desirability, just like San Bernardino formalized.
I have come to experience these concepts of cost and value in a different way when I worked pricing meat here in the U.S. At times, I observed how the price for meat at my neighborhood store was considerably lower than what the store had paid the packer for the same product (instead of the typical 60-pound box at the wholesale level, the store would have a tray with one to several steaks, but beyond breaking a big package into smaller ones, no additional value added). Why was this?
Certainly, food retailers in this country were not making a mistake; they knew the wholesale price they paid but were willing to sell it at a lower price to the end consumer. I came to learn that driving people to their store with weekly ads had far more value for the store than loses generated by setting the selling price for this item (beef!) under their cost. Store traffic is valuable! When I go to the store to get a steak, I also get potatoes, salad items and maybe some locally brewed beers. The customer’s bundle is generating dollars in margin that more than make up for the loss on the steak today (and pork tomorrow, and so on). Regardless, the cost did not determine the price in the retail setting, nor the value of the product.
What is the ultimate message here? Keep your investments aligned with market demands. The cost you incur in producing a good is key to your financial success, but don’t get confused along the way … your target market absolutely does not care about how much it cost you to provide it when they decide how much they are willing to pay for your product.
References
[1] Roover, R. D. San Bernardino of Siena and Sant’Antonino of Florence: The Two Great Economic Thinkers of the Middle Ages. Boston, The Kress Library of Business and Economics, Harvard Graduate School of Business Administration; 1967
[2] Bernardino of Siena, Saint. Opera omnia. 8 vols. Florence, 1950—1963. De Evangelio aeterno., sermon 35, art. 1, cap. 1 (Opera omnia, IV, 191)
[3] Schumpeter, J. A. History of Economic Analysis. New York, 1954; 1954
[4] The Economist. The Story of Coffee is a Parable of Global Capitalism, 2020. Retrieved from https://www.economist.com/books-and-arts/2020/04/23/the-story-of-coffee-is-a-parable-of-global-capitalism
[5] Ritu, P. How the 2019 coffee crisis might affect you. BBC News; 2019. Retrieved from https://www.bbc.com/news/world-us-canada-48631129
