I realise that oft times my writing style, and the writing on this blog is very “faux academic”. That suits my purposes as I like having the fully described arguments that come from this sort of writing – however, it can also be boring.
In order to help related economic ideas to the common man, I’ve decided to start up a Friday post – a day in the life of an economist. In these posts I will go through everyday things, and discuss how economic ideas can crop up while we are living our daily lives.
Article 1: Panadol and the paradox of winter
After a hard night of drinking tequila shots off a stripper’s stomach, I had a ripper of a headache. So on the slow walk from the strip club to work I decided to pop into the supermarket to find something that would ease the sharp pain in my temple.
Sliding down the isle opposite the fresh fruit and vegetables I spotted a bunch of Panadol™. Although my eyes were hazy from the hefty quantity of whiskey consumed several hours earlier, there was one thing I couldn’t help but notice as I grabbed a 12 pack – the damned pills were on special.
Now, I would usually pass this off as good luck and move along, but this isn’t the first time I’ve come into a supermarket in the middle of winter and seen medication on special. Given that a greater number of people will want various types of medication during winter I knew I’d have to dig a little deeper to figure out why the product was on special.
Deciding that asking the boy packing shelves next to me about the pricing of supermarket products wasn’t the best idea, I knew this was a puzzle I’d have to solve myself. Luckily, although I struggle to open my eyes when I’m hungover there is one thing that doesn’t suffer from a night out on the town – my ability to apply basic economic concepts to every day ideas.
Picking up a bag of chips and a bottle of water, I made my way through the checkout. Sitting myself down outside I began to think of the reasons why a supermarket will lower the price of cold and flu medication during cold and flu season.
The first reason that came to mind is something economists call “cross-subsidisation”. As I illustrated myself by buying chips, when you go into the supermarket to buy something you often use that opportunity to buy other goods. By discounting a product you can get people into the store, and given they are there they will be willing to pay a relatively higher price to buy other things then they would otherwise.
However, I couldn’t shake off that fact that isn’t the only reason. After all it could be due to competition. Rotemberg and Saloner showed that, in some situations, during period of high demand firms will compete more heavily – pushing down prices. Firms do this because of how price “collusion” works. When demand is low, the benefit from screwing over your competitor is low – so collusion is easy to sustain. When demand is high, the benefit is high – so firms go for it. But when all firms go for it, it leads to a price war, driving down prices for the lot of them.
Also, we don’t really need to think of these direct sort of competition issues to get an answer. We also need to think about how consumer demand is different in winter than it is in summer. It isn’t as simple as saying “demand is higher”.
For example, there might be two types of consumers, one type that buys pain relief during winter and summer for kicks and values it highly, and another type that does not value it in summer at all but does value it by some, lower, amount in winter. In this case, a supermarket wants to have a higher price in winter than in summer.
Essentially, there are a bunch of consumers who always want to buy Panadol™ and their demand is “inelastic” – so the firm can charge them a whole bunch. There are another bunch of consumers who turn up in winter, but their demand is “elastic” implying that they need lowish prices to be conjuled into purchasing. As a supermarket can’t price discriminate this leads to lower prices in winter.
Hell, it could even be the case that supermarkets stocked up on medication on the basis that they expected demand of a certain level – but then people just didn’t get as sick, and now they have a bunch of stock to flog off.
Having satisfied myself that there are a plethora of reasons why the supermarket may have discounted these pills, well four reasons, I felt happy to knock a couple back. Now armed with the pain relief of medication and the satisfaction of understanding supermarket pricing I decide trundle my way to the office.