There’s an old economists’ joke about two university professors who are walking through the school’s cafeteria. The first professor, an engineer, points to an empty table and says, “Look, someone left a twenty-dollar bill.” The second professor, an economist, replies, “Nonsense. Someone would have already picked it up.”
The point of the joke is that, in a free market, explanations of economic activity that assume that obvious profit-making opportunities are being ignored — that is, that money has been “left on the table” — are rarely correct. That is because entrepreneurs tend to react quickly to such opportunities.
For example, a common complaint is that women in the United States are paid only 75 percent of what men are paid for doing the same work. The “money left on the table” in this case is cheap labor. An alert businessman could undersell the competition by hiring only women and paying them, say, 80 cents on the dollar. With labor costs 20 percent below those of the rest of the market, his profits would be substantial. Of course, his high profits would attract other investors, and women’s wages would quickly be bid up.
Why hasn’t that occurred? According to social critics, the reason is sexism. However, given the fact that money is rarely left on the table, a more likely possibility is that the initial premise — women are paid less for doing exactly the same work — is incorrect. And, indeed, when we look more closely at the data, a very different picture appears. First, we find that the 75 percent number comes from comparing all women to all men. Next, we learn that the “average” man:
- Works more hours than the “average” woman.
- Stays with the same company longer.
- Takes fewer leaves of absence for child rearing.
- Is more likely to take dangerous or unpleasant work.
- Is more likely to be in a high-paid technical field such as engineering.
Once the data are corrected for those and other differences, the disparity in pay virtually disappears. No money is being left on the table.
Another common example is stores in poor neighborhoods that charge higher prices than do stores in wealthier areas. “Activists” often attribute such differences to racism or greed. Again, however, such explanations assume that money has been left on the table — in this case, profit opportunities in the poorer neighborhoods. If stores in those areas are making obscene profits thanks to their high prices, then opportunities exist for other entrepreneurs to enter the market and undersell the profiteers. Why doesn’t that happen?
Because obscene profits are not being made. Yes, stores charge higher prices in ghettos and barrios, but only because their costs are higher. Losses due to shoplifting, holdups, and arson are much greater in poorer neighborhoods. Insurance premiums are higher as well. When “activists” succeed in passing laws that require stores in those areas to cut their prices, the stores often go out of business. People in the affected neighborhoods must then either travel across town to purchase nutritious food or buy whatever (less nutritious) food is available at whatever businesses remain.
A similar case can be made for the universally despised payday-loan companies that cater mostly to poor customers. Critics point out that such “predatory lenders” may charge annualized interest rates of 300 percent or more for the small loans — usually between $300 and $400 — they make to their customers. Here, at least, money must be on the table. Surely, an enterprising person with a little start-up money could charge a “mere” 100 percent a year and clean up.
But, as Thomas Sowell, explains in his book, Basic Economics, payday loans aren’t made for a year. Rather they’re usually made for no more than a few weeks. According to Sowell, “For a two-week loan, payday lenders typically charge $15 in interest for every $100 lent.” That $15 must cover the cost of processing the loan and the higher risks inherent in lending to people who have little or no collateral.
After Oregon passed a law limiting annual interest rates to 36 percent, “three-quarters of the hundreds of payday lenders in the state closed down.” To so-called consumer advocates, that was little more than good riddance. But it was a big financial headache for people who could no longer obtain $100 to keep the electricity running or a car from being repossessed, or who might have to pay more than $15 in late fees to a credit card company.
The observation that the market rarely leaves profit opportunities untapped is a useful tool for evaluating claims of market failure. If a proposed explanation of a given free-market activity implies that people have been ignoring the chance to make large profits for years, then the explanation should be questioned and other possibilities considered.
Fortunately for entrepreneurs, however, sometimes people really do “leave money on the table.” Successful entrepreneurs help improve our lives by seeing what others miss: unmet needs, new products, efficiency gains, and better solutions. They’re the first to spot that twenty-dollar bill on the cafeteria table, and it’s a safe bet that they’re not economics professors.
This article was originally published in the January 2017 edition of Future of Freedom.