The price of ABC rose from Rs. 10 to Rs. 50… and you start buying 3 times more! Sounds weird? Welcome to the exception to the law of demand, an economics concept called Giffen Goods! This one concept has always left me bamboozled… because this concept talks about staple foods like rice and potatoes! Why would anyone buy more when its price rises to a super high? But one thing was true, price increases hurt the low income consumers differently. That’s why I really wanted to delve more into this and tried to find if giffen goods exist in the real world? Here’s how it went!
Firstly, What Are Giffen Goods?
Keeping it super simple, giffen goods are a type of inferior good BUT they are bought more by a consumer when its price rises, mainly they are staples like rice, bread, potatoes etc. It’s one weird exception to the law of demand. The idea is the consumer is spending a major portion of his whole budget on these staples (in short, the consumer is poor and has very limited income!). That’s why when the price rises, he has to start allocating even more money to buy that staple and cut down on whatever else he was spending on!
P.S.: To understand what is the concept of law of demand, you can watch this short explanation of law of demand explained with an example!
Some jargon part? This happens because of the income effect and substitution effect. Once again keeping it super simple, the income effect (consumer getting poorer as his purchasing power went down because the price of goods increased and he can now buy less) overpowers the substitution effect (no close substitutes are available at a lower cost), thus the consumer or household is forced to buy more even when the prices rise!
Did you know, the concept first originated in the 1800s when Sir Robert Giffin observed a paradox that low income households started consuming more basic staples when their prices rose! This infamous Irish famine potato example is often sighted as an explanation of Giffen Goods!
P.S.: My views ahead are more about observations, if you come across any amazing study about this concept please do share it with us! Always love to learn more!
The First Time I Thought Giffen Goods Don’t Exist…
Why and how? These two were always my favourite questions. During college time while making notes and writing examples for each type of goods like normal goods, inferior goods, veblen goods and of course giffen goods I went like hey, why will anyone buy more rice if it gets costly? Why not buy more wheat or millet?
Obviously, do giffen goods really exist, popped in my mind. Next question was, if yes, which are giffen goods in real life because not all staples fall under giffen goods category! Higher demand at higher prices sounds a little impossible for staple goods.
Why did these doubts rise? Here’s my reasoning. There are 3 main conditions for a Giffen good, firstly the household spending on it should be under extreme poverty, secondly there needs to be a lack of substitutes and lastly a major portion of their budget should be spent on Giffen goods. Now maybe the first and third condition is still possible but the second condition sounds too farfetched in today’s modern world. There are substitutes always available and quite in budget too!
A funny incident? I also found a write up long back justifying this concept while talking about diamonds! But that’s totally wrong, because diamonds are veblen goods. People often confuse veblen goods and giffen goods. The concept of buying more at higher price still sounded ok when we are talking about pricy goods like diamonds! Prestige is often associated with higher price and aspirational consumers always prefer buying more when prices rise and that’s why the exception of veblen goods holds true, though example of a giffen good was quite rare. Giffen goods vs veblen goods is like comparing the north pole and south pole!
Thus began my hunt for the most misunderstood economics concept.
Do Giffen Goods Actually Exist Outside the Books?
After the infamous Irish potato famine example, another field study in China was done by Harvard economists Robert Jansen and Nolan Miller in 2008. It showed enough empirical evidence that poor households showed Giffen behaviour when it came to consumption of rice!
Real world examples of giffen goods are mainly the potato famine Ireland case in the 1800s and the above giffen goods rice China study!
Wow! Only two examples, definitely food for thought that real consumer behavior could be different. Wondering why giffen goods are rare? I thought so too! Apart from books I tried finding examples of Giffen goods on the internet and research blogs. But mostly the examples on the internet don’t qualify as true giffen goods. Like rice, potatoes or even bread are not giffen goods for EVERY poor household. The situations can or cannot make them qualify as a Giffen good!
Why Giffen Goods Conditions are Rarely Met?
Solving a puzzle when there are a truckload of ‘conditions apply’? Tricky! That’s how difficult it is to find a ‘real’ Giffen Good! The strict conditions for a good to be Giffen are rarely met. This is the reason giffen goods are so uncommon. Keeping it simple as always, here are conditions for Giffen goods to exist,
- When the price of a Giffen Good increases its demand increases.
- The demand curve of a Giffen good is upward sloping.
- No close substitutes are available.
- A large part of the consumer’s budget is dedicated only to buying that giffen good.
- The negative income effect (feeling poorer due to price rise) is more than the substitution effect (desire to switch to a cheaper good).
- It applies to necessities like staples.
- Majorly the concept of giffen good applies to very poor households.
Undoubtedly, there are many reasons for one or more of these conditions to remain unmet. Like, in modern economies the availability of substitutes override the giffen behaviour. Can rice be a giffen good always then?
Not really! For example, If rice is a staple and prices rise, it could be substituted by low quality wheat which could be a cheaper alternative! The income effect vs substitution effect in this case applies just like an inferior good. Lesser demand when there is a price hike!
P.S.: Inferior good is not the same as bad quality! You may consider a basic keypad phone as inferior but for someone else it might be a normal buy. It’s more about affordability!
I Tried Finding a Giffen Good Around Me…
Causally asking questions can be insightful! Worked for me to get a glimpse of this concept! First difficulty was trying to find a correct data set that fulfills two conditions simultaneously, a very poor household and spending a major part of their budget on just ONE staple food. This led to the question: do staples like rice, wheat, or public transport qualify?
Over the years after asking many people, househelps, sweepers, even striking conversations with autorickshaw walas, there were hardly any instances they spent budget on just ONE staple, always it was a mix of rice, vegetables, wheat etc., there too they had options of quality variations. When the price rose, they substituted it with a lower quality grain.
Maybe, I reached out to incorrect people and absence of data too was a problem, but as far as my observation goes one thing was for sure Giffen goods in everyday life were RARE.
Definitely prices hurt poor differently, beyond the assumption of textbooks which we read! They substituted for lower qualities of staples and had to even resort to taking loans (will write another blog on this soon!), this in turn reduced the income effect as they still had purchasing power. Theory struggles to survive real world complexity which is beyond just income, prices or substitutes.
iPhones or Toilet Papers! Are They Giffen Goods?
Weird comparison right? But it’s actually quite an interesting view. iPhones still have a high demand when prices rise, but to clear the misconception they are NOT giffen goods. Expensive brands follow status not giffen logic. In fact luxury goods are NOT giffen goods, that’s why there’s a difference between giffen and veblen goods. iPhone is a Veblen good.
The toilet paper being a giffen good debate rose at pandemic time. Name the price, still people bought toilet paper like crazy! All law of demand theories went for a toss at that time! BUT, it was a one off. Yes, toilet paper was a necessity BUT people don’t spend a MAJOR part of their budget on it that’s why it’s not exactly a giffen good. The law of demand failed for many things during those circumstances of pandemic. It was more about the situation!
P.S.: Are you also guilty of hoarding tons of toilet paper in pandemic time?
My Take: Are Giffen Goods Just in Theory or A Poverty Signal?
Somewhere long back I read that Giffen goods reveal about inequality not intelligence or choices. Those words stuck with me ever since! Because the example of potato at famine time and the rice study both point towards more about survival amidst poverty. People had very less income, no choices and were forced to double down on staples as everything else was out of reach.
In reality even now there are chances that in many parts of the world, a lot of households might be barely surviving on a handful of staples and might be having no choice too! But still relevance of giffen goods today is a little lost according to me because of two reasons, one is of course availability of close substitutes and second is subsidies and other benefits that countries and world organizations offer to people below poverty line. Yes, in specific situations like famine, giffen goods might exist but not always! Also in developed countries and amidst economic progress, the giffen goods concept becomes unnecessary!
So this clever loophole in the law of demand explains what are giffen goods but till date enough data and studies don’t back their solid existence in real world and modern economies too. Maybe some day we might get a complete research on it, but according to you, do giffen goods exist? Or is it just a theoretical concept? Share your views!
Frequently Asked Questions (FAQ)
Is toilet paper a Giffen good?
Not really as only a minor portion of a consumer’s budget is spent on toilet paper and not a majority of it. It shares some traits as it has less substitutes but the pandemic situation of high demand at random high prices was more because of panic buying.
Are Giffen goods still relevant today?
In some specific situations yes but their relevance is mainly theoretical as the conditions of a good to be giffen good hold true only in very specific circumstances that too in extremely poor households.
Do Giffen goods exist in developed countries?
Not really as the income levels are generally higher and close substitutes of even basic staples are available as well. Thus, consumers have a choice!