Yesterday, we posted a Q&A with economist and all-around smart guy Steve Landsburg, who addresses a lot of everyday riddles in his writing. Sometime in the next few days, we’ll be posting excerpts from the economist Robert Frank‘s new book The Economic Naturalist. So far, I am loving Frank’s book. It poses a series of questions about small, real-world riddles, most of them asked over the years by his students. The questions are great, and so are the answers.
So, in tribute to the Landsburg/Frank school of everyday questions, let me pass along this e-mail from a reader named Martin Seebach. Maybe you can answer his question:
Every few months I like to take my girlfriend out to a higher-end restaurant and have a nice dinner. While the price of food items seems to be closely related to cost of food in the dish (e.g. , a 12-ounce steak dinner is maybe 30% more expensive than the 6-ounce dinner, not double or more, as both include the same side dishes and sauce), the markup on wine is extremely high, and progressive.
Depending on the place, wine by the bottle has at least a 200% markup, and that markup seems to be constant as the base-cost of the wine rises. This means that I will typically choose the $50 bottle over the $70 bottle, and definitely over the $120 bottle, even though the difference in base cost to the restaurant is maybe only $7 and $25. Had they offered me the bottles at $50, $60 and $75, I might have bought one of the more expensive ones, and (a) made the restaurant a larger profit at almost the exact same cost (not counting the added cost of having the more expensive inventory); and (b) been much happier, drinking the better wine, and more likely to come back.
Am I not seeing something here?
How true do you find Seebach’s observation, and how do you explain it?
I do believe that a high wine price is, to a certain kind of customer, a valuable signal to your dining partner/s that you are (a) knowledgable about something as important as wine; and (b) able and willing to spend a lot of money on something that will (c) impress the partner/s.
If you have any time on your hands, you may want to poke around on this wine economic site, or on this fine wine blog, or, if you’re really bored at work, the Journal of Wine Economics.
UPDATE: Here’s what Frank has to say on the topic, from his book Microeconomics & Behavior:
Similar pricing strategies affect recovery of the costs of variety in virtually every industry. Consider again the restaurant industry. In a city in which most people have cars, which is to say in virtually every city, the cheapest way to provide restaurant meals would be to have a single restaurant with only one item on the menu … But people don’t want the same meal every night, any more than they all want the same kind of car …
How are the extra costs of all this variety apportioned? Most restaurants price the different items on their menus in differing multiples of marginal cost. Alcoholic beverages, desserts, and coffee, in particular, are almost always priced at several times marginal cost, whereas the markup on most entrees is much smaller.
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From a man’s point of view, selecting the wine in a restaurant is like walking through a minefield, at least early in a dating relationship. One mis-step can result in disaster.
Order a wine that’s too inexpensive, and the woman may think you are a cheapskate (“Night Train Express? How wonderfully generous of you!” [end sarcasm]) Order a wine that’s too expensive, and she’ll think you’re just trying to score (“Chateau Lafite-Rothschild? I’ll bet I know what you want for ‘dessert’ tonight, big boy!”) And most of all, you have to avoid sounding like a wine snob (“A full-bodied taste with subtle oak and vanilla undertones, coupled with a robust black cherry aftertaste? How, how creative of you!” [end sarcasm, the repeat]) It’s scarcely worth the trouble.
From a man’s point of view, selecting the wine in a restaurant is like walking through a minefield, at least early in a dating relationship. One mis-step can result in disaster.
Order a wine that’s too inexpensive, and the woman may think you are a cheapskate (“Night Train Express? How wonderfully generous of you!” [end sarcasm]) Order a wine that’s too expensive, and she’ll think you’re just trying to score (“Chateau Lafite-Rothschild? I’ll bet I know what you want for ‘dessert’ tonight, big boy!”) And most of all, you have to avoid sounding like a wine snob (“A full-bodied taste with subtle oak and vanilla undertones, coupled with a robust black cherry aftertaste? How, how creative of you!” [end sarcasm, the repeat]) It’s scarcely worth the trouble.
The markup probably is progressive, although the prices that you suggest ($50, $60 and $70) would in fact lead to a regressive markup. I view this kind of high regressive pricing by the restaurant in two ways:
Firstly, it is a form of price discrimination; people who know about wine or who are well off will go for the more expensive bottles, thereby earning the restaurant more profit due to the progressive markup strategy. This way the markup on cheaper bottles can be lower, and so the restaurant doesn’t deter those who can’t afford expensive wine. We must remember that this restaurant isn’t making gigantic profits every night, it has to cover it’s costs, and one way to do this is price discriminate. If, as you suggest, the markup on wine wasn’t progressive then the restaurant would be in a less efficient situation, not making extra profits from the rich, and losing out from those who can’t afford it!
Secondly, we need to address the high price of wine in relation to food. Why markup wine so much more than food? It seems like some sort of tax on drinking to me. No matter how expensive the food is, people will probably order the same amount (3 courses) and will therefore spend the same amount of time at the table. However, imagine if wine were cheaper, people would most likely drink more of it which would lead to more time drinking, finishing off glasses after the meal and also lengthy table conversations because of drunkenness.
So the high pricing of wine in my view is a very clever profit maximisation strategy! We were indeed missing something.
The markup probably is progressive, although the prices that you suggest ($50, $60 and $70) would in fact lead to a regressive markup. I view this kind of high regressive pricing by the restaurant in two ways:
Firstly, it is a form of price discrimination; people who know about wine or who are well off will go for the more expensive bottles, thereby earning the restaurant more profit due to the progressive markup strategy. This way the markup on cheaper bottles can be lower, and so the restaurant doesn’t deter those who can’t afford expensive wine. We must remember that this restaurant isn’t making gigantic profits every night, it has to cover it’s costs, and one way to do this is price discriminate. If, as you suggest, the markup on wine wasn’t progressive then the restaurant would be in a less efficient situation, not making extra profits from the rich, and losing out from those who can’t afford it!
Secondly, we need to address the high price of wine in relation to food. Why markup wine so much more than food? It seems like some sort of tax on drinking to me. No matter how expensive the food is, people will probably order the same amount (3 courses) and will therefore spend the same amount of time at the table. However, imagine if wine were cheaper, people would most likely drink more of it which would lead to more time drinking, finishing off glasses after the meal and also lengthy table conversations because of drunkenness.
So the high pricing of wine in my view is a very clever profit maximisation strategy! We were indeed missing something.
I recently ate at a restaurant whose wine list provided an explanation for why they were able to offer their wine at low markups. They said that they chose to do without a sommelier and to use inexpensive stemware (not Reidl) so that they could keep their wine more affordable, and so that their customers could enjoy a better bottle of wine with their food. I bought it. I also bought two bottles of wine!
I recently ate at a restaurant whose wine list provided an explanation for why they were able to offer their wine at low markups. They said that they chose to do without a sommelier and to use inexpensive stemware (not Reidl) so that they could keep their wine more affordable, and so that their customers could enjoy a better bottle of wine with their food. I bought it. I also bought two bottles of wine!
The more time a party sits at a table, the less revenue for the restaurant, though. The more expensive the restaurant, the less this may be true, but just recalling my restaurant working days, table turnover was very important. Which is why in your less-classy restaurants, there is an obvious rushed feeling in the service.
The more time a party sits at a table, the less revenue for the restaurant, though. The more expensive the restaurant, the less this may be true, but just recalling my restaurant working days, table turnover was very important. Which is why in your less-classy restaurants, there is an obvious rushed feeling in the service.