The Arbitrary Pricing of Branded Products

Yesterday’s NY Times ran a story in Thursday Style called “Dress for Less and Less.” The article’s premise is that, despite rising prices for food and gasoline, the cost of clothing has gone down. As examples, the author, Eric Wilson, cites Levi 501 jeans that were $50 in 1998 and are $46 2008 and Lacoste polo shirts that went from $95 to $75 in the same time period.

It is difficult to take such a story seriously. All the products mentioned are highly branded, in most cases high-end or designer goods (Vuitton, Ralph Lauren, Brooks Brothers), and quite expensive. Most middle class shoppers will not be paying $325 for a DVF wrap dress, and I have never paid even half of $75 for a polo shirt. But the interesting question is why? Why have these clothing prices come down? Wilson gives two explanations:

Over all, apparel prices have gone down primarily because of two factors: the overwhelming movement of manufacturing to countries with cheaper labor, where the clothes are made, and increased competition between traditional retailers and discounters, where the clothes are sold.

The outsourcing of jobs provides savings for all clothing manufacturers, and the article does not assert that discount prices have moved down to a similar degree. So the answer is price competition. Cheaper non-branded goods are being offered by discounters, and, in some cases, discounters are selling the same items for less. The elasticity of price for these more expensive products reveals the premium we pay for brand name goods and how arbitrarily manufacturers and retailers set their prices. Despite somewhat lower prices today, we can assume these branded items are still profitable—else they would not be sold. The profits are just a little smaller than they used to be.

The Psychology of Netflix

The spending response is strongly affected by two variables: effort and time. The Netflix system of DVD rental by mail has succeeded by reducing both. Before Netflix, renting a movie required a trip to the video rental store, which took both time and effort. Ordering online meant that by planning ahead you could always have a movie on hand, so you could watch a movie without going out to get it. Furthermore, Netflix’s enormous selection and sophisticated searching and recommendation system make it much more likely you will find movies you really want to see.

The one drawback of the Netflix system is that you cannot be completely impulsive. The movies you order come in the mail, so at very least, your viewing selection must take place a day or two before you watch. You have to plan ahead. Finally, even if you have one of the Netflix plans that allows you to have several movies on hand at a time, a serious weekend movie binge can burn through your stack of DVDs, forcing you to wait until the postal service has time to replenished your supply.

So Netflix is an incompletely impulsive indulgence. You cannot make a movie choice on a whim, click, and immediately start watching, but several companies have been working on this “problem,” wrestling with various technical hurdles in an effort to provide their customers with unfettered indulgence. Yesterday, the NY Times reported that Netflix will now offer a $100 box that will connect to your television and allow downloading of good quality movies over the internet. You use your computer to do the ordering, but you watch the movie on your TV. For those who use it, almost complete impulsivity will be possible. If a friend tells you that you should see a particular film you have never seen before, you can begin watching it in a matter of seconds. Furthermore, once you have purchased the box, you will be able to view as many movies as you want without extra charge. The service will be a free feature of your Netflix subscription and there is no limit to the number of movies you can watch. So, although the thought of the ultimate couch potato, endless weekend movie binge is a bit worrisome, it will now be possible. No need to get out of your pajamas.

For Netflix, the advantage of this system is protection against losing customers to Apple or Tivo, but the effect of this innovation (do we call this progress?) on the consumer will be more movie-watching. The pause in the action created by the postal system will be stripped away, and impulsive and completely uninhibited movie indulgence will be possible. Is this a good thing? Yes and no.

Media Packaging of Good and Bad Economic News

No matter how bad it gets, there are always experts out there willing to put an upbeat spin on the economy, and the media seems to have a bias in favor of positive economic news. In local news, “if it bleeds, it leads” is the defining rule, but when it comes to economic news, we always want to hear that things will be just fine.

Today the CNN webpage is running an Associated Press article with the headline “Economists see credit crisis nearing end,” a happy thought, indeed, but the first paragraph is much less cheery:

WASHINGTON (AP) -- First the good news: The worst of the painful housing slump and the credit crunch might come to an end this year. Now the bad: The economy will weaken further and unemployment will rise.

Like this passage, much of what follows in the article, based on a report from the National Association for Business Economics, is just as mixed. Again, the more optimistic view of the “credit crunch” is really a statement aimed at investors and business people hoping to find money to borrow. There is no “credit crunch” for everyday folks. Instead, there is a debt crunch, and the article predicts increasing unemployment and, to make matters worse, reports that economists are uncertainty about whether housing prices will hit bottom by the end of the year.

The real world for most consumers is hinted at in a paragraph added at the bottom of the article. CNN’s “ireport” team makes the following appeal:

Are you buried under a pile of debt and need help getting out? Did you recently manage to pull yourself out of debt and want to share your story? Tell us about your experience with debt and how the current credit crisis is affecting you. Send us your photos and videos, or email us to share your story.

Personal debt is still a hot story line because there is so much of it out there, but it would be nice to put a happy spin on a dismal circumstance. So please send us a few success stories.

Consumer Choice: Dumping Starbucks and Whole Foods

As people begin to feel pinched, it is interesting to see how the retail economy is affected. Where are consumers cutting back and—equally as interesting—where are they not? Earlier in the month we heard that Starbucks had experienced a 21% drop in earnings. If there is a single suggestion that personal finance advisors give so often that it has become laughably hackneyed it is to stop buying coffee at Startbucks. “Those latte grandes add up.” Well, it would appear that someone has been listening. Many other coffee options are available, and even without going so far as to brew coffee at home, the caffeine addict can easily steer clear of Starbucks and find cheaper beverages nearby. Demand for Starbucks coffee is highly elastic. Similarly, Whole Foods is experiencing a significant slump. When the going gets tough, higher-priced organic foods look like a luxury.

On the other hand, discounters are doing quite well. Walmart and TJMaxx are expected to show very good earnings. All of this points to a shift in consumer choice that provides clear evidence of an economic down-turn.

Humor: From The New Yorker

Continuing Mortgage Woes

The stock market may be leveling out for now, but as the New York Times reports today real estate prices continue to plummet. Now there are new concerns about mortgage backers Fannie Mae and Freddie Mac. These corporations were created by Congress but are privately owned, and in recent months they have been providing some stability to the shaky mortgage market. Now there are new concerns that Fannie and Freddie do not have enough cash on hand to secure their investments and have been using questionable accounting practices in an effort to satisfy shareholders.

Because Fannie Mae and Freddie Mac are independent of the government, no taxpayer funds are currently obligated in any collapse of these institutions, but given their importance in the mortgage market, it is unlikely the Fed would just stand by. As Charles Duhigg, author of the Times article, put it: “ if Fannie or Freddie fail, taxpayers would probably have to bail them out at a staggering cost.” That phrase “staggering cost” is more than a bit worrisome. The graphic accompanying the Times article (see below) shows that Fannie Mae’s liabilities alone include $2.1 trillion dollars in mortgage guarantees and another $800 billion in outstanding debt. Freddie Mac holdings are similar. Yikes!

So, we are not out of the woods yet, and other shoes may drop before the subprime mess bottoms out.

Today in Krugman

Today Paul Krugman sums up the current state of the financial markets in a column called “Success Breeds Failure.” He attributes the recent market panic to the introduction of new financial instruments by institutions that escaped regulation because they managed to avoid being banks. Operating in a new frontier, these institutions took great risks, and when things began to come apart at Bear Stearns, Fed Chairman Ben Bernanke was forced to act quickly.

Krugman praises Bernanke’s response to Bear Stearns and credits him for what appears to be the current stabilization of the market. But Krugman also worries that the motivation for much needed regulatory oversight has ebbed away with the crisis and that, as a result, the next debacle will be much worse. Krugman is undoubtedly correct. We seem to live in a political-financial world that responds only to today’s financial drama, and the financial services industry, believing that everything has worked out OK, is back to vigorously fighting the threat of regulation.

Of course, stabilizing the market is only one part of our current financial problem. Those who are not in the investment class are still losing their homes and jobs in great numbers. Where is the relief for them?

Why is the Fed Attacking Credit Cards Now?

This morning the Washington Post reports that the Federal Reserve, which has previously been reluctant to regulate the credit card industry, has announced plans to eliminate many abuses, such as universal default. Credit card bills have been introduced in both houses of congress and hearings were recently conducted in the House of Representatives. So now federal-level attacks on the industry are coming from three directions.

Why is the Fed taking action (or promising to take action) now? First, consumer anger about credit cards has been building for some time, and the subprime lending crisis has drawn attention to the problem of predatory lending generally. Second, I suspect the Fed is also responding to criticisms that its recent bailout of Bear Stearns was a big, expensive move that served the upper end of the economy—Wall Street investors—and did little for consumers who happen to be really hurting as real estate values plummet, gas prices skyrocket, and a recession looms. So here was an issue that has suddenly become rather uncontroversial, and the promise of action now might polish the Fed’s image with consumers. They might have waited to make this announcement until the end of the year, when the details of the regulations “could be” finalized, but the Fed needs some image enhancement now.

Rep. Carolyn Mahoney (D-NY) expresses considerable skepticism about the seriousness of the Fed’s resolve. She has recently introduced a Credit Card Holders’ Bill of Rights in the House, and she is undoubtedly concerned that the Fed’s actions will take votes away from her bill. Worst case scenario: regulatory bills do not pass through congress, and the Fed’s actions end up being an inadequate response to the problem. A reasonable concern.

What is the least surprising aspect of this story? You guessed it, the credit card companies object.