Numbers, Stats And Market Forces

Lesson number: 

Once you become a numbers oriented person, and study your business and life using statistics and facts rather than emotions, you'll find that life can be very predictable. There are entire industries built around polls, surveys and statistics. An example is how they predict election winners with great accuracy, hours before the polls close. Another is the Advertising Industry where rates are based on Nielsen polls of a relatively small number of households. Then, of course, there's the 80-20 rule, which states that 80% of your business will come from 20% of your customers. And we can't leave out the stock, bond and commodity markets which feed on numbers and stats to determine the value and prices by the second.

In this week's lesson, we will discuss why using numbers and stats can be beneficial to world economies as well as in your everyday decision making. Over the past month, we have watched the price of gasoline we purchase at the highest levels in history. There are so many countries, companies and people we could all blame for these high prices. However we must begin our discussion with the following assumption: "We live in a world with SCARCE resources." In other words, our world does not contain an infinite amount of wood, oil, coal, steel, copper, human labor, etc. There is a FINITE amount of all readily available products and services in our world. The question then becomes, "In a world with scarce resources, where should these resources be best put to use?" Fortunately the market economy has a built-in mechanism to guide us: Profit and Loss!

Let's say that you notice a company or industry is enjoying extremely high profits. The market signal says, "Invest here. This is where the demand is greater than the supply. This is what people want MOST right now. This is where resources need to be put to work." Remember, because resources are finite, they CAN'T be used in ALL places at all times. As a result of the high profits, other companies will read this signal and invest their resources into this industry. This will eventually diminish the high profits and drive prices lower for consumers. Why? Because of the increase in competition and the increase in the SUPPLY of RESOURCES applied to this area. Thus, high profits in a market economy will ALWAYS be temporary, as long as the markets are allowed to function without government intervention, subsidies and restrictions which will create artificial conditions in the marketplace.

Let's take a look at the other side of the coin: Losses. This is a market signal that says, "Don't invest your scarce resources here. Consumers have higher demands elsewhere. Find it, and invest there." This is how adjustments are made in the market economy every second of our lives.

Today we are finally watching the stock prices of solar companies soar. Why? Because investors believe there's money to be made in solar energy in the foreseeable future. The high prices of oil created this new demand for solar energy. Thus resources are being diverted into this industry because of signals in the marketplace. That signal is Profit and Loss. Without these two extremely valuable signals, there is no RATIONAL way to know where the scarce resources of our world need to be applied.

So you can see, "the numbers" are very valuable. They are the lifeblood to the production of all of the material possessions that we enjoy. Without them, we would be lost. If there were no profits and losses, how could anyone know which industries were unnecessarily tying up valuable resources? If you had a farm, how could you know WHICH crops to grow? If you produced plastic, how could you know WHO would be BEST to sell it to? Without profits and losses, our society as well as world economies would come to a confusing halt.

But WITH profits and losses as your guide, the situation reverses. If you're a farmer and people are demanding corn, and corn prices are skyrocketing, more farmers will use their land to grow corn. If companies produce microprocessors, and people can't wait to get their hands on an iPod or iPhone, chip companies will stand in line to supply Steve Jobs & Company. In a world with SCARCE resources, we cannot live without profit and loss.

Since you and your business are a piece of the world economy, these signals apply to you as well. Are you applying your land, labor, and capital to where it is highly demanded? Are you sensitive to what your customers want most? In the long-run, consumers (of which you are one) are the judge and jury. THE NUMBERS TELL THE STORY! This being said, we should do all we can to avoid government intervention which creates false economies. Keep the government small and the competition fierce in every industry and the whole world benefits. Free markets will always respond to the forces of "supply and demand and profit and loss!"