Economics À La Carte

The greatest emasculation of the US dollar came several weeks ago when the value of the Canadian dollar--or colloquially, the "loonie"--reached and exceeded parity with its American counterpart (currently it's about 1 to 1). But, as I noted earlier, a strong currency does not necessarily a happy citizenry make. Indeed, those Canadians inclined to a good read every so often are actually quite livid at the loonie's recent flight. The usually mild-mannered Canadians are so distraught because most American books have twin prices (American and Canadian) printed on the cover--Alan Greenspan's recent book displays the twin prices of $35 and C$43.95 on its jacket, for example. Previously the higher Canadian price reflected the lower value of its currency, but now that the loonie is worth slightly more than the dollar, Canadians are paying a 22 percent tax (in the case of the above example) simply for having bought the book in Canada and not the United States. As a result, Canadians are either demanding that booksellers lower prices, driving to the US to satisfy their literary fixes, or simply buying online from American retailers (savvy American entrepreneurs could, of course, load up a few trucks full of popular books and head north as well).

"But Jeff," says the fictitious reader in my mind who reads my blog daily with ferocious devotion. "How can this happen? Markets--including those in currency--are supposed to be efficient. How can this price disparity occur?"

Well, there are few reasons why this can occur, dear fictitious reader:

  1. Markets are not perfectly efficient in the short-run. Just as it takes a few moments for someone to notice a $100 bill on the sidewalk and pick it up, so too does it take time for arbitrage opportunities in a market to be taken advantage of and prices brought back in line.
  2. Most currency exchange is based on the idea of purchasing power parity (PPP), which postulates that all goods and services should cost the same in all countries when measured in a common currency. Daily exchange rates usually deviate significantly from what PPP implies because it is a long-run concept. Thus, in the short-run it's perfectly normal to have one currency with significantly more purchasing power than another.
  3. Publishers have to print new books when it changes the price, which is costly to the firm. When confronted with these "menu costs," it often more profitable for a firm--even in highly competitive market--to leave prices at the previous level instead of incurring the costs of changing prices to the market-clearing level.

On a personal note, I've realized that I can buy books online from US retailers and have them shipped over more cheaply than I can by buying from German bookstores or online retailers. I take special pride in the knowledge that by doing this, I'm not only saving money but also helping to make global markets more efficient.

You might say that by buying books, some of which are leather-bound, I've become kind of a big deal.