The Most Competitive Way to Reduce Binge Drinking

(by Bruce Lyons) The new UK government is proposing to ban below-cost selling of alcohol as a way to address the binge drinking culture amongst some groups of people.  Tesco has responded with a counter-proposal for a minimum price per unit of alcohol, which is also proposed for Scotland by the devolved government.  The UK budget deficit is huge so major spending cuts and tax rises are inevitable, possibly including on alcohol.  Which of these three measures is the best way to use the price system to achieve the government’s aims without substantial anticompetitive side-effects?

Binge drinking is a serious problem in the UK.  A late-night stroll down many a High Street or a glance in at a hospital casualty ward provides all-too-frequent evidence of the harm this does to (mainly) young people and the distress and disturbance it causes to others.  The externalities associated with excessive drunkenness mean that it may be appropriate to intervene in the market.  The question is: how?

Needless to say, there is much to be done through education, socialisation and provision of less harmful diversions.  Other countries have much cheaper alcohol available yet do not face the same level of problem.  Nevertheless, we have probably reached the stage where we need to think about economic incentives as a supplementary kick with a view to shifting behaviour patterns.  This thought is given impetus by the fact that supermarkets use alcohol as a loss-leader to bring footfall into their stores.  The most sure-fire bet of the forthcoming World Cup is that we will have to scramble our trolleys over piles of cheap lager before we can reach the salad and strawberries during the coming weeks. So, what would each of the proposals mean?

Ban on Below-Cost Selling: Supermarket pricing is not straightforward; in particular, it is not typically a fixed mark-up on marginal (or even average) cost.  One reason is that supermarkets are more concerned with the revenue per ‘basket’ of groceries sold than they are with profit on individual products.  Also, for example, Asda does not want to be seen to be undercut by Tesco (or vice versa) on a high-profile product line, yet one may get a better supply price than the other.  Another reason is that supply price (i.e. cost to the supermarket) is typically highly non-linear: various discounts are often attached to the level and growth of sales, special offers and numerous other features of the supply arrangement.   This makes it difficult to determine the ‘cost’ below which the price cannot be set.  The French have experienced such problems with similar legislation, but a sensible method of calculation should still be feasible.  Supermarkets might also worry that if the ban was binding, it would reveal their commercially sensitive supply prices.  It is not clear what this would do to their negotiations with manufacturers.

Minimum Price: Sir Terry Leahy, head of Tesco, has recently gone on record to support a minimum price for alcohol.  This would have two effects.  First, it would set the same minimum price for all sellers, so there would be no revelation about negotiated prices or problem about measuring ‘cost’.  Second, minimum prices could be regulated above ‘cost’.  This would provide a greater demand effect, but it would also give supermarkets higher profits.  It is doubtful whether they are sufficiently competitive for this to induce fully equivalent lower prices on other products.  Promotional activities, including product placement on the shelves, advertising and sponsorship, consequently have a bigger payoff as each extra unit sold becomes so much more profitable.  The result is a switch of competitive strategy to these demand enhancing activities and possibly even higher alcohol consumption despite higher prices.  An effective alcohol-suppression programme should squeeze margins at the same time as raising retail prices.  The obvious way to do this is to raise the tax on alcohol.

Tax Rises: The UK government has also stated that it will ‘review alcohol taxation and pricing to ensure it tackles binge drinking without unfairly penalising responsible drinkers, pubs and important local industries’.  The latter may include farmers who have recently planted new orchards to provide cider apples (cider is still relatively lightly taxed and is the source of some of the lowest priced alcohol).  Nevertheless, as I wrote in connection with minimum tobacco prices, higher taxes have the great benefit that the money goes to taxpayers, not to supermarkets or their suppliers.

Overall, a combination of tax increase with a ban on below-cost selling (to stop cross-subsidisation) is probably the least anti-competitive price mechanism to induce less binge drinking.  However, more analysis needs to be done to see if a minimum price set close to cost would be more practical without harming supermarket and manufacturer competition or stimulating other forms of promotion.  Incidentally, either combination could have the side-effect of helping specialist off-licences and corner shops which do not have the supermarkets’ option of cross-subsidy.

6 Responses to The Most Competitive Way to Reduce Binge Drinking

  1. Pat McCloughan says:

    Hi Bruce,

    Interesting thoughts. The Alcohol Advisory Group on binge drinking in Ireland came to a similar conclusion in Ireland a couple of years ago (2008) and recommended a series of non-price changes to limit the sale of alcohol by the off-pub channel, including off-licences and supermarkets. It also recommended the imposition of a unit price for alcolhol to prevent quantity discounts on alcohol and also alcohol sales going on loyalty cards. The Competition Authority made a very good submission to the AAG (S/08/001) (January 2008), which is available on its website, and said that there is no evidence to link binge drinking with below-cost selling and that the government should tax alcohol instead. The government did resist the former.

  2. Bruce Lyons says:

    I have been reminded that I made the following important point in my post on tobacco but failed to include it when discussing alcohol:
    “Promotional activities, including product placement on the shelves, advertising and sponsorship, consequently have a bigger payoff as each extra unit sold becomes so much more profitable. The result is a switch of competitive strategy to these demand enhancing activities and possibly even higher tobacco consumption despite higher prices. An effective smoking-suppression programme should squeeze margins at the same time as raising retail prices. The obvious way to do this is simply to raise the tax on tobacco.”
    The point is equally valid for alcohol and it was only my haste that led to its exclusion. For convenience, I have now edited similar wording into my original post.
    It has also been suggested to me that a minimum price may encourage supermarkets to go further still, to increase alcohol promotion beyond the newly enhanced profit maximizing level and even to levels of loss-leading through advertising, etc. Minimum prices really can be counter-productive.

  3. David Gibbs says:

    I would be slightly concerned about a minimum price. Bigger companies would be able to negotiate lower supply costs or currently have lower supply costs than smaller companies. Thus the minimum price set would increase the income of the bigger stores as selling price – supply would be greater than those companies of smaller size. Smaller stores would be forced to charge more whilst the larger ones could charge the bare minimum. I think there are better ways to tackle alcohol abuse than setting a minimum price, such as phasing out the link between alcohol and football, but imposing a minimum price may have some desperatly needed economic benefits.

  4. The question of price intervention in alcohol is indeed a very interesting one and seems of some complexity.
    First there is the social question of the causation issue of price and alcohol consumption about which there has been considerable controversy. The Cabinet Office Strategy of the early noughties denied the link and met with the fierce opposition of the ‘alcohol control lobby’.
    But a lot of evidence has been accumulating that much of the excess consumption by young people (including under age) leading to anti-social street behaviour is caused not by consumption at bars or clubs (very expensive) but by ‘front loading’ in cheap spirits brought at supermarkets and where it is comparatively easy for under-age drinkers to get their siblings or older friends to purchase.
    When I was doing my research on alcohol policy a few years ago, the stock answer from quarters in the industry about price controls or the banning of cheap loss-leader selling was that this was ‘impossible’ on account of price fixing legislation. (There is also the issue of the possible importation of cheap booze from across the Channel in the ‘white vans’).
    The Scottish Government has recently been taking a different stance.
    The interesting thing now is the fragmentation of opinion among the drinks industry itself. First of all the divisions between the British Beer & Pub Association (who have the interest of the on licences at heart) and the supermarkets and the large spirit manufacturers emerged increasing in the late 2000s. But now, as you say, Tesco seems to be breaking ranks and your piece points perhaps to the reason for this, in so far as the largest supermarkets could use this to get a competitive advantage.

  5. Bruce Lyons says:

    It is good to see that the Institute for Fiscal Studies has now quantified the profits that a minimum price for alcohol would confer on the supermarkets and manufacturers. (See http://www.ifs.org.uk/publications/5286). If the 45p per unit proposed in Scotland (but recently defeated in the devolved parliament) “were rolled out across Britain it could transfer £700 million from alcohol consumers to retailers and manufacturers.” If a price rise is necessary to limit alcohol consumption, it would be much better as a tax so the £700m could help reduce the budget deficit.

  6. […] Bruce Lyons) In a post last May, I discussed the dangers of using minimum prices to reduce binge drinking.  I suggested that any […]

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