‘Price flexing’ reflects the logic of devolution – and would help both cities and supermarkets prosper in future.
One of the best things written about local economies last year looked at the price of curries in Wetherspoons. The Financial Times’ Alphaville blog investigated how the pub giant’s prices change across the country, and collected some great data showing that Wetherspoons varies its prices dramatically according to local conditions (and therefore local incomes and costs).
This process is called ‘price flexing’, and it’s what causes pubs to be more expensive in cities like Brighton than in cities like Barnsley. By contrast, grocery prices remain unchanged in the same stores in different cities, because price flexing in supermarkets is frowned upon by UK competition regulators as being anti-competitive.
As a result, the same basket in every Tesco Express costs the same in every city, regardless of the local economic conditions. This is known as ‘uniform pricing’.
It got us thinking – what are the implications of uniform pricing in supermarkets for local economies across the UK? And what would happen if British supermarkets were allowed to vary their prices in each store as Wetherspoons does?
Here are four reasons why all cities would benefit if supermarkets adopted Wetherspoon’s approach to price-flexing:
A recent paper on American chain stores by Stefano DellaVigna (University of California, Berkeley) and Matthew Gentzkow (Stanford) offers some insight into the impact of uniform pricing on local economies.
They find that even though US regulators allow price flexing, most US supermarkets and drugstores practice uniform or near-uniform pricing across all of America. More importantly, their research suggests that both businesses and consumers lose out as a result.
For a start, the data shows that the average chain store in the US could increase its profits by 7% if it introduced price flexing by neighbourhood.
Perhaps more surprisingly, they also find that people in low-income places lose out from uniform pricing. Stores in poorer neighbourhoods and cities should face lower costs, because their rent and their wages costs are usually lower. In theory this should result in lower prices for people in poorer neighbourhoods (who are more price-sensitive than richer households), the same way Wetherspoons pubs are cheaper in poorer areas.
But uniform pricing means that people in poor neighbourhoods have to pay the same prices as the people in rich areas who enjoy much better amenities and services. In order for stores to keep prices uniform nationally, poor people have to pay a little more for groceries and rich people get to pay a little less.
Aside from regulatory concerns, supermarkets in the UK also say that one of the reasons they don’t engage in price flexing is that it would “damage their brand and reputation” and be “commercial suicide”. But this does not seem to square with the popularity of Wetherspoons. And it is hard to argue that charging poorer customers less and richer customers more would be unfair.
Moreover, DellaVigna and Gentzkow also argue that uniform pricing means cities cannot respond to local economic shocks. To apply this logic to Britain, when the Teesside steelworks in Redcar shut down in 2015, supermarkets such as Morrisons were not able to respond to the reduced local demand by lowering their prices. Local consumers in Redcar face the same high grocery bills as before, even though they now have less money to spend.
US chain stores maintain uniform pricing – even though they’re not required to by regulators – because setting individual local prices across hundreds of different goods in each store would take supermarket managers a lot of time, effort, and skill. By contrast, managers in businesses like Wetherspoons are in charge of setting their outlet’s prices. This is the logic of devolution – top-down, centralised policies penalise different places, while the results of devolved decision-making better fit local conditions.
But the impact of uniform pricing goes beyond the cost of your weekly food shop – it also has implications for housing markets in different cities. The supply of housing in the UK is very inelastic, which means that when consumers have more income or more money to spend on housing, the number of homes built locally does not really change – the price goes up instead.
So, for example, if an identical basket of groceries costs the same in Wakefield (where average weekly wages are £463) as it does in Bristol (where weekly wages are £525), people in Bristol are able to spend more of their money on other goods. As a result, uniform pricing in supermarkets means Bristolians have more change left over after their weekly shop, but it also increases house prices slightly in the city (as well as in other high-demand cities). Price flexing by supermarkets would make groceries more expensive in high income neighbourhoods, but this would be eased by bringing down housing costs in growing cities.
As retail increasingly shifts online, shoppers are spending more and more on goods and services which have prices that are automatically changed by algorithms multiple times a day.
This could have two possible effects. The first is that well-designed algorithms could recognise how local economies shape local incomes and spending. As a result online retail could provide cheaper baskets to people in poorer cities and neighbourhoods than uniform pricing does now.
The second is that the price flexing in online retail will increasingly force conventional retail to adapt. As competition from online retailers grows in part due to price flexing, supermarkets may conclude they need to adopt similar strategies to achieve those 7% higher profits.
This would likely involve the loss of low-skilled jobs in retail, but would also demand increasingly skilled and trained management, capable of using new technology and data to respond to local economic conditions (Amazon’s new grocery store – which doesn’t have checkouts, but relies on cameras and sensors to track what shoppers remove from the shelves – could be a sign of things to come). This process, where automation drives both the disappearance of some low-skilled jobs and the creation of new higher-skilled roles across the economy, will affect cities differently depending on their skills base and their productivity (our upcoming Cities Outlook 2018 report will examine these trends in more depth).
As such, cities and firms will have to respond in order to both manage the costs of automation, and to benefit from the new jobs and lower prices it will create. Searching for ways to do this will underpin our research this year on the future of work. But the end result of this particular story may be that over the coming decades supermarkets will have to end up operating a lot more like Wetherspoons in order to survive.
Leave a comment
Agreed: Tesco Express and Sainsbury Local (or whatever they call themselves) DO vary their pricing, even in a single neighbourhood. That may be to exploit different demographics, but even so makes the pricing more nuanced–quilted than this theory makes out; it narrows the gap between them and the Wetherspoon model. But secondly, as one of low income living in an area where incomers have driven up prices of housing beyond the capacity of any of my younger family members to purchase in a lifetime around here (yes, a London borough), why should I pay for the extremely well-to-do in my area by an extra impost on my household costs, specifically in the area of food and household goods?
The market structure is key to understanding the dynamic at work here. UK competition rules do allow (as in the US) some level of price flexing. Where it is restricted relates to the law which says cross-subsidisation between stores is anti competitive.
This means that a large, national chain cannot legally ‘under-price’ products in such a way as an individual store runs at a loss, but is kept going by more profitable stores in the chain. This is very sensible because it prevents chains from driving local traders out of business.
‘Aggressive pricing’ as done by Supermarkets has a direct effect on generating positive consumer surplus, but over time also changes the structure of the market. Cheaper products here also have a resultant effect on employment and wage levels. A small family business operating at the margins – which by definition would mean a living wage for them – will fold against the market power of larger suppliers.
In fact supermarkets do vary prices, and so the premise is a little shaky. They will tend to vary prices on their own brand products however, as agreements with their branded suppliers mean they will not be able to vary the prices of these goods as easily (for example if the a brand has already specified a set price on the packaging.)
‘Basics’ pitta bread in Hove is several times more expensive than ‘basics’ pitta bread in Barnsley, actually.
But the idea of differential pricing by area may be a huge red herring – the major divergence in incomes may not be between Hove and Barnsley, but within Hove. Thus differential pricing would hit the poorest hardest in areas seeing fast income growth. Should we, then, automate the rate of marginal extraction so that an algorithm decides the margin a supermarket makes on a product, second by second? We would lose a lot of existing consumer protections which are useful in that process, probably.
Intresting proposal… however when products number in the tens of thousands it would make it virtually impossible. That is unless the pricing could be changed electronically, rather than shelf edge labelling. Algorithms could be applied to take out the imbalance caused by ultra high earners who distort ‘average wage data.
An alternative may be to reduce price on locally sourced items, taking distance from supplier to store, so agricultural areas which have traditionally low wages, may in fact feed the poorer low wages population. This would also promote local over internationally sourced crops from as far afield as Vietnamese such as broccoli
This would make food in cities more expensive, but most cities have higher rates of pay, particularly London weighted areas.
The impact of AI and robots is not as one sided as many higher skilled jobs are set in cross hairs of programmers across the world.
For the majority of humanity the need for employment may lead us to care based jobs as the only viable income.
Automation targets biggest investment incomes… retail may squeal before it relies the world is many steps ahead.