Practice Case Assignment

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Chapter 6

Consumers

I. Introduction (NIB-Chapter Introduction) A. Opening Case Comments (NIB-Chapter Introduction)

1. As an illustration of the complex moral relationship between businesses and their consumers, Shaw and Barry outline a brief history of the manufacture and marketing of

cigarettes to the public, and then ask the following questions:

a. What are the responsibilities to consumers of companies that sell potentially or (in the case of cigarettes) inherently harmful products?

b. To what extent do manufacturers abuse advertising? c. When is advertising deceptive? d. Can advertisers create or at least stimulate desires for products that consumers

would not otherwise want or would not otherwise want as much?

e. How, if at all, should advertising be restricted? 2. With the sale of goods to the public comes responsibility on the part of the

manufacturer and advertiser.

a. Government has some responsibility to protect the public from hazardous or mislabeled goods.

b. However, what responsibilities do companies have toward their consumers? How can goods be promoted while respecting the choices of individuals?

3. Chapter 6 examines the following topics: a. Marketing and a framework for marketing ethics. b. Product safety, legal liability, and regulation. c. Responsibilities of business to consumers concerning product quality, prices,

labeling, and packaging.

d. Deceptive marketing promotion and the FTC. e. “Reasonable” vs. “ignorant” consumer standards. f. The social desirability of advertising, free speech, and consumer needs.

B. Chapter Learning Objectives (NIB-Chapter Introduction) – After completing this chapter students should be able to:

1. Understand the basis for business’s responsibility to consumers and the imbalance of power between sellers and buyers.

2. Trace the evolution of the relationship between business and consumer from a philosophy of caveat emptor to the due care theory.

3. Identify and evaluate the systems that have been put in place to regulate products and services, protect consumers, and ensure corporate compliance.

4. Delineate the responsibilities of business with regard to safety, product quality, fair pricing, packaging and labeling, and marketing promotion.

5. Assess the merits of the arguments for and against advertising.

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II. Marketing (NIB) A. Overview (NIB)

1. A key to understanding the legal and moral obligations businesses owe to consumers is by first looking at marketing and the rights and obligations of both businesses and

consumers.

2. Marketing is defined as “the performance of business activities that direct the flow of goods and services from producer to consumer or user.”

3. Because consumer choices are so important for business survival, ethical problems in trying to persuade consumers to purchase a business’s goods and/or services is

inevitable.

B. Framework for Marketing Ethics (NIB) 1. Most of the ethical problems in marketing involve three ethical concepts: fairness (or

justice), freedom, and well-being.

a. Fairness is a central concern because it is a basic moral requirement of any market transaction—and the result of successful marketing is always a market

transaction.

b. Freedom is at issue in marketing with respect to having a range of consumer options.

c. Well-being is a consideration in evaluating the social impact of products and advertising, as well as product safety.

2. These three principles of fairness, freedom, and well-being can be expressed in the four-point Bill of Rights for Consumers that President John F. Kennedy proclaimed

in 1962 (a.k.a. consumerism). These rights are:

a. The right to be protected from harmful products (well-being). b. The right to be provided with adequate information about products (fairness). c. The right to be offered a choice that includes the products that consumers truly

want (well-being and freedom).

d. The right to have a voice in the making of major marketing decisions (freedom). 3. This movement arose despite the fact that business had long operated on the basis of

the marketing concept, which stresses consumer satisfaction.

4. Traditionally, businesses are understood to have several rights, which are limited only by the usual rules of fair market exchanges. These rights are:

a. The right to make decisions regarding the products offered for sale, such as their design and style.

b. The right to set the price for products and all other terms of sale, including warranties.

c. The right to determine how products will be made available to consumers. d. The right to promote products in any way that producers choose.

5. Thus, the consumer movement sought to balance the rights of businesses with this new list of consumer rights.

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III. Product Safety (§ 6-1) A. Overview (NIB-§ 6-1)

1. Business’s responsibility for understanding and providing for consumer needs derives from the fact that citizen-consumers are completely dependent on business to satisfy

their needs.

2. The complexity of an advanced economy and the necessary dependence of consumers on business to satisfy their many wants increase business’s responsibilities to

consumers—particularly in the area of product safety.

3. Statistics suggest that faith in the conscientiousness of business is sometimes misplaced.

B. The Legal Liability of Manufacturers (§ 6-1a) 1. The 1916 MacPherson v. Buick Motor Car case expanded the liability of

manufacturers for injuries caused by defective products.

a. Prior to MacPherson, consumers could recover damages only from the retailer of the defective product.

1) Rationale: A manufacturer’s liability for damage caused by a defective product was based on a contractual relationship.

2) Under contract law, the “privity doctrine” only allows the contracting parties to sue one another (e.g., the consumer-buyer and the retailer-seller).

3) Since manufacturers were not part of the contractual exchange, they were not in privity of the contract and therefore could not be sued.

b. Although never a legal doctrine, one can categorize the pre-MacPherson era as adopting the caveat emptor (“let the buyer beware”) doctrine.

1) According to the doctrine of caveat emptor, consumers were held to the ideal of being knowledgeable, shrewd, and skeptical in their purchases.

2) This meant that the consumer was entirely responsible if harmed by a purchased product unless he/she could show some breach of contract and

was in privity to the contract.

2. The MacPherson decision recognized the 20th century economic reality of large manufacturing concerns and national systems of product distribution.

a. Among other things, local retailers are not as likely as large manufacturers to be able to bear financial responsibility for defective products that injure others.

b. MacPherson adopted a “due-care” theory of the manufacturer’s duty to consumers.

1) Due care is the idea that consumers and sellers do not meet as equals and that the consumer’s interests are particularly vulnerable to being harmed by

the manufacturer, who has knowledge and expertise the consumer does not

have.

2) According to the due-care theory, manufacturers have an obligation, above and beyond any contract, to exercise due care to prevent the consumer from

being injured by defective products.

c. As the concept of due care spread, it superseded the old doctrine of caveat emptor.

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3. Strict Product Liability – Despite its support for the due-care theory and for a broader view of manufacturer’s liability, the MacPherson case still left the injured consumer

with the burden of proving that the manufacturer had been negligent (i.e., acted

carelessly).

a. Problems: 1) Negligence is often difficult to prove. 2) A product might be unsafe despite the manufacturer’s having exercising due

care.

b. These problems led to a further policy shift adopted in the 1960 New Jersey case of Hennington v. Bloomfield Motors and the 1963 California case of Greenman

v. Yuba Power Products.

c. This new approach to product safety adopted a strict liability approach. 1) According to the strict liability approach, the manufacturer of a product

has legal responsibilities to compensate the user of that product for injuries

suffered due to a defective aspect of the product, even though the

manufacturer has not been negligent in permitting the defect to occur.

d. Negligence versus Strict Liability (NIB) – Two important differences: 1) Proof: In negligence, the plaintiff must show that the defendant breached its

duty of care (i.e., acted carelessly or unreasonably); in strict liability, the

plaintiff must simply show that the product was defective.

2) Parties Subject to Suit: In negligence, the plaintiff can sue only those parties who were alleged to be careless in the manufacture or selling of the product;

in strict liability, the plaintiff can sue any party who sold the good in its

defective state. Explain.

e. Critics of strict product liability contend that the doctrine is unfair because even if the manufacturer acts reasonably it can be held liable.

f. The argument for strict product liability is basically utilitarian. 1) First, its advocates contend that only such a policy will induce firms to bend

over backward to guarantee product safety.

2) Second, proponents of strict liability contend that the manufacturer is best able to bear the cost of injuries due to defects.

C. Government Safety Regulation (§ 6-1b) 1. The Consumer Product Safety Commission (CPSC) was created in 1972 by the

Consumer Product Safety Act (CPSA).

a. Its job is to “protect the public against unreasonable risks associated with consumer products.”

b. Because the CPSC regulates potentially dangerous consumer products, it issues product safety standards for consumer products that pose an unreasonable risk of

injury.

c. If a consumer product is found to be imminently hazardous—that is, its use can cause an unreasonable risk of death or serious injury or illness—the manufacturer

can be required to recall, repair, or replace the product or take other corrective

action.

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d. Alternatively, the CPSC can seek injunctions, bring actions to seize hazardous consumer products, seeks civil penalties for knowing violations of the Act or its

rules, and seek criminal penalties for knowing and willful violations of the Act or

its rules.

e. A private party can sue for an injunction to prevent violations of the Act or its rules and regulations.

2. In undertaking its policing function, the CPSC aids consumers in evaluating product safety, develops uniform standards, gathers data, conducts research, and coordinates

product safety laws (local, state, federal) and enforcement.

3. Compared with many other developed European countries, the U.S. regulates fewer products (relying more on media attention, pressure from consumer advocacy groups

and the threat of lawsuits to protect consumers), and many products escape effective

regulation.

4. Economic Costs – Safety regulations do protect consumers, but they add to the cost of products.

5. Consumer Choice – Consumers may dislike some mandated safety technology, but in other cases safety regulations may prevent individuals from choosing to purchase a

riskier, though less expensive, product.

6. Legal Paternalism – Regulating consumer choice also raises the issue of legal paternalism.

a. Legal paternalism is the idea that the law may justifiably be used to restrict the freedom of individuals for their own good.

b. Shaw and Barry state that paternalism is a large issue that cannot be done justice here, but regard to safety regulations, three comments are in order.

1) First, some product safety affects not just consumers who purchase products but also third parties.

2) Second, anti-paternalism gains plausibility from the view that individuals know their own interests better than anyone else does and that they are fully

informed and able to advance those interests.

3) Third, the controversy over legal paternalism pits the values of individual freedom and autonomy against social welfare.

D. Problems with Regulation (NIB-§ 6-1c) 1. Regulatory agencies often succeed in protecting interests of consumers and stressing

business responsibility. However, regulation is not always effective.

2. Self-Regulation – Businesses generally prefer self-regulation, competition, and voluntary safety standards set by their own industry.

a. But self-regulation can easily subordinate consumer interests to profit making when the two goals clash.

b. Under the guise of self-regulation, businesses can end up ignoring or minimizing their responsibilities to consumers.

3. Automobile Safety – The auto industry has a long and consistent history of fighting against safety regulations. Some examples:

a. The industry successfully lobbied the federal government to delay the requirement that cars be equipped with air bags or automatic seat belts.

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b. In the late 1990s, the industry denied that car passengers are at a greater risk of serious injury or death caused by collisions with pickups or SUVS than with

automobiles.

c. However, as car buyers become better informed, automobile manufacturers are rethinking Lee Iacocca’s old bromide “Safety doesn’t sell.”

E. The Ethical Responsibilities of Business Regarding Product Safety (NIB-§ 6-1d) 1. Simply obeying regulations and laws does not exhaust the moral responsibilities of

business in the area of consumer safety.

2. However, when it comes to product safety, the exact nature of business’s moral responsibilities is difficult to specify, because much depends on the particular product

or service being provided.

a. Often times business ethicists cite a business’s moral obligation of “do no harm.” b. However, numerous products produced may cause harm or may have side effects.

3. Nevertheless, attending to the following points would go a long way in helping business behave morally with respect to consumer safety:

a. Businesses should give safety the priority warranted by the product. Factors in safety control that ought to be considered include:

1) Cost; 2) What is specified by law; 3) The seriousness of the injury that the product can cause; and 4) The frequency of injuries.

b. Business should abandon the misconception that accidents occur exclusively as a result of product misuse and abuse, and that they are thereby absolved of all

responsibility.

c. Business must monitor the manufacturing process itself. d. When a product is ready to be marketed, businesses should have their product

safety staff review their market strategy and advertising for potential safety

problems.

e. When a product reaches the marketplace, businesses should make available to consumers written information about the product’s performance.

f. Businesses should investigate consumer complaints in a timely manner. 4. Morally speaking, no one is asking for an accident- and injury-proof product, only that

a manufacturer do everything reasonable to approach that ideal.

a. Shaw and Barry go on to give examples of companies and industries that do not act morally and two companies, JCPenney and Johnson Wax, that have acted

morally.

IV. Product Quality (NIB-§ 6-2a) A. Overview (NIB-§ 6-2a)

1. The demand for high-quality products is closely related to a number of themes mentioned in the discussion of product safety.

a. Most people would agree that business bears a general responsibility to ensure that the quality of a product measures up to the claims made about it and to

reasonable consumer expectations.

b. They would undoubtedly see this responsibility as deriving primarily from the

consumer’s basic right to get what he or she pays for.

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2. There are numerous ways in which business assumes responsibilities to consumers for product quality and reliability, a few of which will be discussed here.

B. Express Warranties (NIB-§ 6-2a) 1. Express warranties are the claims that sellers explicitly state.

a. Assuming that the buyer relies on this explicit statement when purchasing the goods, the express warranty becomes part of the contractual transaction between

the buyer and the seller.

2. Express warranties can be created in one of three ways: a. By an affirmation of fact or promise about the goods. b. By a description of the goods. c. By a model or sample of the goods.

3. Problems: a. Since express warranties are contractual in nature, the law allows the seller to

disclaim or limit the warranty in most circumstances.

b. Since express warranties are contractual in nature, the privity doctrine applies in most circumstances. However, the law has expanded the privity doctrine here to

include manufacturers, not just retailers, if the manufacturer is the one making the

express warranty.

C. Implied Warranties (NIB-§ 6-2a) 1. An implied warranty is one that the law derives by inference from the nature of the

transaction or the relative situations or circumstances of the parties.

a. Unlike express warranties, implied warranties automatically arise from the transaction; the seller does not have to make an explicit statement.

b. However, like express warranties, implied warranties are contractual in nature. c. There are two major types of implied warranties: the implied warranty of

merchantability and the implied warranty of fitness for a particular purpose.

2. The implied warranty of merchantability is created when goods are sold by a merchant seller.

a. A merchant seller is a person who normally sells goods of this kind. b. Goods are tangible, movable personal property and are divided into two

categories for purposes of the implied warranty of merchantability: food goods

and non-food goods.

1) Food goods are defined as any good consumable on or off the premises of the seller.

2) Non-food goods are any good that is not a food good. c. Food Good Standard: To be considered merchantable, food goods must be fit to

eat on the basis of consumer expectations—that is, would a reasonable

consumer consuming such goods find them fit to eat.

d. Non-Food Good Standard: To be considered merchantable, non-food goods must be fit for the ordinary purposes for which such goods are sold.

3. The implied warranty of fitness for a particular purpose is created when the following conditions are met:

a. The seller or lessor has reason to know the particular purpose for which a buyer or lessee will use the goods;

b. The buyer or lessee is relying on the skill and judgment of the seller or lessor to

select suitable goods; and

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c. The goods do not meet the buyer’s or lessee’s expressed needs. 4. Problems:

a. Since implied warranties are contractual in nature, the law allows the seller to disclaim or limit the warranty in most circumstances.

b. Since the implied warranties are contractual in nature, the privity doctrine applies in most circumstances. However, the law has expanded the privity doctrine here

to protect non-buyers in the buyer’s family, household, or guests of the buyer.

5. The Magnuson-Moss Warranty Act was enacted as an attempt to improve the quality of warranties given by manufacturers to consumers. As such, it only applies to

consumer goods—goods sold primarily for personal, family, or household use.

a. The Act does not regulate the safety or quality of consumer goods but does seek to make consumer warranties easier to understand, to prevent deceptive warranty

practices, and to provide a relatively effective method of enforcing warranty

obligations.

b. The Act prohibits a disclaimer of implied warranties whenever one of the following occurs:

1) An express written warranty is given; or 2) A service contract is made with the consumer within ninety days after the

sale (a service contract is where the warrantor promises to service and

repair a product for a set period of time in exchange for a fixed fee).

D. The Federal Food, Drug, and Cosmetic Act (FDCA) of 1938 (NIB) 1. The FDCA is administered by the Food and Drug Administration (FDA).

a. The FDA is empowered to regulate food, food additives, drugs, cosmetics, and medicinal devices.

2. Regulation of Food – The FDCA prohibits the shipment, distribution, or sale of adulterated food.

a. Food is deemed adulterated if it consists in whole or in part of any “filthy, putrid, or decomposed substance” or that is otherwise “unfit for food.”

1) Note that food does not have to be entirely pure to be distributed or sold—it only has to be unadulterated.

2) For example, the FDA has set ceilings/”action levels” for certain contaminants, or “defects,” as the FDA likes to call them from various

foods. Some of these action levels are:

a) Golden Raisins – 35 fly eggs per eight ounces. b) Popcorn – 2 rodent hairs per pound. c) Shelled Peanuts – 20 insects per 100 pounds. d) Canned Mushrooms – 20 maggots per 3 1/2 ounces. e) Tomato Juice – 10 fly eggs per 3 1/2 ounces.

b. The FDCA also prohibits false and misleading labeling of food products. In addition, it mandates affirmative disclosure of information on food labels,

including the name of the food, the name and place of the manufacturer, and a

statement of ingredients.

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3. Regulation of Drugs – The FDCA gives the FDA the authority to regulate the testing, manufacture, distribution, and sale of drugs.

a. The Drug Amendment to the FDCA, enacted in 1962, gives the FDA broad powers to license new drugs in the United States through a formal application

process.

b. It allows the FDA to withdraw approval of any previously licensed drug. c. It requires all users of prescription and nonprescription drugs to receive proper

directions for use and adequate warnings about any related side effects.

d. It prohibits the manufacture, distribution, or sale of adulterated or misbranded drugs.

4. Regulation of Cosmetics – Under the FDCA, the FDA has issued regulations that require cosmetics to be labeled, to disclose ingredients, and to contain warnings if they

are carcinogenic (cancer-causing) or otherwise dangerous to a person’s health.

a. The FDA’s definition of cosmetics include substances and preparations for cleansing, altering the appearance of, and promoting the attractiveness of a

person. Ordinary household soap is expressly exempted from this definition.

b. The manufacture, distribution, or sale of adulterated or misbranded cosmetics is prohibited.

c. The FDA may remove from commerce cosmetics that contain unsubstantiated claims of preserving youth, increasing virility, growing hair, etc.

5. Regulation of Medicinal Devices – The Medicinal Device Amendment to the FDCA in 1976 gave the FDA authority to regulate medicinal devices, such as heart

pacemakers, kidney dialysis machines, defibrillators, surgical equipment, and other

diagnostic, therapeutic, and health devices.

a. The mislabeling of such devices is prohibited, b. The FDA is empowered to remove “quack” devices from the market.

6. Other Acts Administered by the FDA – In addition to the FDCA, the FDA administers the following statutes and amendments to the FDCA:

a. Pesticide Amendment of 1954 – Authorizes the FDA to establish tolerances for pesticides used on agricultural products.

b. Food Additives Amendment of 1958 – Requires FDA approval of new food ingredients or articles that come in contact with food, such as wrapping and

packaging materials.

c. Color Additives Amendment of 1960 – Requires FDA approval of color additives used in foods, drugs, and cosmetics.

d. Animal Drug Amendment of 1968 – Requires FDA approval of any new animal drug or additive to animal food.

E. The Ethical Responsibilities of Business Regarding Product Quality (NIB) 1. Again, simply obeying regulations and laws does not exhaust the moral responsibilities

of business in the area of product quality.

2. In addition, consumers today are more militant than ever in their insistence on product quality and on getting exactly what they paid for.

3. Therefore, attending to the following points would go a long way in helping business behave morally with respect to product quality:

a. Have we lived up to any promises explicitly made to the consumer? b. Have we lived up to any promises implicitly made to the consumer?

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c. Have we provided the consumer with adequate information about the product? d. Is this information written in a clear and concise manner? e. Are any warnings related to product quality conspicuous?

V. Labeling and Packaging (§ 6-2c) A. Overview (NIB-§ 6-2c)

1. Business has a responsibility to provide accurate, clear, and understandable product information that meets consumer needs.

2. Labeling and Packaging Laws (NIB) – A number of federal and state laws deal specifically with the information given on labels and packages.

a. In general, labels must be accurate, and they must use words that are easily understood by the ordinary consumer.

1) In some instances, labels must specify the raw materials used in the product. 2) In other instances, the product must carry a warning.

3. Federal Statutes – There are numerous federal laws regulating the labeling and packaging of products. These include the following:

a. The Wool Products Labeling Act of 1939. b. The Fur Products Labeling Act of 1951. c. The Flammable Fabrics Act of 1953. d. The Fair Packaging and Labeling Act of 1966. e. The Comprehensive Smokeless Tobacco Health Education Act of 1986.

B. Food Labeling (NIB) 1. The Food, Drug, and Cosmetic Act (FDCA) discussed earlier prohibits false and

misleading labeling of food products.

a. In addition, it mandates affirmative disclosure of information on food labels, including the name of the food, the name and place of the manufacturer, and a

statement of ingredients.

2. The Fair Packaging and Labeling Act (FPLA) of 1966: a. The purpose of the Act is to enable consumers to obtain accurate information

with respect to the quantity (of the contents) of products and to make meaningful

comparisons of similar products.

b. The FPLA requires the labels on consumer goods to identify: 1) The product; 2) The manufacturer, processor, or packager of the product and its address; 3) The net quantity of the contents of the package; and 4) The quantity of each serving if the number of servings is stated.

c. Label must use simple and clear language that a consumer can understand. d. This Act is administered by the Federal Trade Commission (FTC) and the

Department of Health and Human Services.

3. The FPLA was amended by the Poison Prevention Packaging Act (PPPA) of 1970: a. Many children suffer serious injury or death when they open household products

and inhale, ingest, or otherwise mishandle dangerous products.

b. The PPPA is intended to avoid this problem by requiring manufacturers to provide “childproof” containers and packages for all household products.

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4. The Nutrition Labeling and Education Act (NLEA) of 1990: a. The NLEA requires food manufacturers and processors to provide more

nutritional information on virtually all foods and bars them from making

scientifically unsubstantiated health claims.

b. It requires the more than 20,000 food labels found on grocery store shelves to disclose the number of calories derived from fat and the amount of dietary fiber,

saturated fat, cholesterol, and a variety of other substances.

c. It applies to packaged foods as well as fruits, vegetables, and raw seafood. 1) Meat, poultry, and egg products, which are regulated by the Department of

Agricultural, are exempt from the Act, as are restaurant food and prepared

dishes sold in supermarkets or delicatessens.

d. It regulates the use of such terms as fresh and low-fat. e. It is administered by the FDA.

C. Misleading Packaging (NIB-§ 6-2c) 1. Purposely packaging items differently than competitors to try to mislead consumers

presents a problem.

a. Tall and narrow cereal boxes look larger than short, squat once but actually contain more serial.

b. Package terms such as large, extra-large, jumbo, economy size, and value pack frequently confuse or mislead shoppers about what they are buying and how good

a deal they are getting.

c. For example, a quantity surcharge occurs when a retailer sells an item packaged as “economy size” or other similar designation, but the per unit charge on the

economy size package good is actually more than on a regular packaged good.

2. Even though there are no laws preventing retailers from continuing these practices as long as the package is properly labeled, it presents a moral issue when manufacturers

or retailers purposely use such packaging to mislead consumers.

D. The Ethical Responsibilities of Business Regarding Labeling and Packaging (NIB-§ 6-2c) 1. Again, simply obeying regulations and laws does not exhaust the moral responsibilities

of business in the area of labeling or packaging.

2. Sound moral conduct in this area must rest on a strong desire to provide consumers with clear and usable information about the goods labeled and packaged so they can

make intelligent comparisons and choices.

3. Those responsible for labeling and packaging would be well advised to consider at least the following questions, a negative answer to any of which could signal a moral

problem:

a. Is there anything about the packaging that is likely to mislead consumers? b. Have we clearly and specifically identify the exact nature of the product in an

appropriate part of the label?

c. Is the net quantity prominently displayed? d. Is it readily understandable to those wishing to compare prices? e. Are ingredients listed so they can be readily recognized and understood? f. Have we indicated and represented the percentage of the contents that is filler,

such as the bone in a piece of meat?

g. Have we identified any ingredients that may cause persons with dietary

restrictions or allergies a problem?

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VI. Pricing (§ 6-2b) A. Overview (NIB-§ 6-2b)

1. Pricing is one of the four components of a businesses’ marketing mix. a. A firm’s marketing mix is the planned mix of the controllable elements of a

product’s marketing plan commonly termed as 4Ps: product, price, place, and

promotion.

b. These four elements are adjusted until the right combination is found that serves the needs of the product’s customers, while generating optimum income.

2. Shaw and Barry break product pricing into three moral and legal categories: manipulative pricing, price fixing, and price gouging.

a. I have also added two other important categories: price discrimination and predatory pricing.

B. Manipulative Pricing (§ 6-2b) 1. Generally, any type of pricing that misleads consumers about a product’s true cost is

considered manipulative.

a. Shaw and Barry discuss areas such as hidden charges, surcharges, and other stealth fees; suggested retail pricing; promotional pricing; and rebates.

b. The following are some of the main federal laws dealing with manipulative/deceptive pricing.

2. Price Misrepresentation (NIB) – The Federal Trade Commission (FTC) has issued a series of guides against deceptive pricing that set forth certain principles by which the

FTC will judge the merits of price claims. These guides are not law but are useful to

avoid FTC attack. The FTC guidelines deal primarily with five different types of

claims:

a. Comparisons of the Sale Price to a Former Price – The comparison must be truthful (e.g., An object with a $100 price tag that never sold for more than $95

cannot be marked “Formerly $100”) and, if such a comparison is otherwise

properly made, the reduction must be at least 10%.

b. Comparable Products – One may compare only the identical merchandise, and the price quoted must be genuine (e.g., “The same lawn mower would cost you

$400”).

c. Suggested Retail Price – A manufacturer may not assist a retailer in deceiving the public by listing a suggested price that is in fact well above the price that

anyone charges in the area.

d. Bargain Based on the Purchase of Something Else – The FTC guidelines do not permit the seller to raise the original purchase price or to reduce the size or

quality of the bargain product (e.g., “Buy one get one free”).

e. False Claims to Explain a Sale Price – A seller cannot use a false reason to place a product on sale nor can it classify something as a “limited time offer” if

the offer goes on indefinitely (e.g., going-out-of-business sale).

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C. Price-Fixing (§ 6-2b) 1. Section 1 of the Sherman Antitrust Act (NIB) – Section 1 outlaws certain restraints

of trade which can be broadly divided into horizontal restraints of trade and vertical

restraints of trade.

a. A horizontal restraint of trade occurs when two or more competitors at the same level of distribution enter into a contract, combination, or conspiracy to

restrain trade.

b. A vertical restraint of trade occurs when two or more parties on different levels of distribution enter into a contract, combination, or conspiracy to restrain trade.

c. Price-fixing can be either horizontal or vertical. 2. Horizontal Price-Fixing – Horizontal price-fixing occurs where the competitors in the

same line of business agree to set prices for goods and services they sell.

a. Price-fixing is defined as raising, depressing, fixing, taking, or stabilizing the price of a commodity or service.

b. Illegal price-fixing includes setting minimum or maximum prices or fixing the quantity of a product or service to be produced or provided.

c. Although most price-fixing agreements occur between sellers, an agreement among buyers to set the price they will pay for goods or services is also price-

fixing.

d. Horizontal price-fixing is a per se violation of Section 1. 1) Under the Sherman Antitrust Act, a per se violation means that there are no

defenses or justifications of any kind—such as “the price-fixing helps

consumers or protects competitors from ruinous competition”—that can

prevent the per se rule from applying.

2) In other words, it is automatically illegal. 3. Vertical Price-Fixing – Vertical price-fixing (more commonly referred to as “resale

pricing maintenance”) occurs when a party at one level of distribution enters into an

agreement with a party at another level to adhere to a price schedule that either sets or

stabilizes prices.

a. The definitions of price-fixing and illegal price-fixing remain the same as in horizontal price-fixing.

b. Vertical price-fixing is also a per se violation of Section 1. D. Price Gouging (§ 6-2b)

1. Price gouging is better understood as a seller’s exploiting a short-term situation in which buyers had few purchase options for a much-needed product by raising prices

substantially.

a. All 50 states have laws prohibiting price gouging. b. For example, Oklahoma’s price-gouging law stipulates that prices cannot jump

more than 10 percent above the price charged immediately before the declaration,

unless the spike is caused by non-emergency factors and does not result in a profit

increase.

1) For Oklahoma’s Emergency Price Stabilization Act (i.e., Oklahoma’s price gouging law), the Governor and Attorney General must declare an

emergency.

2) Other states’ laws are similar to Oklahoma’s law.

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c. In non-emergency situations, price gouging is generally thought to be unethical although there is disagreement about what it is and whether all instances of it are

wrong.

1) The main reason why there is this disagreement is because the question “What is a fair price?” is not an easy one to answer.

2) One must consider the costs of material and production, operating and marketing expenses, profit margin, etc.

E. Price Discrimination (NIB) 1. Section 2(a) of the Clayton Act as amended by the Robinson-Patman Act (NIB) –

Section 2(a) prohibits price discrimination if it directly or indirectly substantially

lessens competition such that it tends to produce a monopoly.

2. Direct price discrimination occurs if all of the following are present: a. Sales to two or more purchasers of a product at approximately the same time, but

at different prices;

b. The goods sold must be of “like grade and quality”; and c. The plaintiff must have suffered actual injury because of the price discrimination.

3. Indirect price discrimination occurs when a purchaser is favored over another purchaser, other than through price differences (e.g., favorable credit terms or freight

charges).

4. Defenses to Section 2(a) Price Discrimination: a. Cost Justification Defense – Any differences in the cost of manufacture, sale, or

delivery of the product qualify.

b. Meeting the Price of Competition Defense – The seller may lawfully engage in price discrimination to meet a competitor’s price.

c. Changing Market Conditions Defense – Price discrimination is not unlawful if it is in response to changing conditions in the market for the marketability of the

goods.

F. Predatory Pricing (NIB) 1. Section 2 of the Sherman Antitrust Act – Section 2 outlaws monopolizing,

attempting to monopolize, and conspiring to monopolize any part of interstate or

foreign commerce.

a. Thus, two distinct types of behavior are subject to sanction under Section 2: monopolization and attempts to monopolize.

2. A tactic that may be involved in either offense is predatory pricing. a. Predatory pricing occurs when one firm (the predator) attempts to drive its

competitors from the market by selling its product at prices substantially below

the normal costs of production.

b. Once the competitors are eliminated, the predator will raise its prices far above their competitive levels to recapture its losses and earn higher profits.

G. The Ethical Responsibilities of Business Regarding Pricing (NIB-§ 6-2b) 1. Again, simply obeying regulations and laws does not exhaust the moral responsibilities

of business in the area of pricing.

2. Product price reflects in part the consuming public’s judgment of the relative value of the good.

a. Ideally, this judgment is formed in the open market in a free interplay between

sellers and buyers.

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b. Therefore, for this process to function satisfactorily, buyers must be in a position to exercise informed consent.

c. Informed consent calls for the liberation and free choice, which require intern that buyers understand all significant relevant facts about the goods and services they

are purchasing.

3. Therefore, businesses’ main moral responsibility regarding pricing is to always provide clear, accurate, and complete information about pricing to consumers.

VII. Deception and Unfairness in Marketing Promotion/Advertising (§ 6-3) A. Overview (NIB-§ 6-3)

1. Seller sometimes engage in unfair, deceptive, or abusive marketing promotion techniques.

a. Shaw and Barry discuss four different types of techniques: ambiguity, concealment of facts, exaggeration, and psychological appeals.

2. If these practices result in fraud, an injured consumer can bring a civil action to recover damages. (In addition, the Lanham Act allows companies to sue competitors for false

advertising if that competitor’s advertising in accurately portrays either companies’

goods or services.)

a. However, such actions are not always brought because it is difficult, costly, and time-consuming to prove fraud.

b. Therefore, the federal government has enacted statutes to regulate sellers’ behavior.

c. These laws are administered by the FTC and will be discussed after looking at the four different types of deceptive techniques.

3. Finally, a particularly troublesome area of marketing to children will be discussed. B. Unfair, Deceptive, or Abusive Promotion Techniques (NIB-§ 6-3a)

1. Ambiguity – This is a deceptive marketing promotion technique because it conflicts with businesses’ responsibility to provide clear product information.

a. Ambiguous marketing promotions occur when information provided by the business can be understood in two or more ways.

b. Aiding and abetting ambiguity is the use of weasel words, words used to evade or retreat from a direct or forthright statement.

c. The fact that ads are open to interpretation does not exonerate marketing promotions from the obligation to provide clear information. Indeed, this fact

intensifies their responsibility, because the danger of misleading through

ambiguity increases as the promotion is subject to interpretation.

2. Concealment of Facts – This is a deceptive marketing promotion technique because it conflicts with business’s responsibility to provide adequate and accurate product

information.

a. Marketing promotions that conceal facts suppressed information that is unflattering to their products.

b. They neglect to mention or they distract consumers’ attention away from information, knowledge of which would probably make their products less

desirable.

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c. Problem: The moral demand for full information challenges almost all marketing promotions, especially advertising.

1) Even the best advertisements never point out the negative features of their products or concede that there is no substantive difference between the

product being advertised and its competitors, as is often the case.

2) Most advertisers would be shocked at the suggestion that honesty requires an objective presentation of the pros and cons of their products, and in fact

consumers do not expect advertisers or salespeople to be impartial.

3) Nevertheless, Shaw and Barry state that it is not clear why this moral value should not be relevant to assessing marketing promotions.

3. Exaggeration – This is a deceptive marketing promotion technique because it conflicts with businesses’ responsibility to provide accurate information.

a. Exaggeration is defined as making claims unsupported by evidence. b. Shaw and Barry say that if the exaggeration uses harmless superlatives it is called

“puffery”—for example, “breakfast of champions.”

c. If the exaggeration is deliberate and not harmless, then it’s deception. 4. Psychological Appeals – A psychological appeal is a persuasive effort aimed

primarily at emotion, not reason.

a. Since this type of marketing promotion “bypasses” reason, it is potentially the technique of greatest moral concern.

b. A special type of advertising designed to bypass a person’s ability to reason is subliminal advertising.

1) Subliminal advertising is advertising that communicates at a level beneath conscious awareness, where, some psychologists claim, the vast reservoir of

human motivation primarily resides.

C. The Federal Trade Commission’s Role (§ 6-3b) 1. The Federal Trade Commission Act (FTCA) was enacted in 1914.

a. The Federal Trade Commission (FTC) was created the following year. b. The FTC is empowered to enforce the FTCA as well as other federal consumer

protection statutes.

2. Section 5 of the FTCA prohibits unfair and deceptive practices. a. To be deceptive, the representation, omission, or practice must be likely to

mislead a reasonable consumer under the circumstances.

1) A reasonable consumer does not believe everything he/she hears or reads. 2) However, a marketing promotion that appears to be based on factual

evidence but in fact is not reasonably supported by some evidence will be

deemed deceptive.

3) Likewise, marketing promotions containing “half-truths,” meaning that the presented information is true but incomplete and therefore leads consumers

to a false conclusion, may be deceptive.

4) Finally, marketing promotions that contain an endorsement by a celebrity may be deemed deceptive if a celebrity does not actually use the product.

b. Additionally, the representation, omission, or practice must be material. 1) Something is material if it is important to reasonable consumers and is

likely to affect their choice of a product or service.

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c. The FTC may proceed against any marketing promotion that is “unfair, even if it is not deceptive.” A marketing promotion is considered unfair if it:

1) Offends public policy; 2) Is immoral, unethical, or unscrupulous; or 3) Is likely to cause substantial consumer injury that consumers could not

reasonably avoid and that is not outweighed by the benefit to consumers or

competition.

d. Reasonable-Consumer Standard versus Ignorant-Consumer Standard – There is an ongoing debate on which standard the FTC should use in determining whether

an advertisement is deceptive.

1) If the FTC uses the reasonable-consumer standard, it would prohibit only advertising claims that would deceive reasonable people.

2) If the FTC uses the ignorant/gullible-consumer standard, it would prohibit advertising claims that might mislead someone who is ill informed

and naïve.

3) In the FTC v. Standard Education (1937) the U.S. Supreme Court advocated a change of standard to something like the ignorant-consumer

standard.

a) As Ivan Preston notes, this led the FTC to apply the ignorant-person standard liberally, even in cases in which there was no intent to

deceive.

b) Eventually, however, the FTC abandoned the ignorant-consumer standard in its extreme form and stopped trying to protect every body

from everything that might possibly deceive them.

c) The FTC now uses what Shaw and Barry term the modified ignorant/gullible-consumer standard:

i) The reasonable-consumer standard applies to most ads aimed at average adults.

ii) When ads are targeted to “vulnerable groups,” the FTC judges the complaint from the perspective of an average member of that

group. This is a stricter standard of deception.

e. Note: The Supreme Court has given commercial speech such as advertising a significant degree of First Amendment protection. However, the constitutional

safeguards afforded by the First Amendment do not extend to unfair or deceptive

marketing promotional practices.

3. Bait-and-Switch Advertising (NIB) a. A common deceptive retail trade practice is the bait and switch.

1) The retailer baits the prospective customer by advertising an attractive sale (e.g., “A genuine flawless 3-carat diamond—only $1,000—hundreds to

choose from”).

2) But when the customer arrives, he/she finds that the advertised product is sold out or, if not, that the salesperson disparages the product and switches

the customer to a more profitable item.

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b. The FTC guides list several unfair trade practices with respect to bait advertising, including:

1) Deliberately discouraging the potential buyer from purchasing the advertised product;

2) Refusing to show or demonstrate the advertised product; 3) Disparaging the product; 4) Failing to stock enough of the advertised product to meet anticipated

demand (e.g., a national advertising campaign by a retail electronics store

chain when each store has only two of the advertised items in stock);

5) Demonstrating a defective product; or 6) Stating that delivery of the advertised product will take an unreasonable

amount of time.

4. Online Deceptive Advertising (NIB) a. The FTC has issued guidelines to help online businesses comply with existing

laws prohibiting deceptive advertising.

b. These guidelines include three basic requirements: 1) All ads—both online and off-line— must be truthful and not misleading. 2) Any claims made in an ad must be substantiated (i.e., advertisers must have

evidence to back up their claims).

3) Ads cannot be “unfair.” c. The guidelines also call for “clear and conspicuous” disclosure of any qualifying

or limiting information.

1) The FTC suggests that advertisers should assume that consumers will not read an entire Web page.

2) Therefore, to satisfy the “clear and conspicuous” requirement, online advertisers should place the disclosure as close as possible to the claim

being qualified or include the disclosure within the claim itself.

3) If such placement is not feasible, the next best location is on a section of the page to which a consumer can easily scroll.

4) Generally, hyperlinks to disclosures are recommended only for lengthy disclosures or for disclosures that must be repeated in a variety of locations

on the Web page.

D. Ads Directed at Children (§ 6-3c) 1. Advertising to children is big business.

a. Every year children under 12 spent $33 billion and teenagers a whopping $155 billion.

b. Advertisers now spend more than $1.5 billion a year on ads for children through various means.

2. Marketing promotions to children attend to accomplish two goals: a. Cause the child to directly buy the product and/or build future brand loyalty. b. Especially for younger children, rely on the child to pester his/her parents to buy

the product instead of marketing to the parents directly.

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3. Problem: Children are particularly susceptible to the exaggerations of advertising. They tend to interpret ads literally.

a. Some writers contend that it is ethical to advertise toys, sugar-loaded cereal or non-violent games to children as long as it is truthful and as long as children

understand the message.

b. Most ethicists believe that this overlooks children’s special susceptibilities and the need to protect them from manipulation and endless commercial enticement.

4. Childhood Obesity – The Institute of Medicine’s 2005 report, reviewing 123 research studies over 30 years, showed that exposure to TV ads is “associated” with obesity in

children under twelve.

a. Meanwhile, legal and political pressure has been building on food companies, which spend $11 billion a year marketing to kids, to change their ways and rein in

their advertising of nutritionally empty calories to children.

b. Problem: If companies fail to act morally in advertising to children, they risk the federal government passing a law regulating what they can promote and how they

can promote products to children.

VIII. The Debate over Advertising (§ 6-4) A. Consumer Needs (§ 6-4a)

1. Some defenders of marketing promotions in general and advertising specifically concede that images of glamour, sex, or adventure sell products, but they argue that

these images are what consumers want.

a. Theodore Levitt has drawn an analogy between advertising and art stating that both take liberties with reality but help people modify, transform, embellish,

enrich, and reconstruct the world around them. Without distortion,

embellishment, and elaboration life would be drab, dull, anguished, and at its

existential worst.

2. Critics of Levitt point out that the imaginative, symbolic, and artistic content of advertising, which Levitt sees as answering real human needs, is viewed by critics as

manipulating, distorting, and even creating those needs.

a. John Kenneth Galbraith agrees stating that producers create both the goods and the demand for those goods.

b. Accordingly, Galbraith rejected the economist’s traditional faith in consumer sovereignty (the idea that consumers should and do control the market through

their purchases) saying it is the other way around.

c. According to Galbraith, as a society becomes increasingly affluent, wants are increasingly created by the process by which they are satisfied. He dubbed this

the dependence effect.

3. According to Galbraith, this leads to two consequences: a. One consequence is that our system of production cannot be defended on the

ground that it is satisfying urgent or important wants.

b. Another consequence is our general preoccupation with material consumption which causes us to neglect important public goods and services.

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4. Galbraith’s critics have concentrated on a couple of points: a. First, Galbraith never shows that advertising has the power he attributed to it. b. Second, critics have attacked Galbraith’s assumption that the need supposedly

created by advertisers and producers are, as a result, “false” or “artificial” needs

and therefore less worthy of satisfaction.

B. Market Economics (§ 6-4b) 1. Defenders of advertising see it as an aspect of free competition in a competitive market,

which ultimately works to the benefit of all. They also contend that advertising is

necessary for economic growth, which benefits us all.

2. However, this simple free-market defense of advertising has weaknesses: a. First, advertising does not fit too well into the economist’s model of the free

market. This model assumes that everyone has full and complete information

which, if true, would mean advertising would be pointless.

b. Second, it is doubtful that advertising moves one closer to the ideal of full information because, even if truthful and non-manipulative, it enhances brand

loyalty which generally works to thwart price competition.

c. Third, since the goal of advertisers is to sell products and to make money, there is no reason to think that advertising tends to maximize the well-being of

consumers.

d. Fourth, critics maintain that advertising is a waste of resources and serves only to raise the price of advertised goods.

e. Fifth, Galbraith and others contend that advertising in general reinforces mindless consumerism.

C. Free Speech and the Media (§ 6-4c) 1. Shaw and Barry discussed to final issues related to advertising in this section: free

speech and the subsidizing of the media by advertising.

2. Defenders of advertising claim that, despite criticisms, advertising enjoys protection under the First Amendment as a form of speech.

a. As previously mentioned, the Supreme Court has ruled that the constitutional safeguards afforded by the First Amendment do not extend to unfair or deceptive

marketing promotional practices including advertising.

3. Defenders of advertising claim that it subsidizes the media. a. Although a positive, it is far from conclusive consideration in its favor. b. For example, the fact that American television is free results in far more

consumption than would otherwise be the case and probably, as many think, far

more than is good for us.

IX. Study Corner (§ 6-5)