Bad for retailers but good for the economy? Why returned gifts make scroogenomic sense!

Guest post by Stephen Scrooge Budd, Chief Product Officer

We all know the problems that returned goods cause retailers. From cashflow through to systems inefficiencies and other burdens, we know that returns are, generally speaking, a bad thing.

However, at this, the most-returningest time of the year, I would like to propose something a little different. Yes, at a retailer level, an increase in the number of returns almost mandates heavy discounting to keep the cash flowing. However, at a macro level, I would argue that returns are simply the more efficient allocation of previously misallocated resources. Which is a good thing.

Rejoice! Rejoice! Returns are a good thing!

Let me explain. Back in 1993 Joel Waldfogel set out his theory in the American Economic Review that, as recipients of Christmas presents did not value their gifts as much as the purchaser, this meant that upon receipt, between a tenth and a third of the monetary value of Christmas presents was effectively destroyed. Put simply, for example I think £20 for that novelty jumper is a price worth paying; you think it’s rubbish and, if pushed to buy the thing yourself, you would pay at most £15 for it. The other £5 you would have spent on something better.

What has happened here concerns efficient information and knowledge. When I buy for myself, I have good knowledge of my wants. But when I buy for someone else (eg at Christmas), that knowledge is less robust, hence the errors.

Waldfogel subsequently developed this theory further and you can read more about it in the 2009 book Scroogenomics.

So, back to my Christmas jumper example. You have bought me a horrendous £20 jumper. I appreciate the gesture but fundamentally I think it’s a waste of money. When your back is turned, I decide to take this woolly monstrosity back to the store and get a £20 refund which I then spend on something which I actually want. In other words, I purchase based on superior knowledge and allocate my resources accordingly. It might be petrol, it might be a less horrible jumper, it might be giving the money to charity; the point is that it’s based on something I want , not what you might imagine I want.

Originally, I wrote this post before Christmas but it’s worth drawing your attention also to this story from the Telegraph where it notes that,

“In a stark reminder of how tough things still are for low-income families in America, McDonalds has advised workers to dig themselves “out of holiday debt” by cashing in their Christmas haul.”

In other words, make more efficient use of the value of gifts by making them liquid and spending the money on something else.

I’ll throw two further economic based observations into the mix to conclude. Firstly, ‘not wanted’ is usually the most common reason for return and this is generally from people that have been buying for themselves. This suggests that imperfect information flows are operating to cause returns to a large degree.

The second point is that returns are externalities caused by the customer’s behaviour. An externality as defined in Wikipedia is, “a cost or benefit which affects a party who did not choose to incur that cost or benefit”. A shopper returning an item sets in motion a process that costs the retailer, or society, but not the shopper directly. Externalities (such as pollution) are usually tackled in a way that means that the cost is attached to the polluter in some way and not bourne solely by, say, the local council, often by means of a tax.

The implication of this, of course, is that if return rates are to be reduced, these externalities need to be priced into the customer’s purchases or exposed in such a way that they influence shopper behaviour.

But that is a whole other subject we’ll explore in 2014….