Sticky prices

by Philip Brewer on 28 May 2008 2 comments
Photo: Zero_666

I'm old enough to remember when a piece of bubble gum was a penny.  In fact, it was a penny for most of my youth--and had been a penny for a couple decades before I was born.  As inflation began to heat up in the 1960s, though, the Topps company first shrank the size of a piece of gum, and then eventually had to raise the price.

I talked last week about the costs everyone faces trying to deal with unpredictable price increases and changing product sizes.  This post is about some special cases.

Uncertainty cuts sales

One problem that businesses face is that customer uncertainty means some business is completely lost:  A customer who has $10 in his pocket might decide not to eat at a restaurant that had charged $9-something last week, simply out of fear that the cost had gone up.  Bad enough if the price had, in fact, gone up--but even worse if the price was still the same, but the customer didn't want to take the chance.

Businesses try various things to fight this.  One is simply to advertise prices as a way to reduce uncertainty.  Since it's hard to remember whole price lists, companies start giving whole categories of items a consistent price--creating "dollar menus," selling $5 foot-long subs, and so on.

The downside of advertising prices--and of making them easier to remember--is that it makes the prices harder to change.  It's one thing if you raise the price of your hamburgers from 87 to 89 cents.  It's an altogether different thing to charge $1.02 for the stuff on your dollar menu.  The result is sticky prices--prices that are hard to change.

Sticky prices

That was the problem Topps had with it's one-cent bubble gum.  Their only choices were to hold the line or to double the price.  It's a cruel irony that the exact same inflation that pressures companies to advertise their prices to reduce the losses caused by price uncertainty, turns right around to punish them again once they do so, because advertising makes their prices sticky--making it all the harder for the seller to make the small price increases that let them stay even with inflation.

Another example would be the newspaper.  The way they're sold--in machines that don't give change and at newsstands where you put down your money, grab a paper, and go--makes it convenient for people to pay an even amount.  My local paper costs 50 cents, and it's just not practical for the newspaper to push the price up to the 53 or 54 cents that would bring them even with recent inflation.  They probably won't even raise the price to 60 cents, although they could.  I bet they'll hold the line as best they can until they simply have to make a change, and then they'll go up to 75 cents.

In general, I expect we'll see much the same from the dollar menu.  Over the next few months we'll see all the same little tricks--servings will get smaller, and items with expensive ingredients will drop off the dollar menu.  Pretty soon they'll quit advertising the dollar menu (making up some new alternative: "$4 feasts" perhaps).  Once a minimally decent interval has passed, the dollar menu will be gone.

Someday, we will once again have a currency that holds its value.  Then both prices and package sizes will be stable.  I'm ready.

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levyzoo

McDonald's recently did the sticky price trick. Daily I drove through & got an extra large iced hazelnut for $1.99...it was 24 ounces. Then one day I drove through & ordered the same, but got 16 ounces. I pulled yesterday's cup from my car trashbag & asked "if I had been given an extra large, because this was what it looked like yesterday". With a blank look, I was told that "Yeah, we don't have an extra large anymore, but now the large is the price of the extra large. I see...an 8 ounce drop in product, for the same price. That was my last iced coffee at McD's. AND when I emailed to complain, they sent me a form letter basically stating that "We can't please all the people all the time, so tough luck."

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Kristin

I studied in London last semester (law school abroad=poor student, expensive living=must read wisebread)...and instead of having a "dollar menu" they had "cheap eats"... obviously they can't have a "pound menu"... everything there is double the price and then double the value...so 2 pounds for a burger= 4 dollars= :::sigh:::. American businesses thrive over there without discounted menu items. Subway had a two pound sub each day, it changed daily...sub of the day. One day I went with four pounds, expecting a footlong. What did they do? They had SUBS OF THE MONTH...three subs all for 2 pounds 30 pence or so. :(

My brother thinks there should be (well there is in Germany already) a robotic restaurant... your meal comes out on a mechanical device directly from the kitchen, no waiter/ess involved...lower costs...and everything on the menu is $5.00 or $1.00. Consistency here being key.