The NYT has a great article on the state of promotion pricing in retail. JC Penney is trying to get “off the drug” of discounting and promotion, and is seeing the expected sales losses in doing so. However, the article misses the game theory effects that are emerging among retailers in the space. The dynamics are such that they’ve set up a perfect Prisoner’s Dilemma, and predictably, all are losing.
The conditions of a Prisoner’s Dilemma game are satisfied:
All could win if they cooperate: As the article mentions, JC Penney is virtually eliminating their discount and promotion. If other retailers were to do the same immediately, all would regain lost profits and reduce competition, though it would quickly become a “new normal.” This of course is the global optimal solution, but is rarely the outcome of competitive marketplaces.
If any one player tries to go optimize, the incentive to defect increases: Competitors who continue to discount now have an advantage over JCP in that they can continue to attract promo-focused customers. By cooperating with JCP they only stand to give that advantage away.
So where will it land? Consensus around our office is that JCP will blink and return to promotion and discounting, and the whole system will return to the mania around deep discounting and high-low pricing.