Why not double the price?
Tim Harford offers an interesting analysis of the great XBox shortage of 2005. They are selling for $300, except that they are not selling because there is a massive shortage. He asks the question: why doesn't Microsoft raise the price to $700 or more in order to clear the market, since that's the price they are selling for on Ebay?
This is an interesting question but the answer can't come from theory. It comes from experience. Retailers are loath to raise prices because doing so fosters ill-will among customers that can do long-term damage to a company. People like to think of prices as reflecting something close to a cost-plus level. Doubling them discredits that perception. It seems like a racket, even if you understand the rationale. To the extent that people feel happy about a sale, they are similarly angered by an anti-sale, unless there is some darn good reason for the increase (inflation, crisis, etc.). That the company can extract more money from people because their product is in high demand is just not seen as a good enough reason.
The culture of the bazaar only works in some places and times, and even in these cultures, posted prices come with economic development. And to answer Harford's objection to his idea--that Microsoft is already suffering bad PR from the shortage--we can observe that some bad PR is worse than others. Imagine you hire a guy to mow your yard, and his services become popular. Which would you rather him say: "My price is doubled" or "business is booming, so I can't get to it for a few days." You might end up hiring someone else at a higher price but your good will toward the first supplier is preserved.
Comments (10)
iceberg
Someone correct me if I'm wrong, but I've read somewhere that Microsoft anticipated the shortage, and in fact wanted it to happen, so that it could generate a marketing buzz thru the media reporting of XBox holiday shortages, and so it actively fostered that outset by shipping fewer units than their sales projection, with the hope that when people hear that the xbox's are selling out like hotcakes everywhere, they will try to go see what its all about, versus the outcome of shipping enough units to satisfy the demand, and thus not generate the same media buzz.
Is this a theory fit for the tabloids, or was it a shrewdly executed marketing plan?
Published: December 19, 2005 11:25 AM
J. H. Huebert
It irritates me to no end when professional economists writing for a popular audience (e.g. Harford, Lansburg, Cowen) turn everything into some sort of ostensibly inexplicable economic puzzle--when a bit of common sense, such as Mr. Rockwell has shown, is all that is necessary to make matters clear.
Published: December 19, 2005 11:55 AM
zuzu
We should also keep in mind that Microsoft, as a market-diverse corporation (just like, say, Sony/Playstation), almost certainly follows the business model of selling the gaming hardware itself at a loss because a platform's popularity seeds its developer licensing revenue -- which, to quote Mel Brooks in Spaceballs "is where the real money is made!"
aka "You give the razor away and make up the difference selling the blades."
Unlike Free (as in freedom) "general purpose" computing platforms, Microsoft leverages state coercion to extort fees for their permission to develop software on hardware that they've sold (er, "licensed") to customers.
Published: December 19, 2005 11:55 AM
Yancey Ward
I don't know what to make of Harford's article, however, it is all beside the point that Microsoft is free to charge whatever the hell it wants to charge for its property. If one wishes to believe that Microsoft is behaving foolishly, then they are free to do so.
Published: December 19, 2005 12:04 PM
J. H. Huebert
I'm also amused by Mr. Harford's attempt to instruct Microsoft on how to make money:
Next week on "Everyday Economics": Since Tim Harford knows how to maximize Microsoft's profits, why hasn't Microsoft hired him to run their business? Will economists ever figure it out?Published: December 19, 2005 12:06 PM
R. Williams
I've posted about this before elsewhere, but here i go again.
Mircosoft IS actually raising their prices, just in a more stealthy way. There are actually two ratail versions of the xbox 360, one for $100 more than the other. While there are great shortages, like now, they produce much more of the expensive models becuase people will be happy just to be able to find one. Expect to see after there are large inventories that they will be producing more of the "core" systems, which are almost impossible to find right now.
Also, microsoft might want to hld off on ramping up production until they can move to a 65nm process, which will be in the second half of 2006, and cannot be pushed faster. When they move to 65nm costs will be reduced dramatically, and they won't be losing nearly as much.
also, its pretty hard for microsoft to make them any faster, as the 90nm process they are currently on does not allow them to make the CPUs very fast. And given that these are special CPUs, they can't go anywhere eelse to buy them.
Published: December 19, 2005 3:40 PM
perplexed
I agree with Mr. Huebert's first comment, the study of economics is done a great disservice when everything is be presented with long, drawnout, pseudo intellectual answers that are rarely any answer at all. It never seems to be in the service of educating, but rather to illustrate how "brilliant" the commentator is.
It is bad enough that economics is full of useless econometrics, but to add worthless babble disguised as a complex puzzle is to render economics meaningless for 99% of the population.
I could usually deal with a Cowen's foolish verbosity, but after seeing him not recognize Harry Potter as a work of fiction, I have to question everything he has written. Can we add him to the long list of academic economists living under a rock?
For Cowen's comment see: (http://www.marginalrevolution.com/marginalrevolution/2005/12/what_were_the_m.html)
Published: December 19, 2005 4:51 PM
Keith G. Derrick
Concert tickets are another great example of shortages existing, but prices not rising to clear the market. Musicians do not want their audience to perceive them as extracting the most possible money from them.
Take for example the band U2. According to Billboard they are the top grossing act for 2005.
With an average ticket price of roughly $100, some long time fans were still complaining about the high prices. I saw tickets on eBay going for as much as $8000 (and that was just for one ticket). Surely U2 could have raised their ticket prices, but they didn't. Why? Because they didn't want to be perceived as taking advantage of their fans. I'm also sure that "selling out" 90 consecutive shows to more than 3 million people paints the band in a better light than raising the average ticket price to $700 to clear the market.
Mainstream economists are married to their models and miss what is really going on in the economy.
Published: December 19, 2005 6:45 PM
Crosbie
I agree it's probably all down to goodwill. Even if Microsoft can sell Xboxes today for $700, it may have to cut the price to sell the rest of the production run. If Microsoft's customer's come to expect it to cut prices soon after a launch, that could badly hurt all future launches.
Published: December 19, 2005 7:33 PM
Kyle
Is this a result of fundamentally economic factors, or is it a result of consumer mindset?
It seems to me that if consumers in general had more understanding of economics, they would understand, even respect, a doubling of the price to clear the market. The determining factor is the general public's misconception of what profit means.
Published: December 20, 2005 10:24 PM