Friday, September 03, 2010

"Drip" pricing

Tim Harford has a nice piece on the parallels between what behavioral economists are discovering about consumer behavior, and what firms do that appears to exploit that behavior. A snippet:
Many unscrupulous salesmen have figured this advice out for themselves already. Think of infomercials. “The TimCo smokemaster doesn’t retail for £200; it doesn’t retail for £100; it doesn’t retail for £50 … ” (anchoring to a price of £200) … “if our lines are busy, please try later” (social approval) … “the smokemaster is not available in regular stores” (loss aversion) … “but wait! When you buy the TimCo smokemaster you get the TimCo soup knife absolutely free” (complex pricing and use of “free”).

The UK’s Office of Fair Trading (OFT) has been turning to behavioural economists for advice on such tactics, and has found that there is no pricing scheme more pernicious than “drip pricing”. Under the scheme, customers agree to pay a price only to discover that there is a charge for delivery; another charge for paying by credit card, and another for insurance. Drip pricing taps into the endowment effect, because customers feel that they have already made the decision to purchase; it creates loss aversion because customers commit time and effort to the search before being hit with extra charges; and it is a form of complex pricing which makes it hard to compare offers.

The OFT research, conducted by consultants and academics at University College London, was based on a laboratory experiment in which students sat at a computer and were presented with hypothetical deals from two fictional retailers. The students were beguiled with various marketing tricks and had to decide from whom to purchase, in what quantity, and after how costly a search. There was no trick quite so guaranteed to confound them as drip pricing, in which they were hit first with an extra charge for handling and then with a charge for shipping. (A two-part drip is modest: according to the OFT, one package holiday provider used four unavoidable “drips”, and two computer retailers tacked on seven optional ones.)
Read it all.

Thanks to a student for the pointer.

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