“Prices are the leading market forces that determine demand among consumers in the luxury fashion industry, albeit, in slightly skewed and unconventional matters.”
By Eduard Batash
Imagine you stroll down New York’s Fifth Avenue, Berlin’s Ku’damm, Paris’ Avenue des champs Elysées or Rome’s Via Dei Condotti and you notice the luxury fashion boutique stores along the avenues that house brands such as Gucci, Prada and Burberry. You marvel at the shops’ grand and beautiful granite facades and at the extravagant ready-to-wear clothing through the floor-to-ceiling glass windows. You also realize that luxury fashion’s ready-to-wear clothing prices, such as Prada’s $600 cotton top, or Gucci’s $350 cotton t-shirt, or Burberry’s $450 wool-turtleneck sweater, are not only too expensive for your budget, but also may be too exorbitant for anyone’s budget. After all, a pack of six cotton t-shirts from your local retailer at Macy’s cost $19.99. The United States’ $63,000 average adult national income further compounds your uncertainty over high and increasingly high, luxury fashion ready-to-wear clothing prices. But believe it or not, luxury fashion firms want you to ponder about their high prices! High prices create a unique brand name that you associate with luxury, and not with necessity or functionality. Luxury fashion firms then utilize this association to sell high-margin, small products such as small leather goods, cosmetics and fragrances in their shops and through third party branding in large retailers. These sales enable them to yield consistently profitable revenues.
The Economics of Luxury Fashion:
Prices are the leading market forces that determine demand among consumers in the luxury fashion industry, albeit, in slightly skewed and unconventional matters. In traditional economic theory, the law of demand states that as prices rise for certain goods, demand decreases among consumers for said goods. The prevailing notion is that rational consumers do not pay higher prices for goods that have readily available, cheaper substitute goods and from which they can derive similar utility, or benefit. Conversely, as prices rise for luxury ready-to-wear clothing (the goods), the demand among shoppers (consumers) increases although ready-to-wear clothing has many readily available, cheaper substitutes located in big retailer chains.
Luxury fashion ready-to-wear clothes are known as Veblen goods. They are targeted towards wealthy and affluent individuals, have strong brand and luxury recognition, and are not readily available to the mass population in terms of pricing. The utility that such consumers derive is based of a status symbol as opposed to a functional use as is the case with regular ready-to-wear clothing. In theory, if luxury clothes’ prices decreased, then actual demand would also decrease because the clothing would lose it appeal to status-conscious consumers. Moreover, luxury clothing’s exponential prices are usually so high that any decline would still not make it readily available or cheap enough for the mass market. For example, a Burberry cashmere trench coat currently costs approximately $3,000, while a similar trench coat in Macy’s costs $180. However, the majority of the U.S. adult population does not spend approximately 4% of its yearly average income on a single Burberry trench coat. In fact, the income distribution across the U.S. effectively encourages most consumers not to purchase ready-to-wear luxury fashion clothing, and instead purchase it in cheaper retailers.
Can Demand meet Supply?
According to the World Wealth & Income Database, the average, adult U.S. national income in 2000 was $44,340, but has risen to $63,004 by 2015. However, while in 2000, the middle 40 % of American income earners shared 32.3% of average adult net personal wealth, that number dropped to 27.3% by 2013. Meanwhile, the top 1% of American income earners’ share of average adult net personal wealth increased from 32.3% to 37.0 % in the same time period. Additionally, the 2016 U.S income tax bracket showed that single, unmarried earners of between $37,000 and $91,000 payed a 25% tax rate while jointly-filing, married earners of between $75,000 to $151,000 also payed a 25% tax rate. While a 25% tax rate is not a high tax rate relative to other income earners’ tax rates, it is substantial for the average U.S adult income bracket in terms of luxury ready-to-wear fashion affordability. Luxury fashion firms are aware of the tax and income inequity shortfalls. They utilize them and their high prices to kickstart more readily available and smaller good sales and hence, compete with large retailers.
So how do luxury fashion firms make money?
The U.S Bureau of Labor Statistics’ most recent 2011-2014 consumer expenditure survey lists the most fundamental and functional consumer expenditures. Major items included food, housing, transportation and healthcare. The survey utilizes the average consumer income, which it approximated as $66,000 (close to World Wealth Database figure) as of 2014. Apparel (ready-to-wear clothing) & services, accounted for 3.5 % of annual consumer expenditures, or about $1,786 of total consumer income. The survey shows that most average consumers view ready-to-made clothing as a necessity, and are therefore, hesitant to dispose of their income on expensive, luxury ready-to-wear clothing. So in accordance with the law of demand, they largely buy in retailers for cheaper, readily available substitutes. Macys’ 2015 annual report presents that in 3 consecutive years, from 2013 to 2015, men’s, women’s and children’s apparel accounted for 46% of gross sales. Many popular featured fashion designers in Macys include Kenneth Cole, Levi’s, Calvin Klein, Tommy Hilfiger and Michael Kors.
Luxury fashion firms, in line with Veblen Good characteristics, continually raise ready-to-wear clothing prices to retain brand and status symbols, among not only the affluent, but also among the entire population. This symbol creates a name and product that average income earners will desire even if they cannot afford it. For example, manufacturing costs for a standard cocktail dress are approximately $400, yet Gucci sells them from $2300 to $4500 .
The firms use this artificial brand value to sell high-margin, small products such as fragrances, cosmetics, shoes, wallets, small leather goods and lifestyle accessories. These items cost less to make than ready-to-wear clothing, but are also priced exponentially higher than their base products. As a result, they yield high profit margins and enable a larger portion of the population to purchase them. Firms utilize extensive third party branding, in which they allow retailers to sell these goods in exchange for a portion of the proceedings sales. This method allows the firms’ goods to reach mass consumers. For example, the standard liquid concentrate in an average fragrance bottle costs $2. But the standard cost to purchase a Prada or Gucci perfume in Macys is $90, which is in mass consumers’ price ranges
High-margin small products entice consumers in a similar fashion to how stocks entice investors. Consumers feel that they buy a piece of the brand name, or a “share” of stock in a large company. For example, the $90 Mr. Burberry cologne in Macys is more popular than the $20 to $40 Calvin Klein cologne in Macy’s. Although the Mr. Burberry cologne has cheaper substitutes, consumers are willing to buy it because the Burberry brand name does not have any easily and readily available substitutes. Macys 2015 annual report also accounted that women’s accessories, cosmetics and shoes made up 38% of gross sales in 3 consecutive years from 2013 to 2015.
Luxury fashion firms’ gross revenues are largely attributed to the average income earners who purchase these “designer” perfumes, shoes small leather goods and cosmetics and not attributed to high-wealth consumers clearing ready-to wear-clothing inventories. According to Statista, Gucci’s 2016 global revenue distribution by product category consisted of the following:
The ready-to-wear clothing that you saw as you walked by the grand Gucci store in New York or Paris really only contributed 13% towards gross profits, while shoes, leather goods, and cosmetics and fragrances (other) contributed towards the bulk of gross profits. Burberry’s gross revenue has actually increased from approximately $1 billion to $2.5 Billion dollars in the last decade.
The grand storefronts and beautiful ready-to-wear clothing only entice the consumer to buy more, not less as it turns out. The stores are like museums: even though the onlooker cannot afford the paintings or the sculptures, she adores them with attention because of their beauty. The attention is not due to the prices. Luxury ready-to-wear clothing is not about prices either.
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Image Source: [Photo from Luxury Topics blog.]. (n.d.). Retrieved from http://www.luxurytopics.com/chest/gallery/1luxksuz/luxury%20cars%20yacths%20transportation%20fashion%20jewelry%20%20(4)