Fictitious promotions work because people love to feel like they got a deal.
In one common type of fictitious promotions, a retailer raises the price of an item just before a sale and then “promotes” the product by claiming the original price is now the sales price. The Wall Street Journal article entitled “The Dirty Secret of Black Friday Discounts” claims most retail discounts are not actually discounts: “big retailers work backward with their suppliers to set starting prices that, after all the markdowns, will yield the profit margins they want.” As proof of this phenomena, the WSJ showed the number of deals offered by 31 stores increased 63% over 3 years while the average discount increased from 25% to 36%, but gross margins remained flat at 27.9%.
This deception is called “fictitious reference pricing.” The practice became common after the US Federal Trade Commission (FTC) stopped enforcing its own rules in the 1970s. The FTC assumed competition between firms and informed consumers would limit this dishonest behavior.
However, research has shown competing firms actually are incented to post fictitious reference prices because, not only due they increase sales, but they also reduce the likelihood firms get into price competition which would drive down prices. As a market becomes more competitive, the fictitious reference prices become more common – directly contradicting one of the FTC’s reasons for no longer enforcing its reference pricing rules.
What’s a solution to this deceptive practice?
One approach is require retailers to disclose the True Normal Price (TNP) – the “most consistent price during the most recent business period” before the current promotion. For example, currently the advertisement for a sofa might display a sale price of $599 and an original price of $1099, leading customers to think it was an incredible deal. With TNP, the retailer would add a disclosure which might read: “Legal disclosure: In the past six months, customers paid an average price of $621 for this item at this store.”
Researchers tested the impact of disclosing the true natural price on 900 participants. Some participants were shown a sales price and a false reference price for a desirable item; others were also shown the TNP which was only a little higher than the sales price. Not surprisingly, participants who saw the TNP and therefore could evaluate the true size of the discount were less interested in buying the item.
Without regulation, it’s highly unlikely any retailer would agree to displaying the true natural price. It would put them in a disadvantage to other retailers and hurt their sales.
So, whenever you buy something on promotion, be careful and do some extra research. After all, fictitious promotions work.
Your article made me look more into TNP and find that it might actually stand for True Normal Price. Also, it seems these are real promotions based on fictitious (higher) reference prices OR even differing (lower) quality products. According to web sources, fictitious reference pricing is illegal in many states, including California, and all we have to do (not due) is litigate. Thanks for making me think.
Thanks Mike for pointing out my typo. I’ve fixed it.
As far as it being illegal, it is -/ only the FTC isn’t enforcing it anymore
The “father of capitalism” Adam Smith was keenly aware that companies would rather not compete honestly if they had any alternative: “People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices.”
But as you note, the US has not enforced rules against anticompetitive behavior for some time. Here in Europe, deceptive behavior is taken more seriously:
“Since the aim of the European Directive is to protect consumers, false Promotions are now prohibited. The seller must therefore indicate the price of the product before applying a discount. This previous price shown must be the lowest price charged by the seller in the last 30 days prior to the discount. In the case of successive price reductions, the previous price displayed shall be that applied before the first reduction was applied. This measure applies to all price reduction advertisements, whether they are made online or in stores.
This unfair commercial practice can be punished with two years in prison and a €300,000 fine.”
https://www.service-public.fr/particuliers/actualites/A15721?lang=en
The same legislation also limits the effects of deeply unpopular “junk fees”, which have to be clearly shown at the start of a purchase rather than only at the end.
https://europa.eu/youreurope/citizens/consumers/unfair-treatment/unfair-pricing/index_en.htm
What about retailers that claim every day low prices?
They may still “promote” by comparing their prices to other retailers but cherry picking the competitors highest prices rather than their lowest. It’s still fictitious reference pricing.
Sorry for just “discovering” this site and therefore being well late to the party. This post reminded me of my first job at Leggett department store. Our store was promoting Tommy Hilfiger, and all the latest items were marked down an amazing 50 percent! I remember asking our buyer how this was even possible since we would surely lose money. She replied that not only were we never going to sell that clothing for the non-sale price, but also that the store bought the items for about one quarter of the sale price. It was a rather eye-opening event for a 17-year-old, but one I’ve carried with me ever since.