Theoretical Limitations of Consumer Policy: Practical Implications Written by Siyaduma Biniza 1

Neoclassical consumer theory is at the base of consumer policy. Consumer policy is

the set of policies devised to protect consumers against adverse results from their

choices in the market. So the idea is that consumers make decisions about what

goods to consume based a set of options however, there are various challenges in

exchange which either disadvantage the consumer thereby diminishing consumer

surplus or there are various market conditions which lead to the same thing. The

challenges in exchange pertain to conditions that undermine to the neoclassical

assumption of complete information; the inimical meanwhile market conditions

relate to the concentration of firms and its implication of raising the price of goods

thereby diminishing consumer surplus.

Consumer or producer surplus are the added benefits to consuming or supplying

goods, this is a notion based on the reserve price of the consumer or producer in

relation to the market. So the idea is that consumers enjoy a surplus when the

price of the goods they consumer is much lower than they reservation price which

is the price the consumer is willing to pay for a product. An example of this is a

price discount which increases the benefit accrued to the consumer based on this

principle of surplus being the difference between the market price and the

consumers reserve. Obviously the market will not always be above the consumers

reservation price but the logic is that as the market price decreases in relation to

the reservation price, consumers gain more surplus. Similarly, suppliers realise

their surplus when the price of their goods is much higher than their reservation

selling price. So the idea is that when the producer increase, all thing equal, they

will realise more producer surplus. The idea of surplus is based on the neoclassical

consumer theory.

Consumer theory defines all consumers as having the same behaviour yet facing

different sets of constraints while acting in the same way. Contemporary

neoclassical economics is a result of the Marginalist Revolution which mainly

sought to make economics a science. Consumer theory is underpinned by three

axioms: completeness, reflexivity and transitivity which define consumer

behaviour. These axioms define preferences and the logic of consumer theory

regarding consumption and how we make choices generally. This can be expressed

as ( ) ( ) iff ( ) ( ); which captures a unidirectional

1 Corporate Strategy and Industrial Development Research Programme, University of the Witwatersrand, Johannesburg, South Africa and masters fellow at the Public Affairs Research Institute and Economic Research Southern Africa.

siyadumab@pari.org.za | siyaduma.biniza@students.wits.ac.za Scribd | Linkedin

causality of preferences making them determined by utility (Varian, 2010). The

definition of utility is very specific but unclear in consumer theory. Utility is

something gained through consumption and represents some measure of the

satisfaction gained from consuming goods, but it is unclear whether utility gained

is determined by ones preferences or whether ones preference are based on

utility. Nonetheless utility can be considered as a criterion for choice, such that

individuals only choose to consumer goods that have the highest utility given the

options available to them (Fine, 2010). Therefore the axioms constitute the idea

that consumer preferences are logically consistent with the utility gains embodied

by consumption bundles; such that the consumer strictly prefers a particular

consumption if, and only if, that bundle has higher utility gains.

Completeness is the axiom that choices require a comparison of the available

options (Varian, 2010). So completeness requires that we are able to compare any

two bundles of goods in order to define preferences. This simply means that an

individuals preferences for any two goods, or bundles of goods, are based on a

comparison of the bundles. For example an individuals preference, between two

bundles of goods, say 6 apples and 3 pairs of jeans (bundle A) as opposed to 12

apples and 6 pairs of jean (bundle B), are only complete if these bundles can be

compared using an ordinal or cardinal scale. A cardinal scale means that an

individuals preferences can be quantitatively expressed based on a comparison of

the optional bundles. So for argument sake, using a cardinal scale, we could say

the consumer prefers bundle A twice as much as bundle B. In contrast, we can

qualitatively compare bundle A and B using an ordinal scale for example John

prefers bundle A over bundle B. But this axiom does not require strict preference

but also allows weak preference and indifference. Weak preference is the idea

that, even though the individual prefers bundle A over bundle B, the preferred

bundle is at least as good as the less preferred bundle, i.e. .

Thus given that all bundles of goods are either distinct or identical, the consumers

preferences will only be complete if we can compare the consumption bundles.

This axiom is plausible since a requirement of choice is that we need to be able to

make a comparison of the options available to us (Gendin, 1996). But since this

axiom is applied to all consumption (choice); it requires an objective or common

way of comparing consumption bundles (options). If our comparison was based on a

context-specific criterion completeness would not always hold and there would be

instances when our preferences are associated with incomparable consumption

bundles. However, it is possible to object this and assert that consumption is often

based on incomparable consumption bundles as is captured by the maxim of

comparing apples and oranges. Nevertheless it is permissible that our preferences

are based on some comparison of the consumption bundles or choices we have.

Completeness requires that consumption bundles be comparable based on their

associated utility. The implication of this is that the object of preferences is only

the utility of consuming a specific consumption bundle; and that consumption

bundles are intrinsically characterised by their utility only. In other words our

preferences are only related to the utility associated with the goods consumed;

such that we cannot have preferences which reflect a comparison of physical or

abstract qualities of a consumption bundle. Also consumption, or choices, are only

characterised by the utility associated with the consumption bundle. So, even

though we can differentiate bundles according to the combination of goods that

form that bundle, the only important distinguishing factor of each consumption

bundle is the utility gained from it (Fine, 2010). However, the utility is determined

by our preferences, which makes consumer theory a solely preference-based, or

utility-based, theory of choice.

In this regard it is assumed that all the options are fully known by the consumer.

This brings us to consumer policy and competition policy which partly intend to

make increase the choices that individuals know by avoiding market imperfections

such as asymmetric information, non-existence of markets and incomplete

markets. Consumer policy tries to deal with issues of coercion of consumers,

asymmetry of information which result in adverse choices by consumers and any

disgruntlement that occurs after the purchase (Vickers, 2003). In South Africa, this

is body of policies is referred to as the Consumer Protection Act. Competition

policy on the other hand is broader and aimed a different set of objectives such as

fostering a competitive market economy, promoting international competitiveness,

industrial development and economic growth (Black & Roberts, 2008). Initially

competition policy in South Africa was aimed at regulating the size of firms and

prohibit collusive behaviour which results in higher prices, such as the case of

collusion by bread producers in 2007 (Black & Roberts, 2008). But competition

policy has evolved to stretch beyond just prohibiting monopolistic by firms.

Therefore, competition policy can be understood as dealing with the market

conditions that diminish consumer behaviour, whilst consumer policy deals with

challenges in exchange

However consumer policy is based on the neoclassic consumer theory which does

not differentiate between products, goods, services, career decision etc. (Fine,

2010). This is the first limitation of consumer policy because of this limited

understanding of the consumed it cannot adequately deal with the nuanced

different information or market failures that pertain to specific products. So for

instance applying for loan is considered to be given by the same consumption laws

as consuming a meal for lunch. However, different products face different sets of

informational imperfects, different sets of market constraints and other challenge

which pertain to their consumption. For instance, although the specific

characteristics might be clear upon physical inspection i.e. one can see the

ingredients to their hotdog and could easily read the terms and condition of a loan

before deciding to consume either of these goods. But are nuanced differences

that could impact the experience of consumption before or after, for instance

even though terms might be clearly defined in the loan contract, certain prior

knowledge limits the ability of the consumer to understand the implication of what

is contained in the terms and conditions. This is less of a problem to someone

consuming a hotdog.

Secondly, the nature of axioms or assumptions of consumer theory also limit the

efficacy of consumer policy. Firstly, completeness requires that the consumer have

known and observable preferences. It is an acceptable requirement that choice

requires individuals to compare their available options. But the assumption that

this comparison is based solely on utility is qualitatively parsimonious and dubious

as a definition of preferences and choice. Similarly the use of the price mechanism

to determine the surplus which either accrues to consumers or producers is a

narrow definition for comparing the desirability of choices. This overlooks

alternative theories of consumption such as Veblens institutional approach to

what he terms conspicuous consumption. Conspicuous consumption is the idea that

certain institutions exist which undermine the logic of consumer surplus and utility

associated with it such that the individual would gain more utility when the price

of the good increases because this becomes a form of social differentiation with

the consumer gaining benefit from the fact that very few consumers can afford the

goods consumed. Therefore, although the preferences might be known to the

consumer i.e. they prefer social differentiation they preferences might not

always be observable if we accept that the logic of consumer surplus does not

always coincide with the price mechanism. The case of conspicuous consumption

undermines the pursuit of increase consumer surplus which is the object of

consumer policy, and in fact a higher price would lead to higher utility according

to the logic of conspicuous consumption.

This highlights the fact that consumers consume for other reasons besides the price

of the good, let alone the utility associated with the good. The fact that this does

not feature in the logic of consumer policy, which focuses on increasing consumer

surplus by offering information about the product, shows the limitation of the

narrow neoclassical understanding of consumption as being purely dependent on

consistency between preferences and utility with prices being a quazi measure of

utility through the mechanisms of consumer surplus. This brings us to the

limitations associated with transitivity and reflexivity.

Consumer theory requires that preferences are only defined by the utility

associated with each consumption bundle; such that we most prefer the bundle

that yields the most utility. And consumption, which is symbolic of all our choices,

is reduced to preferences based on the criterion of utility gains. This is explicitly

supported by the reflexivity axiom, which states that a bundle, or single goods, is

at least as good as itself. This means that identical bundles are at least equally

preferred implying that goods have fixed utility or that our preferences are fixed.

Therefore utility is an intrinsic and at least fixed endowment of every good (Fine,

2010). Preferences are contextually fixed and the only thing changing is the

consumption bundle and the utility associated with it. However, this cannot

accommodate the issue of diminishing utility post-consumption.

For instance, one might decide to take a loan now but due to changed life

circumstances ends up regret the purchase because terms of the loan were met by

personal life situation. For example a married couple might decide to take a home

loan which they can bought afford because they are both employed. However the

couples life might change when one partner is no longer employed or when the

couple divorces. Then the consumers would not be able to afford their loan and

thus face the typical challenges that the consumer policy tries to address post-

exchange. Reflexivity requires that each bundle maintain its utility in such a way

that the bundle offers at least the same utility as itself. But this is not the same in

reality, because as my example shows the same loan with the same consumer

offers very different utility based on alternative life factors which also influence

the gains from consumption. As such, consumer policy can only deal with the

changing nature of utility associated with goods in so far as the consumers

preferences change and not due to other social factors. What my example is meant

to show is that, even though consumers preferences might not change their utility

from consumption changes due to other social considerations.

This overlooks various other criteria for comparison between bundles of goods such

as religion, political ideology or culture. For instance, even though a bundle might

offer greater utility an individual might choose a bundle that offers lower utility do

to their prescribed culture. For example, in a culture than criticises obesity, an

individual might choose to eat less even though they would gain more utility from

eating more simply because the dominant culture. In this example, it is plausible

to argue that, culture is a characteristic that more strongly determines

consumption choice than utility based on preferences. So it is dubious to assert

that utility is the only criteria for comparison between consumption bundles.

Nevertheless, neoclassical consumer theory requires that an individual be able to

compare bundles of goods based utility which is derived by an individuals

preferences. The use of utility as the only criterion of comparing preferences, and

preference-based decision-making, is a dubious and parsimonious definition of

consumption and individual choices. This is because consumption is complex and

that the reasons for consuming a certain good or services cannot be reduced to the

price level because consumers also other considerations in their decisions to

consume. So consumer policy that deals with ensuring greater consumer surplus

based on the neoclassical consumer theory cannot adequately deal with the needs

of every consumer adequately.

Moreover, even if we agree that utility is the only comparative criteria of choice,

neoclassical consumer choice theory makes for a parsimonious definition of choice.

This means that choice is only determined by preferences, which are only defined

by utility. In other words the individuals preferences, regardless of anything else,

are the only considerations we make before choosing. The same parallels exist for

consumer policy and the price-mechanisms as it relates to consumer surplus.

Furthermore, this is a preference-based theory of choice and it doesnt leave room

for any room for social, cultural, political or religious consideration. Physical or

abstract properties of the options available do not have any place in neoclassical

consumer theory. Therefore, although an individual might prefer something based

on their religious views; neoclassical consumers does not allow for this because

preferences are only defined through utility so choices are simply concerned with

utility.

It might be argued that these are trivial consideration that religious, cultural,

racial or gender-specific factors which impact on consumption can be ignore in

favour of more common assumptions about consumption. However, this misses the

point of consumer policy, which is based on constitutional rights and values which

seek to accommodate all religious beliefs, cultural associations, racial diversity

and gender equity. Therefore the importance of these socio-political

considerations is important to ensure complete consumer protection and delivering

on consumer rights for all.

Lastly, there is an assumption that a mixture of goods is universally more

preferable to consumption of one sort of good. However, again this is impractical

and does not take practical considerations about consumption into account. For

example, Varian makes the argument that although he enjoyed both olives and ice-

cream he would not prefer consuming both simultaneously as opposed to one type

of good (Varian, 2010, p. 47). Consumer policy cannot differentiate according to

which products are better consumed together and which are not. For example,

consumer policy cannot suggest that consumers get debt counselling when they

apply for a loan in order to prevent future challenges associated with post-

consumption dissatisfaction even though this is a plausible recommendation.

Therefore, consumer policy cannot bolster its effectiveness by bundling

consumption of certain goods due to the undifferentiated nature of what is being

consumed and the assumption that a combination of goods or services is preferred

to the consumption of one good according to neoclassical consumer theory.

Also there are issues of collective consumption such as in the case of public goods

and services. In such cases information about goods would assist with issues

related to their consumption. However, simply availing information about products

without considering the impact of class or social formation would undermine the

provision of consumer rights to all. For example, in the case of water services in

Johannesburg it has been found that different classes do not have the same access

to the state or public services (Bawa, 2011). Thus consumption and challenges that

consumer policy seeks to resolve are also class, gender and race-related. The same

is not always true privately consumed goods which require more than information

about prices or qualities of the goods. This is where advertising fills more or a role

because it can link the social considerations during consumption with goods

available on the market. However, in cases of non-existent or incomplete market

simply sharing information about the goods would not resolve issues that closely

tied to social class, racial and gender divisions in society.

Thus, consumer policy needs to redress the limitations associated with the

neoclassical consumer theory due to these implications. What is needed is a

broader understanding of consumption as well as what is consumer, which the

neoclassical consumer theory does not allow for due to its very restrictive

assumption and universalistic application. Therefore, in order for consumer policy

to be more effective, consumer policy needs to refrain from universalistic

applications such as the use of the price mechanism in relation to consumer

surplus. The specificities of consumption and what is being consumer mean that

consumer surplus is unevenly distributed through complex contradictory logics of

what is the strongest consideration being made when consuming different

products.

Works Cited

Abrams, P., 1988. Notes on the Difficulty of Studying the State. Journal of Historical

Sociology, 1(1), pp. 58-89.

Bawa, Z., 2011. Where is the State? How is the State? Accessing Water and the State in

Mumbai and Johannesburg. Journal of Asian and African Studies, 46(5), p. 491503.

Black, A. & Roberts, S., 2008. Chapter 8: The Evolution and Impact of Industrial and

Competition Policies. In: s.l.:s.n., pp. 211-243.

Fine, B., 2010. Consumers and Demand, s.l.: mimeo.

Gendin, S., 1996. Why Preference is Not Transitive. The Philosophical Quarterly, 46(185),

pp. 482-488.

Varian, H. R., 2010. Chapter 3: Preferences. In: J. Repcheck, ed. Intermediate

Microeconomics: A Modern Approach. 8th ed. New York & London: W. W. Norton &

Company, pp. 34-52.

Vickers, J., 2003. Economics for Consumer Policy. London, British Academy for Humanities

and Social Science.