Bill Gates Makes Classic Error
By David Henderson
Harvard economics professor Greg Mankiw quotes from a recent book review by Bill Gates:
By the second semester of my freshman year at Harvard, I had started going to classes I wasn’t signed up for, and had pretty much stopped going to any of the classes I was signed up for – except for an introduction to economics class called “Ec 10.” I was fascinated by the subject, and the professor was excellent.
Greg’s interest, understandably, is who the professor was. He wonders if it was Otto Eckstein. I’m wondering if it was Elizabeth Allison. In December 1973, when I was in my second year at UCLA, I did a “busman’s holiday,” flying to Boston en route to Canada to visit my undergrad friend Lawrence Siskind and my econ graduate student friend Danny Steinberg. Danny invited me one evening to go with him to Elizabeth Allison’s place where she had a meeting of her teaching assistants (Danny was one) to go over some questions for an exam for a self-paced economics course she was teaching. It was an introductory course. Maybe she taught Ec 10 also.
But I have a less personal and more professional interest in the Gates’ review. After drawing a supply and demand curve correctly, Gates writes:
There are two assumptions you can make based on this chart. The first is still more or less true today: as demand for a product goes up, supply increases, and price goes down. If the price gets too high, demand falls. The sweet spot where the two lines intersect is called equilibrium. Equilibrium is magical, because it maximizes value to society. Goods are affordable, plentiful, and profitable. Everyone wins.
In the second and third sentences, Gates messes up big time. If demand for a product goes up, the price goes up. With an upward-sloping supply curve such as the one he draws, the quantity supplied rises. Net result: equilibrium price and quantity are higher. The price does not go down.
I’m criticizing Gates not to suggest that I’m smarter than he—I’m positive that I’m not—but simply to correct his analysis. One can make some pretty big follow-on mistakes if one doesn’t understand his mistake. I’m also not suggesting that he should have stayed at Harvard longer and understood economics better. If he had, almost all of us would have been at least slightly worse off.
Interestingly, in the paragraphs that follow, Gates does get at the crucial part of economics that matters for his industry. I’ll leave that part to you if you’re interested.