Tim Harford writes:
…in a competitive market, wholesale price increases will be passed through to consumers promptly. But the “feather” is more ticklish, because the same argument should work in reverse, and so wholesale price falls ought to be passed on just as quickly. That means that markets are less competitive when prices are falling than when they are rising – a rather baffling suggestion.
A plausible explanation comes from Matthew Lewis, an economist at Ohio State University: falling prices make us complacent, while rises bring out the bargain hunter inside us, even when there are no bargains to be had.
As long as the price of a product is a little lower today than yesterday, we relax. We assume there’s no need to shop around. Retailers then take their sweet time cutting prices, knowing that we consumers are immensely relaxed, addled by the fact that at least prices are moving in the right direction. Paradoxically, their profits may be higher when prices are falling than when they are rising.