Sticky Prices

Posted in Finance, Accounting and Economics Terms, Total Reads: 731

Definition: Sticky Prices

Stickiness is a qualifier that can be applied to any economic term to indicate that it is constant over a period of time irrespective of the changes in the macro economic variables around it.

Hence prices of goods and services are deemed as sticky if they do not change when the demand for them fluctuates or the cost of inputs change. Sticky prices can be either ways: Upwards and Downwards.

For example:

Sticky Downward: This happens when prices do not drop even though the macro variables indicate that it should. For Example: In a monopoly there exists no competition as a result of which there is no incentive for a firm to reduce the prices of its goods and service. So even when the production costs go down the firm is unwilling to reduce its price. Alternatively a reduction in demand would make the firm cut down on production rather than touch its price

Sticky Upward: This happens when prices do not go upward even though they are expected to as may be indicated by the macro variables. This could happen due to competition in the market as each competitor lowers its price to match the price of its competitors and have a significant share of the market. It could also result from artificial price controls exercised by regulating authorities that prevent prices from going up.

Sometimes the process of price discovery and communication is costlier than the gains accrued through a new price in which case also the prices remain sticky (upward or downward). This is known as the menu card effect indicating that the cost of printing a menu card is higher than the profits accrued by the new set of prices.


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