How is the Chicago snowstorm of 1967 like the arrival of the Sony PlayStation3? In “Capitalism and Greed,“economist James Doti tells a story from his graduate school days. Snowbound in a blizzard, trucks could not get into the inner city to deliver supplies to grocery stores for nearly a week. One grocer’s solution not only kept his customers in supplies, he did it without lines, rationing, or fisticuffs. Hint: it’s all about price; more specifically, about price elasticity of demand.
If electronics retailers had been as clever as the Chicago grocer, the introduction of Sony’s PS3 would have been smoother. As it is, consumers experienced waiting ‘pain and suffering’ as a proxy for the grocer’s solution. It worked, but if retailers could have charged customers something closer to their highest demand price, opening sales would have been less chaotic. Instead, consumers raised the price of the PS3’s themselves. More on this shortly.
The question for consumers of a just-released product is this: is: how much are you willing to pay for a hot new gaming system on the same day that it’s released to the market? What about in a few weeks, a few months, or next Christmas? Thousands of consumers were weighing in on this when they made their decision to set up camp in front of Wal-Mart, Best Buy, and other retailers leading up to Sony’s PS3 market debut at midnight on Nov. 16th.
Why would consumers stand in line for nearly a week for a gaming toy? They knew what others knew—that the manufacturer’s suggested retail price of the PS3 would not discourage enough consumers from showing up early to buy the first units. Some consumers expected first-day disappointment, or perhaps missing the whole Christmas season, if they didn’t expend heroic, even life-threatening effort to obtain the new ‘toy’. The general rule in economics is that the more urgently people want something, within their ability to pay, the higher the price they will be willing to pay to get it.
A number of factors determine what one is willing to pay, including the percent of your budget the purchase requires, the time frame for completing your purchase, and the availability of good substitutes. With a new technology, and Christmas in view this month, time is essential in the PS3 calculation. Consumers wanting it most urgently clearly paid the highest demand prices. Later purchasers, who still paid a premium at auction, watched the ‘flip’ prices fall dramatically in a matter of hours and days.
Why do these secondary auction markets exist? Aren’t they just exploiting parents and would-be purchasers of the item—ones who are willing to pay the store price, but expect to be able to just walk into the store and make their purchase? The answer is, of course, no. There’s no exploitation here. These auction markets have to exist, or consumers will find another less civilized way to ‘get to the front of the line.’ We know this because the manufacturer’s suggested retail price for PS3 is too low to allow for ‘market clearing’—a smooth match between the number of buyers seeking the system, and the number of systems available on shelves.
As in the snowstorm story, temporarily high prices serve a valuable and necessary function—to eliminate marginal buyers. If the item is in short supply relative to demand, those less urgently wanting it must be induced to get out of the market, at least in the short run. Other examples where the same market-clearing mechanism operates: tickets to sports and arts events, and new model year autos. These markets ‘clear’ because some consumers are willing to add dollar premiums and other kinds of payments to the price they pay. Thus, tickets and PS3’s both get scalped, and auto dealers may add on extra fees to favorite models, colors, and destinations for certain cars.
A few enterprising souls found creative ways to accomplish the days-long wait in lines for the PS3, and television’s South Park parodied consumer anticipation of another gaming console.
What about day two, and beyond? Once purchased, some hard-won PlayStaion3 systems were offered immediately on E-Bay and Amazon. (It appears that some purchasers are even keeping the machines to play with. Go figure.)