The Psychology of Pricing

The Psychology of Pricing

There is a big difference between price and value. Understanding customer perceptions and customer logic is crucial for using value-based pricing as the foundation for a pricing strategy and price optimization.

However, how prices are presented and in what context this is done will also influence how we perceive the value these prices represent. Here are some examples of how psychology affects value and how we make choices.

 Anchoring

We compare new things to things we know. Hence, when we evaluate a price we compare it to other prices. For example, if a bar sells two different kinds of beer (but the beers are similar enough to be seen as substitutes for each other) that are priced differently, most people will prefer the cheaper alternative over the expensive. If the same bar introduces a third, and more expensive, beer than the other two, more people will opt for the beer that is now priced in the middle (and which used to be the more expensive alternative). By introducing a more expensive option than the previous alternatives, the reference for beer prices changes which in turn means that fewer people will choose the cheapest version.

And it even works on a deeper level than that. If people first are asked to write down the last two digits of their phone number and then to guess the price of a product, those with a higher phone number will suggest a higher price than those with a low number. The higher phone number sub-consciously triggers a higher number reference for us when we guess the price of the product.

 Decoy pricing

This is a version of anchoring, but where there is a product that is priced in such a way that there is no logic that can justify buying it. A classic case of this is the subscription campaign for the Economist, covered in for example Dan Ariely’s book Predictably Irrational. In the case, the Economist gave subscribers three options: digital subscription only at $59, print subscription only at $125 or digital and print combined, also at $125. Clearly, there is no logic in choosing the print only-option, as the same price would give you the combination of print and digital. The end result was that 84% of subscribers chose the combined offer, and 16% preferred the lower cost of digital-only.

However, the important insight is what happened when the print-only option was taken away from the form. In this new situation, print+digital at $125 is now compared with digital-only at $59. Suddenly the choice is not so obvious, and the result of this combination was that 68% chose the lower cost digital option, and only 32% the print+digital alternative.

 Symbolic triggers

Numerous experiments have shown that we humans are not very rational when it comes to analysing price perceptions. A few examples:

  • Prices (and terms and conditions) set in easily readable, legible type are seen as lower and less expensive than those set in type that is more difficult to read.
  • On the other hand, prices set in a large font size are seen as more expensive than those set in a smaller font size.
  • Adding more characters to the price (such as decimals and currency units) means the price looks more expensive. $ 122,85 looks more expensive than $ 125.
  • On a website or on a shop shelf, position matters. The product that is presented as the first product on the first row on a retail web site is seen as the most desirable option, even if other products to the right or further down on the page actually offer better value for money. In a retail environment, the same applies to center position in the middle shelf.

Deal making – bribe or reward?

Companies often want to sell more units and support this with a discounted price for larger quantities. In retail, this is sometimes called BOGOF (Buy One, Get One Free), although the promotion and discount conditions may of course vary. However, the way the promotional deal is presented also has a psychological impact. If the promotional deal is about buying 4 items costing $100 each and paying $ 300 for this, this deal can be presented in several different ways, such as:

  • Buy 4 and get 33% discount
  • Buy 4 and get $100 discount
  • Buy 4, pay for 3
  • Buy 3 and get 1 extra for free
  • Buy 3 and get 1 extra as a bonus

Which one is better? The underlying meaning of the first is that ”we seem to have a problem selling our product, so we have to reduce prices to get people to buy it”, whereas the last signifies ”thank you for buying from us; we value you as a customer and will reward you with a bonus”.  Which impression do you want to create with your special offer?