Cycles and Washing Machines - The Sales Evolution of Consumer Durables over the Business Cycle

A recession hits and what should you do? Cut your advertising budget to boost short-term profits, or expand it to reach more consumers? Should you raise or lower prices? The answer according to Professors Miklos Sarvary and Philip Parker, both from INSEAD, and Professor Marnik Dekimpe and PhD candidate Barbara Deleersnyder, both from Catholic University of Leuven, should depend on one’s industry. By measuring two types of cyclical volatility in sales of a broad set of consumer durables, they derive empirical generalizations and test market-theory hypotheses of sensitivity drivers. Moderating effects of key variables are then measured.

by Philip Parker,Miklos Sarvary, Barbara Deleersnyder,Marnik Dekimpe
Last Updated: 23 Jul 2013

Macro-economic developments can play a key role in determining a firm’s success and managers often feel pressure to respond to economic downturns. However, even in the most widespread national recession, only 60 percent of all industrial sectors will actually be affected. It is puzzling that most companies do not use any systematic procedure to assess the impact of business cycle fluctuations on their business. Philip Parker, Professor of Innovation, Business and Society and Miklos Sarvary, Associate Professor of Marketing, both at INSEAD, and Marnik Dekimpe and Barbara Deleersnyder, Professor and Ph.D. candidate in Marketing, respectively, at the Catholic University of Leuven collectively address the issue.

By examining the postwar sales evolution of 24 consumer durables, including clothes dryers, electric washers, freezers and refrigerators in the US, they observe several characteristics of cyclical fluctuations in durables’ sales: 1) durables’ sales are strongly sensitive to cyclical fluctuations and that sales drop much faster during a downturn than they recover thereafter, and 2) not all durables are equally sensitive to business cycle fluctuations. With these observations, the authors set out to quantify the extent and variability of sales sensitivity.

Consumers react to economic up- and downturns differently. During a recession, many consumers will reassess their investment decisions, deciding to postpone significant purchases or to repair rather than to replace durable goods. Thus, consumers with broken washing machines are more likely to try to extend its life by having it repaired during a downturn. Such purchase postponement affects sales sensitivity in two ways. First, it initiates cyclical sensitivity, and second, it may cause fluctuations to become asymmetric. This means that once the economy begins to recover, individuals may continue to postpone large purchases. Alternately, as consumer confidence in the economic climate recovers less quickly than it is broken, spending increases much slower than it drops. Equally, as consumers react more extensively to losses than to comparable gains, spending levels are rapidly reduced during a contraction, while economic recovery triggers more moderate reactions. Thus, downward sales adjustments happen more quickly and are deeper than upward adjustments. These two types of asymmetry (deepness and steepness) can exist either separately or in combination.

Though these patterns are consumer-driven, they may be reinforced by the marketing activities of firms. Companies’ propensity to cut costs in reaction to a downturn, and to reduce marketing budgets to generate short-term cash flows has been documented. The harmful effect of such behavior has also been argued. Some argue that marketing budgets should be increased during a downturn so that the company will be well positioned when the market recovers. Likewise, debates about pricing practices during business cycles are not conclusive.

Having identified these consumer and firm behavior factors, the authors examine 10 complete business cycles of an average duration of five years that occurred in the postwar period in the US. By comparing cyclical volatility in durables’ sales with cyclical volatility in GNP, it was found that consumer durables are more than twice as sensitive to business cycle fluctuations than the general economic activity. They also found that steepness asymmetry exists, as sales fell faster during contractions than they increased in expansionary periods.

In the study, the authors also measured several potentially mitigating factors to this phenomenon, such as expensiveness, industry price stability, stage in the product life cycle, state of the economy at launch, and industry price reaction.

With these empirical findings, managers of consumer durables’ firms should be better equipped to react to the business cycle fluctuations.

INSEAD 2003

Philip Parker,Miklos Sarvary, Barbara Deleersnyder,Marnik Dekimpe recommends

Click here to read the full article on INSEAD Knowledge

Read more

Find this article useful?

Get more great articles like this in your inbox every lunchtime

Subscribe

Get your essential reading delivered. Subscribe to Management Today