Most favoured customer status

One of the things that annoys about the neoliberal era is the constant advice to “shop around” for the best deal for services we could once assume were fairly priced, like electricity or banking services. A crucial feature of this is that you can’t do this once and for all.  Loyal customers are routinely punished by being left on unfavourable deals while new customers are offered better terms.

It struck me that we could get substantially better outcomes from markets if all firms were required to extend to existing customers any offer made to new ones.* That would greatly reduce churn and wasteful sales efforts, hopefully leading to a reversal of the increase in retail margins we’ve seen in areas like electricity.

This would be the equivalent of Most Favoured Nation status in trade policy, which ensures that all members of the World Trade Organization receive the same treatment. Interestingly, the Wikipedia article on Most Favoured Nation status refers only to an anti-competitive version of Most Favoured Customer status, where MFC status is extended only to selected customers.

I’m a bit ambivalent about suggesting ways to make neoliberalism work better, especially as it is now in retreat, but I think it will be around for a while yet, so reforming obvious failures seems like a worthwhile idea.

 

 

* I can imagine a case for some limited exemptions, for example, for “try before you buy” deals.

23 thoughts on “Most favoured customer status

  1. It is absurd that wholesale electricity prices are determined by a competitive artificial market but but there is no similar market for retail services and households are supposed to select a retailer. Obviously retailers should be required to provide a minimum level of customer service by law and they would automatically gain as a customer whichever households would have the lowest electricity bill with them. (Or highest credit in a few cases.) Households could opt out and stick with a particular retailer if they wished but by law they would be informed on each bill how much more they were paying as a result.

    Having wholesale prices determined competitively but retail services provided in an anti-competitive way makes no sense.

  2. Most-favoured customer clauses MFCCs are usually seen in the literature (e.g.Besanko et al, Economics of Strategy) as an anti-competitive device not as a way of promoting competition. They only appear to help customers since they make it more costly for a firm to price cut – if you do cut you must pay the rebate to existing customers. Similarly Meet-the-competition clauses (MCC) have the same effect. If you promise to meet the competitors price it becomes more expensive to compete Bertrand.

  3. It’s an absolute nightmare changing banks as you have to go through so much compliance – I can see most giving up in frustration.

  4. harryclarke,
    I’d be most greatful if you could help me out by answring a few questions regarding the Besanko et all paper:
    1. How is the objective of ‘promoting competition’ related to consumer welfare?
    2. How many types of agents are in the model?
    3. How are consumer search costs treated?
    4. Is it a dynamic model with overlapping contract periods for at least 2 consumer contracts?
    5. Is the equilibrium concept a Nash equilibrium and, if so, is a unique solution proven?

    I am asking these questions because it is not obvious to me why a Bertrand model is relevant for the actual case of consumers of electricity in contemporary Australia.

  5. !. Lower prices; 2. many consumers and fewer firms, 3. I think there is perfect info, 4. I can’t think exactly what this means here, 5. a multi stage game I think with prices set now and in the future – with a MFCC suppliers must deliver discounts to customers now if they subsequently discount or, at the same time, if they discount to some they promise to discount to others. Besanko et al. is a textbook used in business schools to teach the economics of strategy. I don’t know much about the electricity market which I assume John was treating as a case – there may well be specific reasons the argument does not work there. But the argument would run that a supplier would face less incentives to discount for some if he had a contract with his customers (perhaps enforced by law) to extend those discounts to all. I think its the same with a Meet the Competition clause (MCC).

  6. In the US, you can often get something close to “most favoured customer” status from the mobile phone oligopolies by getting referred to a “retention” person, which is what happens if you threaten to not renew your phone plan. This tactic also often works with credit cards (e.g., waiving or reducing the annual fee, which you can sometimes get by just asking).

    Here’s an article on market segmentation, which explains why “most favoured customer” isn’t going to happen: https://www.joelonsoftware.com/2004/12/15/camels-and-rubber-duckies/

  7. Few things annoy me more than the bald claim that markets are efficient. It’s too much of a generalisation. There are key questions. What kinds of markets? Efficient at what?

    What kind of markets? There are goods markets, services markets, stock markets, finance markets, insurance markets, labour markets, advertising markets, unregulated markets, regulated markets, semi-regulated markets, markets for luxury goods, discretionary goods, necessities, markets with negative externalities, monopoly markets, monopsonies, subsidised markets, markets in legal goods, markets in illegal goods, black markets and so on.

    Now, I will get a little sarcastic.

    Efficient at what? At making people too fat? At wasting resources? At creating climate change? At killing the barrier reef? At killing half of the world’s species since 1970? At creating extreme inequality? At buying politicians? These are all features of so-called unregulated neoliberal markets which rather are markets regulated in a particular fashion suited to the concentration of income and wealth into the ends of fewer and fewer wealthy persons and corporations and to the ignoring of all negative externalities and environmental damage.

    Current markets are efficient at getting over-weight, over-medicated people into over-size cars. (This is one of many sets of examples and the empirical proof is that these “overs-” have all occurred.) Are they efficient at delivering health, welfare, education and infrastructure? The American health system says not. Australia’s attempts at privatised education says not. The poor state of US infrastructure says not.

  8. We should also ban “lowest price” deals, where you’re given a one time individual discount if you can demonstrate another business charges less for yhe same product. Anti competitive nonsense designed to creat price discrimination.

  9. Thank you Harry for your quick reply. While some questions remain unanswered, I am confident in saying the text you referred to does not address the problem posed in the thread.

    The actual problem concerns the unpaid search time for consumers to ‘shop around’ repeatedly and for many commodities or services. There is a real resource constraint involved; in the limit 24hr – 8hr work – 1 hr or more travelling to and from work – x hrs for personal maintenance (sleeping, cooking, washing, …..) – y hrs – participating in society other than shopping < 0. Something has to give (hence the complaint in the thread). The observable internet search provider services indicates that the real resource constraint is effective. These services, like getting someone to do the laundry for your, are not free of monetary costs, although they are sometimes indirect. Hence the financial constraint, one for each individual, becomes relevant too, unless the income and wealth distribution is equal, which it is not.

    IMHO, one of the underlying issues, of which the current thread is one example, is the treatment of theoretical papers in a business or management degree course versus the treatment of the same papers within a full economics degree; I speak from experience. In the latter such papers would be treated as a technical exercise without any policy or behavioural implications but much discussion regarding the assumed conditions versus the actual. These papers become useful in a broader educational sense. By contrast, and relying on my experience, in a business or management degree course, the emphasis is typically not on analysis but on application as in what to do, sometimes supported by an exceptional case where the assumptions are not too far of from the situation of one business enterprise.
    .

  10. Under MFC, the legal version of the price-match guarantee would be “If anyone can find a better price elsewhere, we will lower our posted price to match it for everyone”. Under perfect information and zero cost, the kind of analysis suggested by Harry would still apply. But if we had perfect information, there would be no need to advertise a guarantee.

  11. One way the MFC argument has been applied is with respect to the Coase conjecture. Thus Coase asserted that a durable goods monopolist would have no monopoly power since consumers, anticipating his proclivity to price discriminate, would not pay more than marginal cost for output. One way out of this for the monopolist is to guarantee a MFC agreement. Then consumers will anticipate that the monopolist will be less inclined to price discriminate because it would cost them too much money and the monopoly price would prevail. The MFC acts as a force preventing competitive prices from prevailing.

  12. Suppose an electricity supplier currently has a policy of supplying cheap electricity to new consumers but charging poorly-informed older consumers a high price. Suppose the government introduces a compulsory MFC. The cost of this policy will be to reduce returns not only on the new customers but the older ones as well. I think the electricity supplier will have reduced incentives to discount to new customers. Moreover the forces to compete against other suppliers are reduced as well. If the supplier tries to undercut another supplier it will again cost them not only reduced returns on the new customers but reduce their returns on existing customers as well. An MFC seems to reduce competitive pressures as well.

  13. Harry, this is exactly right and explains why the notion of competition being used here bears no relationship to perfect competition, and has none of its optimality properties. It’s more like monopolistic competition, with the poorly informed customers being in the same position as the consumers with low elasticity of substitution in the monopolistic competition model. There’s no reason to expect this kind of competition to be efficient, welfare-enhancing or equitable.

    In this context, it’s notable that no one, in ordinary discussion, describes an industry like wheat farming as “competitive”, let alone “fiercely competitive”. Terms like that are reserved for oligopoly industries with product differentiation.

    Shorter version : if it’s bad for competition*, it’s probably good for consumers and society

    * In the ordinary usage of that term.

  14. I know this is trite – but it seems to me that the theory of second best covers this – stop wasting our time trying to create little islands of more “perfect competition” when the first principles are non existent.
    There is no perfect solution only winners and losers from the current balls up. Now its a political question as to who do we favour with our regulation.
    Now fix the political system and we’ve got it made.

  15. Well at least nobody (outside of economics courses) believes in neo-liberalism anymore – the LNP clearly don’t, the IPA don’t. We are just left with the pointless time-wasting dross of it.

  16. I have banked with what I thought was a credit union for the past 30 years, believing it would always act in the members’ interests and I would not be subject to the rapacious practices of the profit-maximizing banks. For a long time, my mortgage rate was automatically adjusted soon after the Reserve Bank announced a change in the official rate, and I was duly informed in a letter. Recently I discovered by chance that, as interest rates had declined, the credit union was offering new customers a much lower rate while my rate had been left unchanged. I had to apply for a better rate, making empty threats to take my business elsewhere to get my rate lowered to somewhere near the new customer rate. This I think illustrates the points being made above about the transaction costs incurred by consumers in a supposedly competitive market. Does it also suggest that, under market liberalism, even cooperative-type institutions based on people helping people are inevitably squeezed into the corporate capitalist mould?

  17. Even credit unions have to maintain a level of revenue to offset the costs of doing business. There is all sorts of compliance levelled at financial industry and small credit unions have been swallowed up as the costs of compliance are too great to be shared amongst their customers. I think that after this RC there will be more restrictions making it less competitive.

  18. I genuinely don’t get this constant abuse of the term “neoliberalism”. The most neoliberal state on the planet is Denmark. Here Labour flexibility means you can sack people with less than a weeks notice without need for justification. The social insurance system then kicks in to provide, admittedly from memory of A-Kasse, 85% of the wage for 12 months. Here we have market forces underpinned and structured by a strong state…the very definition of neoliberalism.

  19. Andrew

    That’s all very well, but we’ve all seen those Danish television shows and films. Beneath the surface of the egalitarianism, tolerance, renewable energy and bicycles lies a deeply dysfunctional and troubled society.

  20. The government wants a “reference price” to be put in place so that consumers can evaluate whether the price they are paying for electricity is a fair deal or whether it reflects a “loyalty bonus” to poorly-informed older customers. It was a bit ambiguous in the press but it seems to big electricity suppliers favor such a reference price. The latter would not surprise me.

    My guess is that clarifying whether you are paying too much for your electricity might have the same effect as an MFC. It raises the costs of offering discounts since it will then be more transparent whether customers who inspect such discounts are being ripped off or not. Hence there may be reduced incentives to discount and increased incentives to price close to the reference price. If a reference price is established this encourages collusion.

    https://www.smh.com.au/politics/federal/elephant-in-room-power-retailers-unable-to-talk-prices-at-summit-20181107-p50ej8.html

  21. Ikonoclast, when teaching basic economic theory to people trained in other social sciences and consequently hostile to the framework (part of the inhouse training that I gave in my last job) I always made the point that if markets were efficient then market theory would be both intellectually uninteresting (nothing to study after first year price theory) and practically useless (nothing to improve). In fact its not too much of a stretch to define eonomics as the study of market failure.

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