Will J.C. Penney's new pricing policy succeed?
Retailer J.C. Penney just聽announced a new pricing policy that will make its prices more rigid and other retailers are moving in that direction.聽 Can depression and mass unemployment be far behind?
The linchpin of all varieties of Keynesian economics is the assumption that prices and wage rates are rigid and do not respond to changes in supply and demand, at least in the short run.聽聽As was demonstrated in 1944 in a famous article by Franco Modigliani, himself a Keynesian and聽later a聽聽Nobel laureate in economics, absent this assumption and the entire聽 Keynesian edifice聽falls to the ground.聽 It is because prices do not adjust immediately, say, to a fall in demand, that quantities must adjust, meaning that聽unsold goods pile up in inventories and聽an excess supply of labor goes unhired聽resulting in depression.聽 聽A modern version of this story is also聽invoked by modern free bankers to justify their conclusion that the supply of money must be continually adapted to changes in the demand聽to hold聽money, lest聽recession and unemployment聽emerge.聽 This聽version attributes the rigidity or 鈥渟tickiness鈥� of prices to objective factors like 鈥渕enu costs,鈥澛爓hich聽refer to the聽resource costs that the seller must incur every time he changes his array of product prices.
Of course our daily experience with coupons, early morning specials, restaurant blackboard specials, supermarket rewards cards, and so on makes this widely accepted story聽of聽intractable price rigidities ring hollow.聽 But whether prices are rigid or flexible is really beside the point.聽聽The point is聽that the degree of price rigidity or flexibility is not determined by objective external factors such s menu costs, but is chosen by entrepreneurs as one of the dimensions of the good or service聽they bring to market.聽 As Hans Hoppe once succinctly put it, 鈥淧rices are as rigid or as flexible as they need to be.鈥澛� Entrepreneurial pricing policies聽are driven by and constantly adapted to the demands of consumers.聽 For instance, the prices of movie theater tickets change very slowly and appear somewhat sticky because consumers prefer it that way;聽in contrast the prices of theater concession items like soft drinks, popcorn,聽 and candy are continually varied by coupons, rewards cards聽and daily聽specials.聽 Now back to J.C. Penney.
Large retailers and transportation firms often vary their pricing policies, trying to achieve the聽optimal degree of price flexbility in a changing economic environment.聽 聽As reported this week,聽retailer J .C. Penney has introduced a radically new pricing policy in response to a shift in consumers鈥� shopping habits.聽 With the increasing availability of聽 shopping comparison apps for mobile electronic devices and the omnipresence of large Internet sellers like Amazon and eBay, consumers are increasingly shunning high mark-up items which they know will be eventually marked down.聽聽聽In the case of J. C. Penney, in 2002 an item that cost the retailer $10.00 was typically marked up to $28.00.聽 That mark up was聽progressively increased and by 2011 a $10.00 item sold for $40.00.聽聽But聽despite the聽greatly increased mark up, the average price that a consumer paid for a $10.00 item聽聽rose only from $15.90 to $15.95 duing that same period聽 Thus consumers have become more savvy and resourceful in their shopping practices.聽聽 J. C. Penney has responded by slashing its prices by 40 percent and rounding all prices to the nearest dollar.聽 This new 鈥渇air and square鈥� pricing policy introduces greater simplicity but more rigidity into its pricing structure and聽involves getting rid of聽daily sales on multiple items and聽establishing three pricing tiers: every day regular prices; month-long specials;聽聽and 鈥渂est prices鈥� for clearance items on the first and third Friday of every month.聽 Walmart has responded very differently via a highly flexible price policy of an Ad Match Guarantee in which it promises to match, under聽specified conditions, the prices advertised by competitors.
It remains to be seen聽whether consumers accept J. C. Penney鈥檚聽new pricing structure.聽聽In 1992 American Airlines tried a similar scheme, slashing the number of prices in聽its computerized reservation system by 86 percent, from 500,000 to 70,0000.聽 In the process the average fare was reduced by 38 percent and first class fares by 20 to 50 percent.聽聽The airline聽had estimated that the move would save $25 million annually and enable it to聽reallocate 600 employees to other tasks.聽聽No sale鈥攁ir travelers rejected it and within six months the plan was rescinded.
Entrepreneurial experimentation with聽diverse pricing policies is an integral part of the market process.聽聽To聽single out聽sticky prices or, in technical jargon, 鈥渘ominal rigidities鈥澛燼s a market failure and the聽root cause of macroeconomic fluctuations聽is just plain silly.聽 It demonstrates the giant chasm that exists between lifeless macroeconomic models and the dynamic pricing processes of the real world.
