In the past year, the most fundamental of the 4 Ps of marketing—price—has rapidly risen to prominence.
In a way, that is an inevitable outcome of the recent media focus on macro factors that determine the economics of demand and supply—inflation, employment, and income, to name a few.
Not surprisingly, as the consumer price index flutters up and down, all eyes focus on commodity prices. So how much impact do commodity prices have on retail prices? And on product managers' pricing strategy?
The relationship between commodity prices and retail prices follows a simultaneous feedback loop. Although in the short term retail-price changes lag commodity-price changes, in the long run they can also drive commodity-price changes.
For instance, retail gas prices respond to short-term changes in crude-oil prices: Disruptions in crude oil supply cause crude-oil prices go up, resulting in a corresponding spike in pump prices. In the long run, however, as inflation and slowing economies decrease demand, the commodity prices could dip to adjust for lower demand levels.
To further complicate matters, commodity prices are heavily driven by short-term expectations and market news, and are determined by trading on financial markets; retail prices, however, are less prone to react to market news and are determined by actual demand-supply economics.
The US Department of Agriculture (USDA) has provided some insight into the relationship between input costs and food retail prices that helps us better understand how commodity prices drive retail prices. Specifically for food prices, the USDA suggests that the following factors determine that relationship:
- The share of the input costs in the total production cost
- The availability of substitutes in the food-production process (e.g., sugar vs. high-fructose corn syrup)
- The availability of consumption substitutes, which results in demand substitution and a weaker relationship between the two
- Short-term vs. long-term commodity-price changes
One would expect the first factor listed above to be the most-immediate driver, since products with a greater share of input costs in the retail-price formula would react the fastest to changes in commodity prices.