Economists have developed a wide array of models to explain market phenomena. For better or worse, sometimes the views overlap and even conflict. It’s this diversity in interpretations that makes economics both an intriguing subject to study and something of a pseudoscience.
So an economist walks into a burger joint and looks at the menu. To keep with the tradition of economists using creative names, we’ll call this first economist, A. A notices that there are a variety of items with different size options at various prices. In particular, the average price per unit of food has a negative correlation with combo size. That is, a small combo has a higher price per unit than a medium combo which has a higher price per unit than a large combo. He concludes that the firm is using a type of price discrimination called menu pricing.
After A sits down, economist B walks up to take her order. B looks to the menu and orders the number 4 which a sandwich consisting of a patty, lettuce, and tomato slices. She always orders a number 4. In her mind, the burger joint had offered the different types of meals to appeal to different consumers. By reducing the distance between a consumer’s desired preference and the actual meal offered, the firm can charge a higher price to each consumer. This is the Hotelling spatial model applied to horizontal product differentiation.
Economist C has fallen on hard times so he has in his pocket a coupon that lets him get two sandwiches for the price of one. Recognizing that the firm is willing to sell the sandwiches at half its price, he concludes that the burger joint has a fair degree of market power because the marginal cost of making another sandwich has to be at least half of the price value. His buddy, economist D, notes on how effective the advertisements were at bringing them to the restaurant. He notices how the firm is so effective at reminding him of why their burgers are good, but it does not bother him because afterall, if the food was really bad, he could always go to the hot dog stand across the street.
Finally, economist E enters the restaurant. He is hungry and so he orders a number 1 and proceeds to have his lunch without another thought.