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Minimum Markup Insanity

Posted on by arlen

There’s a basic flaw in the minimum markup law here.

To understand where I’m coming from, let me first say I’m in favor of minimum markups, in principal. They attempt to keep giant chains from undercutting local businesses, driving them out, and then raising prices back up. They don’t always succeed in that endeavor, but they succeed often enough that I feel the benefits of the “tax” (in the form of slightly higher prices) is worth the cost.

But Wisconsin’s law has a design flaw that current gas prices have exposed. It’s based on percentages, a measure that only people who have never run a business and had to set price levels would use.

In the real world, when you go to set your price, you make some calculations. Eventually, you arrive at the cost to you to obtain the widget (gallon of gas, in this instance). You also calculate the amount (not percentage) of profit you want to realize from this business, project sales, and amortize that amount over the number of widgets sold. You can follow several pricing theories from volume pricing (where you lower the profit on each individual widget, in the hope the sheer number of sales will turn those pennies into dollars) to boutique pricing (where you raise the profit from each widget, expecting sales to go down, but the dollars to still arrive, just in larger clumps this time). Once you’ve decided on the amount of profit, that plus the cost will show you the percentage profit, which is just a convenient measurement tool, and a number that financial gurus love to chat each other up about, but has no real purpose in the world of actual buying and selling. This should be made even clearer by the fact that some businesses thrive on a 1% profit margin, while others fail with a 20% profit margin.

And that’s the flaw in Wisconsin Law. They picked a percentage (just over 9%) as minimum markup, rather than allow for an absolute number. When the wholesale price of fuel goes up to the local station, few other costs go up. So why should the overall profit margin automatically rise proportionately to the fuel cost?

A better approach would be to cap the minimum markup at a real number (say, 15 cents or thereabouts) which is indexed to an inflation indicator. The change in the law would be simple: add a paragraph which calculates the cap number, and then for every occurance of the percentage add “or the cap number, whichever is smaller” to the statute.

That way the small businesses would be assured of getting the profits they needed to survive. Remember, all minimum markup laws are supposed to do is provide a subsistance level of support to the small business person, protecting them from predatory practices. They’re not supposed to guarantee any level of success beyond that.

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August 2006
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