According to a 2019 Deloitte study, price is still the number 1 consideration for consumer purchases. For retailers, pricing is just as important. According to McKinsey, it’s the one factor that has by far the biggest impact on profits. So what do retailers do to satisfy not only their needs, but also their customers’ needs? If setting the right price is so crucial for both winning customers and making profits, how exactly do retailers set prices? The answer depends on the time period in history that you’re considering.
Barter System (until the mid-19th century*)
If we travel back in time all the way to 9000-6000 BC, we’d discover that neither the concept of stores nor currency exist yet. The “purchase” of goods was completed by trading one product or service for another. In many cases, this meant using animals as a form of payment. Of course, defining the “price” of an item as a certain number of cows and sheep seems unfathomable to us today. Fast forward to 800 BC in ancient Greece, and we’d see merchants selling their products in open-air market squares in exchange for currency – a concept that begins to resemble retail as we know it today.
But while today we are used to visiting a market, walking into a store or browsing an online shop and seeing a clearly labelled price for every item, this was not always the case. For centuries, prices were set by the “barter system”, meaning the price for an item was negotiated between an individual buyer and a seller. This meant that shopkeepers needed to know every possible detail about the products in their stores, including their purchase price, current inventory levels and market demand, and they would need to assess the purchasing power of the customer standing in front of them. Ultimately, the “price” of a product was the final point of agreement in the negotiation process.
*In Western culture. In other regions of the world this system can still be found.
Fixed Pricing & the Price Tag (beginning from the mid-19 century)
Anyone who’s ever been to a bazaar in the Middle East or visited the street markets in Asia, will know that haggling can be a fun and rewarding experience – but clearly also a very time-consuming and somewhat unfair process. Fortunately, this pricing system was replaced by the concept of fixed pricing around the mid-19th century, though there is some discrepancy as to who exactly invented fixed pricing and along with it the price tag.
Some say that the idea of “fixed pricing” – in which the seller chooses a price that is available to all buyers in the market – originated from the Quaker merchants in Philadelphia. The Quakers, a historically Christian denomination, believed that since everyone is equal before God, everyone should be charged the same price. Charging people different amounts for the same item, just because of their appearance, status or haggling ability, was considered immoral.
Credit for the invention of the price tag is often given to John Wanamaker, who in 1861 introduced the price tag in his department store in Philadelphia. Others say the birth of the price tag took place a little earlier, when the Irish-American merchant, Alexander Turney Stewart, opened a store with standardized prices in Brooklyn in 1846. In Europe, on the other hand, the introduction of fixed prices is attributed to French businessman Aristide Boucicaut who implemented price tags in his department store Le Bon Marché in 1855. Contrary to what the Quakers believed, the poor actually found this development rather unjust, as they no longer had the chance to obtain lower prices through hard bargaining.
What’s clear is that with the Industrial Revolution in full swing and with merchants moving from small mom-and-pop stores to chains of department stores with more complex assortments, having fixed prices became a necessity. After all, negotiating the price of every item with every customer, is a highly inefficient process and one that requires store personnel to be well-trained in bartering. Thus, larger department store chains across Europe and the US quickly adopted the fixed pricing system and helped to popularize it.
Automated Dynamic Pricing (from the 1980s until today)
Deciding on the price for a product once, and then applying a price tag in-store, made retail significantly more efficient than in the bartering era. However, efficiency doesn’t always guarantee the highest profits. Profits are maximized when each customer is charged according to his or her willingness to pay. This can be achieved through dynamic pricing – a pricing strategy wherein a business flexibly adjusts prices for a product or service based on current supply and demand.
Dynamic pricing emerged in the 1980s, driven by technological innovations. It was pioneered by the airline industry, who used factors like departure time, destination and season, to automate the prices for flights. Soon other verticals in the tourism industry, like hotels and car rentals, followed suit. More recently, retailers have also adopted dynamic pricing, with online giants like Amazon leading the way.
In some ways dynamic pricing is similar to the barter system from earlier centuries: prices fluctuate depend on current stock levels, time of day, and market demand. The difference is that it’s no longer the shop keeper who makes the pricing decisions, it’s an AI-powered application. And it’s safe to say that no matter how many years of experience a shopkeeper has, they are no match for AI.
How to implement dynamic pricing
As retail has evolved, so too have customer expectations. Customers nowadays want shopping to be a fun experience, they want convenience, and they most definitely want the best price possible! Most retailers blame this development on the rise of e-commerce, which has greatly increased both transparency and choice, meaning customers today are easily able to research prices online and switch to competitors.
So, while in the 80s and 90s implementing dynamic pricing was a choice (albeit a smart choice), it is now increasingly becoming a necessity. Yet for many, it’s implementation remains a mystery. Here is an overview of the steps involved:
- Define the commercial objectives
- Collect data
- Analyze the data
- Calculate the optimal prices
- Implement prices at the POS
At first glance, this may seem like a lot of work (keep in mind that this process has to be done across all products, all stores and sales channels). But with the right tools, it isn’t. The analysis and calculation portion of the process is where machine learning and artificial intelligence come into play. As for implementing prices in stores, this is best achieved by using electronic shelf labels.
While implementing AI-powered dynamic pricing has many advantages – including both increased profits and enhanced efficiency – its implementation is not foolproof. Technological advancements have enhanced retailers’ ability to collect and analyze of data, but the tricky part is gaining consumer acceptance of fluctuating prices. With consumers looking so keenly at prices, as the Deloitte study mentioned above suggests, price changes may irritate some customers. Most probably, the Quakers aren’t the biggest fans of dynamic pricing either. However, as we see it, retailers can take steps to maintain the trust of their consumers. For instance, it’s important that retailers are transparent about how dynamic pricing is applied and that they provide consistent prices throughout one transaction. If retailers adhere to these guidelines, we’re sure that it’s only a matter of time before dynamic pricing finds widescale adoption, just as it already has in other industries such as tourism and hospitality.
For more information on dynamic pricing in retail, download our free E-book “The New Pricing Normal: How dynamic pricing breaks the profitability ceiling in online & offline retail”.