Saturday, October 19, 2013

Administered Pricing in the United Kingdom

There are two recent surveys of price setting and price rigidity in the UK: Greenslade and Parker (2012) and Hall, Walsh, and Yates (2000).

Greenslade and Parker (2012) report the following:
“The latest UK survey asked firms how prices were determined. Firms were asked: How are UK prices for your main product or activity primarily determined? The explanation that received the highest proportion of ‘important’ and ‘very important’ responses was that prices were primarily determined by the competitors’ price (68% of firms). The importance of the mark-up over costs form of pricing was seen clearly as well, with variable mark-ups (58%) and constant mark-ups (44%) being the next most accepted explanations. Only 27% of firms accepted the explanation that their prices were primarily determined by customers.” (Greenslade and Parker 2012: F9–F10).
At first sight, this seems strange, but on closer investigation, it must be the case that the category of price setting based on “competitors’ price” (68% of firms) actually involves a considerable number of administered prices, since the profit markup in many administered price markets is determined by the most powerful and productive firms: hence firms would report that their administered price is based on that of their most important competitors.

This is surely the case because cost plus variable or constant mark-up pricing was also reported by a very large percentage of firms as their pricing strategy (58% and 44% respectively).

Also of interest is that Hall et al. (2000: 436–437) found that constant marginal costs (as reported by 53.8% of firms surveyed) and cost-based pricing (47.1%) were the two major reasons reported by firms for why they do not change prices.

Furthermore, if there is a boom in demand which cannot be met from stocks or inventories, most UK firms simply increase overtime of workers (as reported by 62% of firms), hire more workers (12%), or increase capacity (8%), rather than increase the price of their product (12%) (Hall et al. 2000: 442).

Hall et al. (2000: 443) discovered that the New Keynesian idea of menu costs as a fundamental explanation for price stickiness is unsupported by empirical evidence (and was given as a reason by only 7% of firms’ surveyed). That is confirmed by Greenslade and Parker 2012: F12).

Another very interesting empirical question not (as far as I can see) addressed in these surveys is this: what percentage of the labour force is employed in the administered price industries and businesses?

I would suspect it is quite high, simply because most flexprice markets like primary commodities, mining and agriculture* employ a small percentage of the labour force in virtually every industrialised nation. In the UK, for example, agriculture employs just 1.4% of the labour force, while most people work in services (80.4%) and then industry (18.2%) (as estimated in 2006). According to data from the Eurozone, about 50% of service industry prices are straightforwardly administered prices (Fabiani et al. 2006: 18, Table 4) and a higher percentage of goods prices: it follows, then, that much employment is located in administered price sectors.

The higher the percentage of people employed in the administered price sector is, the more it is the case that the level of employment and unemployment in a modern market economy is a function of the demand for labour from administered price businesses – a fundamental sector where aggregate demand drives employment and output, exactly as Keynesian theory tells us.

* Of course I do not deny that many agricultural prices are set by commodity stabilisation programs and government interventions.

Fabiani, S., M. Druant, I. Hernando, C. Kwapil, B. Landau, C. Loupias, F. Martins, T. Mathä, R. Sabbatini, H. Stahl and A. Stokman. 2006. “What Firms’ Surveys tell us about Price-Setting Behavior in the Euro Area,” International Journal of Central Banking 2.3: 3–47.

Greenslade, Jennifer V. and Miles Parker. 2012. “New Insights into Price-Setting Behaviour in the UK: Introduction and Survey Results,” Economic Journal 122.558: F1–F15.

Hall, S., Walsh, M. and A. Yates. 2000. “Are UK Companies’
Prices Sticky?,” Oxford Economic Papers 52.3: 425–446.


  1. I wonder if the exact form of administered pricing matters; there are companies (in my humble experience) that just passively set a markup, perhaps based on some convoluted commercial policy for their vendors and customers, and there are companies where the engineers are just given some target price ("We have to roll out a $100 phone, and it most have features A, B, C and D) and then they figure out what to buy and what to do to squeeze into some acceptable profit margin.
    Perhaps I need to read some of the literature you write about.

  2. These surveys do not appear to ask the fundamental question: what percentage of firms view their pricing strategy as lining up marginal revenue and marginal cost?

    And further, what percentage that those who answer in the affirmative have received economics training? Finally, how well do the companies that see themselves as setting prices in line with MR=MC fare against their competitors? Is there reason to assume that they outperform?

    These are the questions that need to b asked to test marginal theory properly. I believe that I could give a fairly accurate forecast of the answers.