Ethics and Economics (And Coffee Too)

A bit of economics can go a long ways in helping understand a range of issues in business ethics. I’m not an economist myself, but I’ve read a fair bit of economics here & there. And I want to read more. In order to arrive at sound ethical conclusions, you need more than just ethical beliefs: you need some understanding of how the world works. For many issues in business ethics, economics provides relevant facts.

For example, consider ethical issues related to price. Prices are clearly important to all of us: the price of a thing tells us how much we would have to pay to get it. But economists recognize that prices play two other very important social roles, roles that are important to the way the economy as a whole operates.

First, a price conveys information. When something is expensive, that tends to convey the fact that it is scarce — scarce enough that buyers are willing to pay a lot for it, and are perhaps even competing with each other and hence bidding up the price. Likewise, when something is cheap, that generally conveys the fact that it is plentiful. (Note that scarcity can be either natural, a straightforward matter of the amount of a thing in existence, or artificial, as when some person or company gains monopoly control over the supply of a thing.)

Second, a price provides motivation. People are generally (though unevenly) motivated by money, and by money-making and money-saving opportunities. (If you really don’t care about money, you should send me all of yours. Thanks.) Among those who want to buy a good, high prices tend to lower demand, and low prices tend to increase it. Price also affects suppliers. The fact that the price for a given good or service is high is going to tend to motivate people to want to get into that line of business. A low price is going to tend to deter people from making that their line of work.

Now, how does that understanding of the social role of prices affect a real-life issue in business ethics? Here’s a simple example of the social function of prices at work, and why economics matters for ethics. It’s an example I learned from the book, The Undercover Economist, written by economist Tim Harford.

Consider coffee. Coffee is a hugely important commodity — second only to oil on the world market. Most people know they now have the option of buying ‘fair trade’ coffee, the aim of which is to make sure that the people who grow coffee get a fair deal for what they produce. (October is “Fair Trade Month,” by the way.)

Hartord’s argument is this. Coffee farmers are poor, and will generally remain poor, because the thing they produce isn’t scarce. Coffee is relatively easy to grow, and can be grown in relatively many (hot) places. Buying fair trade coffee (at a premium price) means paying coffee farmers more. Now, recall what I said above about the role of prices in motivating people. Paying more for coffee is likely to draw more growers into the business. And drawing more growers into the business will increase the supply of coffee. And if you increase the supply of coffee, you inevitably depress its market price — and along with it the wages of those who labour on coffee plantations. So it’s hard to make coffee growers alone better off, until workers in other industries (like the garment industry) are well-enough off that they can’t be attracted into the coffee industry by (for example) fair-trade-driven higher wages. According to Harford (p. 229):

High coffee prices will always collapse, until workers in sweatshops become well-paid blue collar workers in skilled manufacturing jobs, who don’t find the idea of being even a prosperous coffee farmer attractive.

That makes it awfully hard, if not impossible, to boost net wages in the coffee industry, in the long run. Now, that by itself is nothing like a conclusive argument against fair trade coffee. But a sound understanding of the economic role of prices does give reason to pause before we accept the notion that we can make people better off simply by voluntarily paying more for a non-scarce commodity. (I’ve blogged before about other problems with the fair trade notion. See: What’s so Fair About Fairtrade?)

As I noted above, I’m not an economist — so if someone reading this can help by correcting anything I’ve written here, or add any further detail, I’d be grateful.

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Here are a few books about economics that I recommend (not all equally good, and I recommend them for different reasons). All of them are aimed at non-economists, and 2 of the 4 are even written by non-economists.

14 comments so far

  1. Mark on

    Once again Chris you’ve given me some very convincing reasons to conclude that it’s all too hard and too complex to make ethical choices in the marketplace.

    Mark

  2. Lalitha on

    Thanks for focusing on fair trade and coffee.
    Well, I understand the concept of fair trade to indicate adherence to several criteria -specific quality standards and general requirements like child labor control, gender equity, democratic organization and respect for Nature. The fair trade practice adopted by Starbucks is a case in point. Only shade-grown coffee from the rainforests of Mexico are procured at a fair price ensuring that the community would be enabled to carry on development process with the premium obtained. It is not as if all of the land avialable on Mother Earth would be suitable for coffee cultivation or that every one would take to its cultivationwhich would have the spiralling effect of the vicious cycle of more production -> more supply ->lesser prices.
    Theoretically speaking, the projected outcome may appear to be a probable consequence, but real life experiences or the real market situtation belie this assumption.
    Anyways, I always tend to be optimistic and so , in MHO, there may not be such need for grave predictions about over-production of coffee to the exclusion of other agricultural produce or decline in the wage rates of labor as an inevitable consequence! It is not as if labor working in sweat shops will view coffee farms from the angle of opportunity cost and shift their place of work from factories to farms!
    Further, if fair trade is adopted generally across all geographies and sectors as a voulntary code by business organizations to build their reputation capital, I guess, there would be overall fairness in trade to the producers and huge environmental benefits for Mother Earth!

  3. Chris MacDonald on

    Lalitha:

    Thanks for your comment. Briefly:

    1) You say “real life experiences or the real market situtation belie this assumption”. I’d be happy to see evidence!

    2) No, it’s not literally (necessarily) as if people are hopping from sweatshop to coffee plantation. Well, maybe in some cases. But the point is there’s always some worse job from which people will be attracted.

    3) As for your final idea: I’m just not sure that a feel-good voluntary “tax” on coffee is the way to achieve that noble goal.

    Chris.

  4. Kevin M Roth on

    Chris,

    It’s an interesting concept, but I think you add some confusion to the topic by lumping all coffee together. Certainly most (if not all) coffee farmers would like to sell their coffee at Fair Trade rates, but I think both types are fairly isolated. The total coffee demand curve doesn’t change because of fair trade.

    Fair Trade policies increases the willingness of those who can supply fair trade coffee to supply as much as they can. I don’t know that it lures people into the significantly less lucrative non-fair-trade coffee world. Fair Trade coffee is such a negligible portion of the entire coffee market that any rational potential coffee grower (who isn’t currently growing) would realize that they would be unlikely to get into the fair trade market. The fair trade coffee market is saturated as is, potential growers would probably like to get into it, but there are enough fair trade agreements in place already to supply all of the current demand.

    I don’t think the current fair trade program is perfect. But I don’t see it as a feel-good voluntary tax either. It’s certainly based on paying higher than “market” rates for the coffee, but it signals more than that to the consumer. Fair Trade signals to buyers that no unsavory practices were used in the growing of the coffee (no forced slavery, etc).

    • Chris MacDonald on

      Kevin:

      Thanks for that. Interesting to know that the fair trade market is saturated — though of course that fact has to be based on current limited demand. Surely fair trade advocates would like demand to go up. But anyway, we don’t have to think in terms of lumping all coffee together: higher prices (and wages) for fair trade coffee should be enough to draw people into the coffee industry.

      FYI, as I type this, I’m sitting sipping Fairtrade (certified) coffee. Not, as it happens, because I chose it, but rather because the closest coffee shop (Second Cup, a large chain) has only Fairtrade coffee.

      Chris

      • Kevin M Roth on

        Chris,

        I just don’t see the incentive for a “new” coffee farmer to start growing coffee, if he/she knows that they’re not likely to get fair trade prices. They wouldn’t be looking at selling at a fixed rate for an essentially guaranteed contract. Instead they’d be hoping they could find anyone who would pay them anything for their coffee. I just don’t see how that hypothetical future coffee farmer would be induced to supply for a different market (non fair trade) just because the fair trade market is lucrative. Some might, but they certainly wouldn’t last long, unless the non-fair-trade coffee market is also more lucrative than their alternatives, in which case fair trade had almost nothing to do with them growing coffee.

        You claim “higher prices (and wages) for fair trade coffee should be enough to draw people into the coffee industry”. I’d change that to “higher prices (and wages) for fair trade coffee should be enough to draw people into the fair trade coffee industry”. The problem there is that the total supply of fair trade coffee exceeds (or is equal to) the demand for it.

        I’m not arguing that Free Trade is perfect. It’s not. But I don’t think it fails from the economic issues you pointed out. I think the fair trade coffee market is fairly isolated from the non fair trade market, and it’s more illustrative to look at each as independent entities rather than lumping them in and assuming that people will choose to sell more cheap coffee just because someone else somewhere else is selling coffee for more. New coffee growers would likely be the last to become part of the free trade movement, even if demand increased, because more experienced farmers with established supply chain connections would be the most likely new entrants into the fair trade community.

  5. Chris MacDonald on

    Kevin:

    I guess (and recall that I’m not an economist — I’m just parrotting the argument of a well-respected one) the idea is that a) there’s mobility between the fairtrade and non-fairtrade parts of the industry (some non-fairtrade producers may be drawn to the fairtrade end by higher prices) and then people outside the industry might be drawn to one or the other. And the fact that total supply meets current demand isn’t a barrier in this or any other industry. If there’s money to be made, people will move into the industry and try to squeeze out a living. Compare: the corner store closest to my home seems to “meet the demand.” But that’s not to say that it’s impossible for another store to move in very close-by, stealing some of their business and (perhaps) helping expand the corner-store market over-all.

    Chris.

  6. Kevin M Roth on

    Chris,

    A) There may be some mobility between fair trade and non-fairtrade producers. It’s not common, but it’s certainly possible. I’d think that the displaced fair trade producers would fill the demand void (if any) caused by previously non-fairtrade supplier becoming a fair trade supplier.

    B) There is money to be made with fair trade, and demand to get into the program is high. Almost all coffee farms would like to sell at fair trade rates. That’s not increasing coffee supply. It just increases the farmers willingness to get into the program.

    I think your corner store analogy misses the point here. Your corner store doesn’t require a certification to operate, nor would any potential future competitor that could move in across the road.

    Coffee farmers can’t just become fair trade and instantly sell their coffee for more. Normally the market would respond, and more farmers would become fair trade suppliers until the price reached the demand and no new farmers were selling fair trade coffee beans. The problem with that thinking is that it assumes a fluid market with no barriers to entry. The Fair Trade market isn’t fluid though, there is a baseline price that prevents additional potential suppliers from gaining entry simply from competitive pricing. Non-fairtrade farmers would like to get into the more lucrative market but simply have no means to gain entry. That’s where the traditional economic analysis breaks down. It’s not an “open” market that reacts to traditional supply/demand economics.

    I agree that it’s not an ideal solution. I’d much prefer a more social ethics oriented label that any coffee grower could be a part of, if they met social obligations on the farm. If a farmer can grow coffee beans ethically (however one would define that) and do so in a less expensive way, he should benefit from that by being able to competitively price his coffee beans. As it is currently (disclosure:I sell coffee for a living), if someone wants to sell ethically grown coffee, they have to go with the Fair Trade label. I’d prefer a more market driven solution, but it’s currently not available.

    It’s not perfect, but the problems with the label aren’t the ones you talked about. It’s not inducing more entrants into the coffee world, creating a glut of producers and depressing the price. That thinking (yours or someone elses) is flawed.

  7. Chris MacDonald on

    Kevin:

    Thanks very much. I appreciate your insider point of view.

    Clearly the barriers to entry are important, but neither are they prohibitive. People do move into the field. (Note that a corner store also faces substantial barriers, though of a different kind: they need to make a substantial investment in construction, maybe a franchise license, setting up contracts with suppliers, etc.)

    It also matters that Fair Trade (TM) isn’t the only fair-trade certification out there.

    Anyway, I clearly need to think about this more. Thanks!

    Chris.

  8. Gord on

    I’d like to see domestic farmers treated similarly. For instance, wholesalers could easily double or triple what they pay for wheat and have almost no impact on the price of bread or a box of cereal.

  9. […] blogged recently about fairtrade coffee. See: Ethics and Economics (And Coffee Too), where I pointed out that, when you understand a bit about the economics of pricing, there’s […]

  10. […] more money into a supply chain has complex effects. As I’ve pointed out before in regards to fair-trade coffee, paying more for something draws more people into the business, which increases supply, which […]

  11. Abby Glenn on

    Hi Chris,

    Thanks for the short and sweet version of economics! During my undergraduate years I took a few business courses, but I was lucky enough to stay away from economics. I am now working on my masters of communication at Drury University.

    This semester I’ve done a lot of research about social corporate responsibility, something that I rarely, if ever, have seen applied to the coffee industry.

    To engage in corporate social responsibility (CSR), a company is expected to do all that is possible to benefit the environment, public welfare, and the community in which it operates. My personal opinion is that most companies do engage in CSR, but they only do the absolute minimum in order to pass consumer criticism. However, while I do think corporations practice CSR, I feel they are extremely lacking in how they follow their CSR programs through supply chains.

    “Today, a growing number of social actors – consumers, activists, politicians… expect corporations to demonstrate their social responsibility on an ongoing basis, both upstream and downstream in the value chain” (Cheney, et. al., 2010, p. 458).

    Supply chains, particularly in the food industry, has begun to grow in importance in the eyes of consumers. A supply chain “may be generally defined as the series of companies, including suppliers, customers, and logistics providers that work together to deliver a value package of goods and services to the end customer” (Maloni & Brown, 2006, p. 36). As far as the coffee industry is concerned, I find it absolutely deplorable how corporations treat coffee farmers.

    I first learned about the economic impact of coffee when I watched a movie, Black Gold, in one of my undergraduate management courses. In this documentary, the filmmakers take the audience all over the world to show the impact of the coffee industry. Whether it’s the on the floor of the New York Stock Exchange or in the dilapidated homes of coffee farmers, it’s clear that the coffee bean is treated like gold in the worlds economy.

    In order to improve the conditions of the coffee industry, coffee manufacturers would need to follow their CSR plan throughout the entire supply chain of the industry. The movie Black Gold truly raises awareness of this problem by showing each step of the coffee producing business.

    In your blog, you make the comment that by understanding economics, we have reason to question whether participating in a fair-trade market is right. While I truly understand and accept the role of economics in our society and how scarcity impacts the cost of goods, I challenge you to consider the ethical components of the fair-trade market.

    For a quick introduction to Black Gold and the response it received, check out this CNN report: http://www.youtube.com/watch?v=t-Xilsyd7Xo

    Thanks again for your blog and short introduction to economics. I’m now going to enjoy a cup of hot fair-trade coffee while I study for my masters program!

    Abby Glenn
    Drury University
    Masters of Communication
    http://www.drury.edu

    Reference:

    Cheney, G., May, S. & Munshi, D. (Eds.) (2010). The handbook of communication
    ethics. New York: Routledge.

    Maloni, M., & Brown, M. (2006). Corporate social responsibility in the supply chain: An application in the food industry. Journal of Business Ethics. 68(1), 35-52.

    • Chris MacDonald on

      Looking at the economics of Fair Trade isn’t an alternative to looking at the ethics, it’s a complement to it. You can’t understand the ethical issues here without understanding the economic ones. Most people care, ethically, about producing good outcomes. A bit of economics helps us understand what outcomes the Fair Trade movement is likely, or unlikely, to produce.


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