Wikipedia Deep Dive

Menu cost

12 min read

Here's a puzzle that has vexed economists for decades: if the price of wheat rises, why doesn't the price of bread change immediately? If inflation is eroding the real value of every price tag in a store, why don't retailers update them constantly? The answer, it turns out, involves a surprisingly simple idea with profound consequences for how entire economies behave.

The culprit is something economists call "menu cost."

The term comes from restaurants. When a restaurant wants to change its prices, it can't just scribble new numbers on the old menus. It needs to design new menus, print them, distribute them to every table, and train staff on the changes. That costs money. Not a fortune, perhaps, but enough that a restaurant owner might think twice before adjusting prices for every minor fluctuation in ingredient costs.

Now extend this logic to every business in the economy. A supermarket doesn't just have menus—it has thousands of items, each with a price tag that needs to be physically changed. A manufacturer has catalogs, price lists, contracts with distributors, and computerized ordering systems that all need updating. An online retailer has databases, customer-facing websites, and pricing algorithms that require reprogramming. Even in our digital age, changing prices is never truly free.

The Hidden Machinery of Price Changes

What exactly goes into a menu cost? The literal printing of new menus or tags is just the beginning. There's the administrative labor of deciding what the new prices should be. Someone has to analyze costs, survey competitors, forecast demand, and make judgment calls about how customers will react. Then there's the communication overhead—informing sales teams, updating marketing materials, notifying key customers, and perhaps running advertisements to explain or justify the changes.

There's also a subtler cost that economists call "customer antagonism." Raise your prices, and some customers will notice. Some will complain. Some will switch to competitors. Even if the price increase is fully justified by your rising costs, you may lose business simply because people don't like seeing higher numbers. This psychological friction is real, and businesses factor it into their calculations.

A particularly illuminating study from 1997 examined five multistore supermarket chains to measure these costs precisely. The researchers tallied up labor for changing shelf prices, printing and delivering new labels, supervising the changeover process, and fixing mistakes that inevitably occurred. The result? An average of $105,887 per year, per store. That figure represented 0.7 percent of revenue—sounds small, right?—but a whopping 32.5 percent of net profit margins. Each individual price change cost about 52 cents.

Think about what that means. For updating a price to be worthwhile, the profitability of that item needed to improve by more than 32.5 percent. Anything less, and the store would actually lose money by making the change.

When Small Frictions Create Big Problems

If menu costs only affected individual businesses, they might be a curiosity—an interesting quirk of commercial life but nothing more. What makes them matter is their macroeconomic consequences. Menu costs help explain one of the most important phenomena in economics: price stickiness.

Price stickiness—sometimes called "nominal rigidity"—is the observation that prices in the real world don't move as smoothly or quickly as basic economic theory predicts they should. When demand falls, prices should drop. When costs rise, prices should increase. In the textbook world of perfect competition and instant adjustment, markets clear continuously, and the economy stays in equilibrium.

But the real economy doesn't work that way. Prices often stay stuck even when market conditions have changed dramatically. And this stickiness has consequences. If prices don't adjust downward during a recession, the economy can't clear its excess supply, and unemployment results. If prices don't adjust upward during an expansion, shortages develop. Price stickiness, in other words, is one reason recessions are painful and recoveries take time.

This is where menu costs enter macroeconomic theory. In 1985, the economist Gregory Mankiw made a startling argument: even very small menu costs can create very large economic inefficiencies. The logic works like this. When a business faces a small menu cost, it might decide not to adjust its price even though adjustment would be optimal. The business's loss from staying at the wrong price might be tiny—smaller than the menu cost itself. But the social cost—the harm to the overall economy from that one misaligned price—can be much larger.

How? Because each price that's "wrong" ripples through the economy. If a supplier doesn't lower its prices when it should, its customers can't lower theirs. If a retailer doesn't raise prices when costs go up, it might cut back on orders, affecting its suppliers. These chains of causation multiply the effect of each sticky price. Mankiw showed that the welfare loss to society from price stickiness could vastly exceed the sum of the menu costs that caused it.

The New Keynesian Revolution

Menu costs became central to a major shift in how economists think about the macroeconomy. The traditional Keynesian view, dating back to John Maynard Keynes in the 1930s, held that wages and prices were sticky, but it never fully explained why. The competing classical view assumed that prices adjusted instantly, which made recessions hard to explain.

In the mid-1980s, a group of economists who came to be called "New Keynesians" built rigorous theoretical models showing how small frictions like menu costs could generate macroeconomic price stickiness. Gregory Mankiw was one. Michael Parkin was another. George Akerlof and Janet Yellen contributed a related idea: "bounded rationality." Their insight was that businesses aren't perfectly calculating machines. If the benefit of changing a price is small, a firm might simply not bother—not because of an explicit cost, but because of inertia and the limited attention of decision-makers.

Olivier Blanchard and Nobuhiro Kiyotaki extended the menu cost idea from prices to wages. After all, wages are also "prices"—the price of labor—and they're notoriously sticky. Employers resist cutting wages even during recessions, partly because of the costs and conflicts such cuts would create. This wage stickiness amplifies the effects of price stickiness.

Perhaps the most interesting theoretical result came from Huw Dixon and Claus Hansen, who showed that menu costs don't have to be universal to matter. Even if only a small sector of the economy faces significant menu costs, the resulting price stickiness in that sector will spread to the rest of the economy. Prices throughout the system become less responsive to changes in demand. A few sticky prices, in other words, can gum up the entire works.

The Skeptics Respond

Not everyone was convinced. In 2007, economists Mikhail Golosov and Robert Lucas examined the empirical evidence and raised a challenge. They tried to build a standard business cycle model that could match the actual patterns of price adjustment observed in real-world data. The problem? To make the model work, they had to assume implausibly large menu costs—much larger than anything actually measured.

The issue, they argued, was that simple menu cost models lacked what economists call "real rigidity." In these models, when monetary conditions changed, factor prices like wages would adjust dramatically, squeezing profit margins and forcing price adjustments regardless of menu costs. Real businesses didn't seem to face such pressure.

Modern New Keynesian models have addressed this critique by making more sophisticated assumptions about labor markets and market structure. But the debate highlighted an important point: menu costs alone may not fully explain price stickiness. They're part of the story, but not the whole story.

What Actually Drives Price Changes

If menu costs matter, we might expect a simple relationship between inflation and price adjustment: higher inflation should mean more frequent price changes, as businesses race to keep up with the eroding value of money. And to some extent, that's true. The fraction of firms changing prices in any given period does rise with inflation.

But Golosov and his colleagues discovered something more nuanced. In their research, the main driver of price changes wasn't aggregate inflation at all. It was what economists call "idiosyncratic shocks"—unexpected events affecting individual firms. A supplier suddenly raises its prices. A competitor launches a promotion. A product goes viral on social media. Demand for one item collapses while another takes off.

When they ran simulations with these idiosyncratic shocks turned off, something interesting happened. Price adjustment frequency stayed roughly the same in high-inflation environments but dropped dramatically when inflation was low. In other words, during periods of stable (even if high) inflation, businesses don't constantly fiddle with their prices. They adjust mainly when something specific happens to them.

This finding has a profound implication. The essence of menu costs isn't really about money at all. It's about real factors—changes in productivity, demand, competition, and costs at the level of individual firms. Currency and monetary policy play a secondary role. What matters most is the tangible, operational reality of running a business.

Regulation and the Multiplication of Friction

If menu costs arise from the physical and administrative hassle of changing prices, then anything that increases that hassle should increase menu costs. And indeed it does.

The 1997 supermarket study compared stores in different regulatory environments. Some jurisdictions required individual price stickers on every item—a consumer protection measure intended to make prices transparent. Others allowed shelf-edge pricing, where a single tag indicates the price for all identical items on a shelf.

The difference was dramatic. Stores subject to item-pricing laws faced menu costs 2.5 times higher than stores without such requirements. And the behavioral impact was equally stark: stores without the requirements changed prices on 15.6 percent of products every week, while those subject to item-pricing laws changed only 6.3 percent. The regulation, whatever its benefits for consumers, had essentially frozen prices in place.

A 2015 study from the Massachusetts Institute of Technology (MIT) Press found another multiplier: product variants. When a retailer sells multiple versions of a product—different sizes, flavors, or colors—changing the price becomes more complicated. Each variant needs its own label, its own database entry, its own update. The study found that when costs increased, retailers raised prices 71.2 percent of the time for single-variant products but only 59.8 percent of the time for products with seven or more variants. More complexity meant more stickiness.

The Digital Revolution and the Disappearing Menu

Here's where the story takes a turn. If menu costs come from physical hassle, what happens when prices go digital?

A study of Amazon Fresh—the online grocery arm of Amazon—found a striking difference from traditional brick-and-mortar stores. Products listed on Amazon Fresh experienced an average of 20.4 price changes per year, with a median magnitude of 10 percent per change. Traditional grocery stores, by contrast, change prices far less frequently. The online retailer was adjusting prices more than twice a month per product.

The explanation is straightforward: automated pricing algorithms. When your prices exist as entries in a database rather than physical tags on shelves, changing them costs almost nothing. The labor disappears. The printing disappears. The supervision and error correction disappear. What remains are the strategic considerations—how will customers react? what are competitors doing?—but the mechanical barriers have evaporated.

This has implications beyond e-commerce. Many brick-and-mortar retailers have begun experimenting with electronic shelf labels—small digital displays that can be updated remotely. As these technologies spread, the traditional menu cost may decline across the economy. Prices might become more flexible, more responsive to supply and demand, more volatile.

Whether that's good or bad is an open question. Flexible prices help markets clear efficiently. But constantly shifting prices can confuse consumers, undermine trust, and create a sense of chaos. There's a reason people appreciate the stability of posted prices, even if that stability comes at some economic cost.

The Economics of Inertia

Perhaps the deepest insight from menu cost research is how small frictions accumulate. No single menu cost, taken alone, seems terribly important. Fifty-two cents to change a price tag. A few hundred dollars to reprint a catalog. The inconvenience of updating a website.

Yet these trivial costs aggregate into macroeconomic consequences. They help explain why economies go through booms and busts rather than adjusting smoothly. They illuminate why monetary policy takes months or years to fully affect prices. They reveal the hidden transaction costs embedded in what looks like a simple act—putting a number on a product and offering it for sale.

The concept also connects to a broader theme in economics: the importance of margins. In a world of small costs, behavior depends critically on whether benefits exceed those costs. A price change that would increase profits by 1 percent might not happen if the menu cost is 2 percent. But a change that would increase profits by 3 percent will. This means the distribution of potential gains matters enormously. A world with many small gains will look very different from a world with fewer large gains, even if the average is the same.

And here, perhaps, is the most human element of menu cost theory. It captures something real about how businesses operate. Owners and managers don't optimize continuously. They satisfice—they find solutions that are good enough and stick with them until something forces a change. They have limited attention, limited time, limited capacity to analyze every decision. Menu costs are a metaphor for all the ways that inertia, friction, and "good enough" decision-making shape economic outcomes.

The restaurant owner who doesn't reprint the menu. The supermarket manager who puts off retagging the shelves. The online retailer who hasn't updated the algorithm. Each of them, in their small way, is making the macroeconomy just a little bit stickier. And when you add it all up, those tiny decisions help determine whether the economy hums along smoothly or lurches through cycles of boom and bust.

That's the power of menu costs. A concept that started with literal menus in literal restaurants has become a window into how the modern economy works—and sometimes fails to work. The next time you see a price that seems oddly stable, or wonder why inflation takes so long to work through the system, remember: somewhere, someone decided that changing that number just wasn't worth the trouble.