I'm not sure to fully get the meaning of prices. If I understand well, there are two drivers of it :

  • The theory of demand and supply and thus prices are driven partly by the utility that agents get from it.

  • Production costs : On the long-run, prices look to converge towards something like the minimal cost of their production due to the fact that the supply side innovates enough to reach this (that's my interpretation). So on the long run prices of things tend to decrease.

    But then, is there something such as the price reflecting the actual utility that consumers get from it ? Indeed, some goods are really cheap because there is a strong competition on it but nevertheless, they give their consumer a big utility (coffee for instance). Given the competition, even if the disposal to pay of consumers is more than 2€, they pay it 2€ (because no supplier could raise its price withou losing all the market). Therefore, we could have something like : all the goods that are produced at their marginal cost are underrated, have an underrated value and the true disposal to pay of people for it is higher. There's probably a flaw in my argumentation but I don't see it. Does anyone have an idea ?


2 Answers 2


People have different tastes, needs, and budgets. So it doesn't make much sense to speak of the willingness to pay (WTP) of "the consumers". Each consumer has his or her own WTP for, let's say, a cup of coffee. If Alice' WTP is 1€ and the price is 2€ she will not buy. If Bob's WTP is 5€ then he will buy and enjoy the surplus. From Bob's perspective the cup of coffee might then seem "undervalued", and from Alice' perspective it is "overvalued", but that's not how you would generally use this term.

And forget about the price reflecting a consumer's "actual utility". Utility is an ordinal concept. Under some technical assumptions you can turn it into a cardinal concept by "measuring" utility by WTP. But then, as above, the price "reflects" this utility (price = WTP) only for the marginal consumer, i.e. the one who is indifferent between buying and not buying.

So to answer your title question: Price just "embodies" an amount of money per unit with the property that in some given time period consumers want to buy as many units as producers want to sell. And "we" don't "undervalue" some products, since there is no "we" that values products, there are only single consumers who do so.

  • $\begingroup$ Thank you ! I guess we can talk about the "average willingness to pay" for a good or something like that. And thus, the core of my question becomes the following : Could there be more Bobs than Alices (if we say that Bobs are those who think that coffee is undervalued and Alices those who believe that it's overvalued) ? I think that it could have a significant importance in terms of public policy, given that if there are goods that are undervalued in a systematic way, it could lead value added to be a bad proxy for welfare (beyond traditional criticisms of GDP since 1972, Nordhaus & Tobin). $\endgroup$
    – Swayer
    Feb 26, 2021 at 19:00
  • $\begingroup$ @Swayer, I'm not sure what you mean, "value added" is a business term, it's not used in microeconomics. If there are many more Bobs than Alices, this "systematically undervalued" good is just a good with a low price, relative to average WTP. Why should this be problematic? $\endgroup$
    – VARulle
    Feb 27, 2021 at 22:49
  • $\begingroup$ It should be problematic for public policies given that we often try to create as much value as we can (i.e to maximize GDP). Therefore, if value isn't well correlated to welfare (i.e if more value can lead to less welfare because we miscount welfare with value), it could be undesirable. $\endgroup$
    – Swayer
    Feb 28, 2021 at 16:55
  • $\begingroup$ @Swayer, that's true in the sense that GDP doesn't capture consumer surplus. An example is ncbi.nlm.nih.gov/pmc/articles/PMC6462102 $\endgroup$
    – VARulle
    Mar 1, 2021 at 9:28

Price doesn't really embody anything. It's just the dollar value attached to a market good, usually set by a producer. It can vary over time, but it tends to converge toward a value near the willingness to pay of the average consumer (the intersection of supply and demand in the archetypal economics graph). Being above or below that value may not necessarily reflect being "underpriced" or "overpriced"

Producers will almost always set prices above the cost to produce in order to have a profit.

Indeed, some goods are really cheap because there is a strong competition on it but nevertheless, they give their consumer a big utility (coffee for instance)

The reason coffee is so cheap is because it's plentiful. It's grown in massive quantities with increasingly more efficient farming techniques. Yes, of course, competition is part of what keeps this price low (a monopoly on coffee would likely lead to high coffee prices), but ultimately it's a matter of the size of the supply. Utility of a good influences demand, but it only has major impacts on price when the supply can't keep up with it. (e.g. housing is limited by an inelastic supply of land, leading to housing prices outpacing inflation)

You also need to consider that producers often have to compete with DIY-ers as well. Coffee shops can only be so expensive because they have to compete with people brewing their own. In order to charge \$5 for a cup of coffee, it has to offer something that the average person doesn't have the means to do themselves. Even if Starbucks was the only coffee shop in a town full of daily coffee drinkers, they can only set their prices so high before they lose business to people making their own.

Producers compete on more attributes than price. Einstein Bros (i.e. Caribou Coffee), Starbucks, and Dunkin all sell coffee, but they offer other goods alongside it and have different styles of coffee that ensure they attract different kinds of customers. One having different prices or margins than another does not imply that the good is undervalued or overvalued in a particular instance.

And generally, if a particular motivated and entrepreneurial individual believes that a particular good is undervalued or overvalued, he can create a business to compete in that good's market and influence the price toward what he believes is more correct. Investors can and will do similar things as well.

  • $\begingroup$ Economically, the profit is part of the cost, isn't it? $\endgroup$
    – user253751
    Feb 23, 2021 at 9:16

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service and acknowledge you have read our privacy policy.

Not the answer you're looking for? Browse other questions tagged or ask your own question.