Mexico

How Could Increasing Inequality Affect Wal-Mart?

By Artem Kaikov, Lawrence Kao, and Katherine Langille

In his State of the Union address on Tuesday January 20th, 2015, President Obama spoke at length about the middle class.[1] This doesn’t sound too out of the ordinary for an American politician. But sometime in the near future, we may look back on this and wonder who he was talking about. Inequality has been a hot topic of late, most recently following Oxfam’s Inequality Study finding that the richest 1% will control half of global wealth by 2016.[2] Rising economic inequality is becoming hard to ignore, even for a large retailer like Wal-Mart. If rising inequality changes its customer base, how might Wal-Mart respond? The Elephant In The Room Wal-Mart, a company approaching $500 billion in annual sales[3], has ridden a growing middle class in the post-WWII baby boom and the increased demand for cheap, functional household products that it created5. It’s no accident that Wal-Mart, Target and Kmart all launched in the same year. A similar effect is occurring in Mexico right now6, although increasing global economic inequality may be problematic for Wal-Mart if decreasing median real wealth and a declining middle class make shoppers more price-sensitive. Several current trends may signal the beginning of these problems:

  • Stiffer competition from other discounters in the grocery sector[4]
  • For a basic basket of goods, prices are actually lower at Dollar General than at Wal-Mart[5]

Given these trends, it may be hard for Walmart to continue its Every Day Low Prices (EDLP) strategy.

EDLP: A Simple But Outdated Strategy?

Wal-Mart’s EDLP message appeals to its core customer groups, generally a few thriftier wealthy people and more low-income households. Wal-Mart relies on high-volume sales to these customer segments, but rising inequality may reduce the percentage of the general population that Wal-Mart can appeal to. The new barbell economies, with many at the top and bottom but few in the middle, may drive customers to higher-end stores or lowest-cost discounters without middle ground, possibly eroding Wal-Mart’s customer base. Inequality In The USA: Mind The Gap The following graph shows the share of income in the United States over time.[6] Inequality began increasing in the 1980s, when the top 10% of earners increased their share of total wealth relative to the bottom 90%.

aOver the last 30 years, the 1%’s share of income has skyrocketed. The household income gap has also widened over time: as shown in this graph, lower-income households have not enjoyed much of the income growth in the USA. (Source: “The World Top incomes Database” http://topincomes.g-mond.parisschoolofeconomics.edu)

In the US, high income households have seen a disproportionate jump in their annual pay, while those in the middle and lower end have fallen way behind

bFor Wal-Mart’s typical low- to middle-income customers (90.9% of Walmart customers make less than $100,000 annual household income7), declining real wealth as a result of increasing inequality could change their shopping habits. If those shoppers consume less and rely more on dollar stores, Wal-Mart in America may be left catering to a small middle class that can’t support a high-volume sales strategy. (Source: 40 Years Of Income Inequality In America, In Graphs,” NPR, 2 October 2014. [Online]. Available: http://www.npr.org/blogs/money/2014/10/02/349863761/40-years-of-income-inequality-in-america-in-graphs.)

Mexico’s Middle Class Slows Down

50 years ago, 80% of Mexicans were in the lower class. Wal-Mart’s growth in Mexico has coincided with the establishment of a robust middle class, which is shown in the figure below7:

Households Population
Upper 2.50% 1.71%
Middle 42.42% 39.16%
Lower 55.08% 59.13%

Source: Instituto Nacional de Estadística y Geografía, 2013 In Mexico, Wal-Mart appeals to middle- and upper-middle-class consumers but in recent years, the growth of Mexico’s middle class has slowed: it only increased by 4% from 2000 to 20117. Between 2006 and 2011, the growth rate of the middle class fell from 29.3% to 2.7%8 since this growth is highly variable and dependent on the overall state of the Mexican economy. Since the growth of Wal-Mart’s main consumer base in Mexico is slowing and rising economic inequality may reduce the number of middle-class shoppers, Wal-Mart may become economically inaccessible to more of the population and this may eventually reduce Wal-Mart’s growth prospects in Mexico.

How Can Wal-Mart Adapt?

If economic inequality continues to worsen globally, Wal-Mart will be forced to adapt. On the one hand, Wal-Mart could try to become the low-cost provider and engage its new discount competition in an all-out price war for those low-income shoppers. However, Wal-Mart’s main competitive advantage arguably derives from low labour costs and the extensive data analytics that enable efficient operation of its stores and supply chain. It is therefore unrealistic to expect that reducing data analytics will lead to a decrease in costs, and it may be politically infeasible for Wal-Mart to reduce labour costs. Wal-Mart may prefer a differentiation strategy: continue the data analysis but shift the emphasis from EDLP to pricing efficiency over time, with slightly more expensive but more durable goods to appeal to the higher end of a growing, less affluent and more price-sensitive customer segment.

References: [1] Davis, Julie Hirschfeld, and Michael D. Shear. “In State of the Union Speech, Obama to Urge a Skeptical Congress to Back Initiatives.” The New York Times. The New York Times, 20 Jan. 2015. Web. 20 Jan. 2015. Available: http://www.nytimes.com/2015/01/21/us/state-of-the-union-obama-ambitious-agenda-to-help-middle-class.html [2] Cohen, Patricia. “Oxfam Study Finds Richest 1% Is Likely to Control Half of Global Wealth by 2016.” The New York Times. The New York Times, 18 Jan. 2015. Web. 22 Jan. 2015. Available: http://www.nytimes.com/2015/01/19/business/richest-1-percent-likely-to-control-half-of-global-wealth-by-2016-study-finds.html [3] Source: Bloomberg [4] Sozzi, Brian. “Walmart’s Growing Competition Eats Its Sales of Low-Priced Food.” TheStreet. TheStreet, 13 Nov. 2014. Web. 22 Jan. 2015. Available: http://www.thestreet.com/story/12950099/1/walmarts-growing-competition-eat-its-sales-of-low-priced-food.html [5] Marcial, Gene. “Discount Retailer Dollar General Taking Away Market Share From No. 1 Wal-Mart.” Forbes. Forbes Magazine, 29` Dec. 2011. Web. 22 Jan. 2015. Available: http://www.forbes.com/sites/genemarcial/2011/12/29/discount-retailer-dollar-general-taking-away-market-share-from-no-1-wal-mart/ [6] F. Alvaredo, A. B. Atkinson, T. Piketty and E. Saez, “The World Top incomes Database,” [Online]. Available: http://topincomes.g-mond.parisschoolofeconomics.edu. [Accessed 24 January 2015].