What Are Menu Costs?

Menu costs are a type of transaction cost incurred by firms when they change their prices. Menu costs are one microeconomic explanation offered by 澳洲幸运5官方开奖结果体彩网:New Keynesian economists for macroeconomic 澳洲幸运5官方开奖结果体彩网:price-stickiness, which may cause an economy to fail to ad🌄just to changing mac🅘roeconomic conditions.

Understanding Menu Costs

Menu costs are the costs incurred by a business when it changes the prices it offers to its customers. A classic example is a restaurant that has to physically print new menus when it changes the prices of ܫits dishes.

The main takeaway from menu costs is that some prices are sticky. That is, firms are hesitant to change their prices until there is a sufficient disparity between the firm's 澳洲幸运5官方开奖结果体彩网:current price and the 澳洲幸运5官方开奖结果体彩网:equilibrium market price to ju💛stify the expense of incurring the menu cost.

For exampl🍒e, a restaurant should not change its prices until the price change will resul🐼t in sufficient additional revenue to cover the cost of printing new menus. In practice, however, it may be difficult to determine the equilibrium market price or to account for all menu costs, so it is hard for firms and consumers to behave precisely in this manner.

History of the Menu Costs Concept

The concept of menu costs was originally introduced by economists Eytan Sheshinski and Yoram Weiss in 1977. Sheshinski and Yoram argued that in an 澳洲幸运5官方开奖结果体彩网:inflationary environment, the prices firms charge will not rise continuously but in repeated, discrete jumps that occur when the expected increase in revenue justifies incurring the fixed cost of changing the price.

New Keynesian economists later applied the argument as a general theory of 澳洲幸运5官方开奖结果体彩网:nominal price rigidity. Economists used it as an explanation for price-stickiness and its role in propagating 澳洲幸运5官方开奖结果体彩网:macroeconomic fluctuations. The most direct application was a 1985 paper by Gregory Mankiw, who argued that even small menu costs could produce enough price rigidity to have a major macroeconomic impact.

George Akerlof and Janet Yellen put forward the idea that firms will not want to change their prices due to 澳洲幸运5官方开奖结果体彩网:bounded rationality, unless the benefit is more than a small amount. This bounded rationality leads to inertia in nominal prices and wages, which can cause output to fluctuate at constant nominal prices and wages.

The Influence of Menu Costs on Industry

When menu costs are high in an industry, price adjustments are usually infrequent. They generally only occur when the 澳洲幸运5官方开奖结果体彩网:profit margin begins to erode to a point where avoiding menu costs results🔜 in a greater amount of lost revenue.

How expensive꧋ it is to change prices depends on the type of firm and the tไechnology in use. For example, it may be necessary to reprint menus, update price lists, contact a distribution and sales network, or manually re-tag merchandise on the shelf. Even when there are few apparent menu costs, changing prices may make customers apprehensive about buying at the new price. This purchasing hesitancy can result in a subtle type of menu cost in terms of lost potential sales.

Menu costs may be small in some industries, but there is often sufficient friction and cost at scale to exert influence on the business decision of whether to reprice or not. In a 1997 study, store-level data from five multi-store supermarket chains was examined to directly measure menu costs. The study found that menu costs per store averaged more than 35% of 澳洲幸运5官方开奖结果体彩网:net profit margins. This means that the profitability of items needed to drop more than 35% to justify updating the final price of the items.

The authors argued that menu costs may cause considerable nominal rigidity in other industries or markets—essentially, a ripple effect through suppliers and distributors—thus, amplifying their effects on the industry as a whole.

Industry Pricing Factors

Menu costs vary widely by region and industry. This can be due to 🅰local regulations, which may require a separate price tag on each item, thus increasing menu costs. Alternatively, there may be relatively few fixed contract su🐎ppliers, so there are fewer limitations on price adjustment.

There are also variations on the speed of price limitations. For example, 💟digitaꦗlly managed and sold inventories have marginal menu costs, and updates to pricing can be made globally with a few clicks.

In general, high menu costs mean tha🅷t prices are generally not updated until they must be.ඣ For many goods, the adjustment is usually up. When input costs drop, the marketers of a product tend to pocket the extra margin until competition forces them to reprice. This is usually done through promotional discounting rather than true price adjustment.

Examples of Menu Costs

Sticky prices exist when prices do not react or are slow to react to changes in demand or production costs. Food prices in grocery stores tend to be sticky, at least for a time. For instance, if the price of tomatoes plummets, Chef Bo🌞yardee would more than likely not lower its prices, even though the input costs decreased. Instead, the food company would simply take the greater margin as profit. In this example, consumers notice no difference in price, even though it should have been lowered according to the classic laws of supply and demand.

This works the other way around, too. Olive Garden is unlikely to hike up its pasta prices if the price of one ingredient goes up. Other examples of sticky prices are hair cuts; health care; and entertainment items, such as books and movie tickets.

The Bottom Line

Menu costs are the costs a business must pay when it changes its prices. This can include the literal costs of printing new menus or price tags, as well as the market research incurred in determining what new price the market will bear. When menu costs are high, prices are slower to change, potentially cutting into a company's profit margins.