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Decoding psychological pricing: Prospect theory and Loss aversion
Pricing and price visualisation plays a crucial role in impacting consumer choices through the intricate web of psychology. Understanding psychological pricing can give you an edge in marketing and pricing strategy. It's all about understanding consumer psychology to make your offerings irresistible, rather than just the numbers on a price tag. As we continue our series on scientifically supported principles, in this part of the series, we’ll discuss Prospect Theory and Loss Aversion.
The intersection of behavioral economics and marketing has created some of the most ingenious techniques for capturing consumer attention and inciting purchasing action. At the forefront of this technique is Prospect Theory – a concept so potent that its creators, Daniel Kahneman and Amos Tversky, altered fundamental assumptions about human decision-making and rewrote the rules for 21st-century marketers.
What is prospect theory?
Prospect theory is all about how we, as human beings, perceive value. It underscores the simple reality that people are not always rational, and economic decisions are not always made based on final outcomes of maximal utility. Instead, losses and gains are immediate, causing emotional reactions that can transform the landscape of what's considered 'valuable.'
Prospect Theory proposes that individuals tend to value losses and gains differently. This theory, also known as Loss Aversion, suggests that people tend to make decisions based on potential gains rather than potential losses. The foundation of this theory lies in two key principles: Loss Aversion (the feeling of loss being stronger than the pleasure of an equivalent gain) and the importance of Framing (the impact of how options are presented).
Understanding this theory is the first step in leveraging it to create pricing (and communication) strategies that appeal to the deeper workings of the human psyche, but it's just the beginning. As we continue our series on psychological pricing techniques, we're going to explore in-depth how you can apply Prospect Theory to revamp your pricing communication and gain a competitive edge in the market.
How to apply prospect theory when messaging your prices?
How many times have you seen a banner flash 'Only 5 left!' and it's those last few that seal the deal for you? This strategy is not just a coincidence but a clever use of scarcity to trigger loss aversion. The fear of missing out (aka FOMO) is a powerful psychological motivator, compelling consumers to act quickly lest they 'lose' an advantage.
Or let’s take a warranty as an example to make things even clearer. Money-back guarantees, free trial periods, and satisfaction assurances not only reframe the purchase as an opportunity (the possibility of extra gain) - but can also drastically reduce a potential loss (i.e. being unsatisfied with the purchased product, seen as ‘money lost’) in consumers’ mind.
To implement the Loss Aversion principle in your pricing, consider these messaging approaches:
- Arrange prices strategically: When you arrange your products from highest to lowest price (e.g. as standard sorting in the web shop), customers are more likely to opt for the pricier options that are presented at the start. This behavior highlights how people gravitate towards avoiding losses, considering choice as a loss, and feeling the impact of loss.
By showcasing the more expensive items at the top of the list, customers perceive a decline in quality as they scroll down or look further onto the shelf, ultimately choosing the initially presented, more expensive selections as the 'safe choice'. So, think twice before prioritizing your lowest-priced items by default just to create an image of being an affordable brand.
- Strategic timing for discounts: Offering discounts towards the end of the month can significantly boost the effectiveness of marketing campaigns. Research shows that customers are more financially capable at the beginning of the month, making it an ideal time for promotional, non-discount activities. Discounts, conversely, are more positively received towards the end of the month as individuals prioritize saving money during this period. This timing aligns with the 'Bottom Dollar Effect' in behavioral economics, where expenses feel more burdensome towards the month's end.
So, to link this with the Loss Aversion theory: the pain of losing extra dollars at the end of the month is harder than losing them at the beginning of the month. Making price discounts many people’s best friend at the end of the month.
- Implementing a steadily decreasing discounts (SDD) pricing strategy:
The steadily decreasing discounts (SDD) pricing strategy engages consumers in a psychological game. By gradually reducing discounts (instead of keeping them the same or increasing them!), customers are driven by a fear of missing out, anticipating future price increases. This fear prompts them to make purchases sooner (i.e. stimulating impulse buying) to avoid higher prices later, again leveraging the principles of loss aversion and scarcity.
In all these cases, the key is to gently guide the customer towards the feeling of 'missing out' on a product or a deal. This involves highlighting the potential 'loss' that the customer might experience by not making a purchase decision immediately.
The pitfall of overusing loss aversion strategies
The strategic use of loss aversion can be a powerful tool for marketers, but relying too heavily on playing up potential losses can diverge into manipulative territory, reducing trust in your brand and sacrificing long-term customer loyalty.
The ultimate goal shouldn’t be manipulation of your customers’ emotions but aligning with their needs and expectations in a way that builds trust and nurtures meaningful relationships.
In conclusion, tapping into loss aversion through the lens of prospect theory is a potent method on its own, however by combining this approach with a focus on building strong customer relationships, businesses can create a winning strategy that drives long-term success.
Using psychological communication techniques to maximize your sales is one thing, but setting the right price at the base, considering your brand strength and customer expectations, is something entirely different. Both are important.
If you're looking to take your business to the next level, you need to nail your pricing strategy. At boobook, we understand this and are committed to helping you navigate the complexities of pricing. Our approach combines robust consumer-based data analysis topped with insights from behavioural economics to create pricing strategies that align with your customers' decision-making processes.
Don’t miss our upcoming final article in this series on psychological pricing techniques, delving into cognitive biases and decoy methods with explanatory examples.
From PhD in consumer adoption of plant-based food to insights executive: Meet Listia, boobook's newest addition to the team
When you think of consumer insights experts, a biotechnology scientist might not be the first profile to come to mind. However, for Listia Rini, who recently joined the boobook team, this unconventional background gives her work a unique edge. Fresh from completing her PhD in consumer attitudes towards plant-based foods, Listia brings the team a unique blend of scientific rigour and consumer understanding.
Originally from Sumatra, Indonesia, and growing up in Jakarta, Listia's academic journey has taken her across continents. After completing her bachelor's degree in biotechnology in Indonesia, she pursued a Master's in Food Innovation and Health at the University of Copenhagen. It was during her master's research on sustainable soy milk that she discovered her true passion: understanding consumer behaviour.
But something felt missing. "I spent so much time in the lab, running tests and analysing samples," admits Listia. "I kept thinking about the people on the other side of all this research. "We can develop amazing products in the lab, but what's the point if consumers don't want them?" Listia reflects.
This realisation led her to a PhD position at Ghent University working on the Smart Protein project, a major European initiative involving 33 partners across the continent. Her research focused on consumer adoption of plant-based foods, mainly how social media influences awareness and acceptance of plant-based alternatives.
Revealing new customer insights about plant-based foods
While sustainability and environmental concerns drive interest in plant-based alternatives, most Europeans still identify themselves as omnivores and prefer their traditional meat-based diets. But what caught Listia's attention was a simple yet crucial finding: "People weren't avoiding plant-based foods because they didn't like them – they need more information about plant-based food,” she explains.
This led her down an unexpected path: studying how social media shapes our food choices. "Social media has completely changed how we learn about new foods," she says. "Information about plant-based options spreads like wildfire now. But there's a catch - anyone can post anything, and there's no fact-checking. It's a double-edged sword."
Making the leap
At boobook, Listia's scientific background adds a fresh dimension to the team. Managing complex studies across multiple countries during her PhD wasn't just an academic exercise - it taught her how to tackle real-world insights challenges and spot patterns in massive amounts of data.
When asked about her transition to boobook, Listia's enthusiasm is evident. "From my first conversation with the team, it felt authentic and comfortable—more like a friendly chat than a formal interview," she says. Despite having just completed her PhD, she opted against taking a break, drawn to boobook's holistic approach to consumer-driven insights and its warm company culture. "I immediately felt welcome. The atmosphere was warm, and everyone made me feel effortlessly included."
Looking ahead, Listia is excited to apply her consumer behaviour expertise beyond the food sector. While her background is in food, she's keen to explore other industries. "What excites me is seeing how our insights can make real changes for companies and consumers," she reveals.
AI and the human touch
Listia takes a measured view of the evolving role of technology in consumer insights. "AI is a tool to help you work more efficiently, but it shouldn't make the ultimate decisions," she argues, emphasising that human insight remains crucial. Her experience with social media research has shown her the potential and limitations of digital tools in understanding consumer behaviour.
As consumer insights industry continues to evolve, Listia's combination of academic rigour and practical focus on consumer needs positions her well for her new role. "In academia, we often go very deep into very specific topics," she reflects. "In business, it's about finding the core insights that can drive real change."
Beyond work
Listia is rediscovering her passions after intensely focusing on PhD studies. An avid cook who enjoys experimenting with plant-based recipes, she practices what she researched, having significantly reduced her meat consumption. "I make dumplings without meat, using more mushrooms and vegetables," she shares. Her other interests include swimming and exploring new places, particularly seeking authentic local experiences rather than tourist hotspots.
Listia's path from lab work to consumer insights is more than just an exciting career change - it shows how different ways of thinking can come together to solve problems.
The shift from academic deadlines to business timelines represents a new challenge but one that Listia welcomes. The practical application of research is precisely what drew her to the role, along with the opportunity to work across diverse sectors and methodologies.
"I'm excited to see where this takes me," Listia concludes. "Every project is different, every challenge is new, and that's exactly what keeps it interesting."
Decoding psychological pricing: Attribute substitution
Pricing strategies are pivotal in shaping, understanding, and predicting consumer purchasing decisions. In particular, psychological pricing communication techniques can have significant influence, tapping into the subconscious parts of consumer behaviour.
Our previous article discussed the cognitive association technique in psychological pricing strategy. In this article, we’ll discuss the power of the attribute substitution theory in pricing.
What is attribute substitution?
Attribute substitution is a cognitive process that occurs when faced with a mentally complex decision. Instead of grappling with the complexity, our brain substitutes this decision with an easier-to-perform task. This process underlies several cognitive biases and has a significant impact on consumer behavior.
For example, when shoppers are considering a complicated purchase, they often ignore technical and mentally challenging details, such as emission figures for a car. Instead, they make their decision - usually unconsciously - based on a simpler aspect, like the color of the car.
So, when we think about how we make a purchasing decision, attribute substitution uses intuition to influence how we perceive value and how much we're willing to pay. By understanding the power of substitution as a psychological pricing technique, we can gain profound insights into consumer decision-making processes.
How to apply attribute substitution?
As mentioned above, shoppers crave simplicity above everything when making purchasing decisions (in fact, this craving for simplicity applies to all aspects in life for most people).
Brands, products but also prices that are easier to think about and mentally process, tend to be more appealing. So, to attract your customers, the magic formula should be to keep it as simple as possible – and this applies first and foremost to your prices.
Here are a few examples of how you can apply attribute substitution in your pricing strategy and communication:
- Use rounded prices for emotional purchases: Rounded numbers are easy to process, making them ideal for emotional products like artwork or beauty products. Specific numbers, on the other hand, work better for rational purchases that appeal to the logical brain.
- Start with a high, exact price for negotiable products: Mentioning the exact price discourages significant deviations in heavy negotiation. Why? Because it's harder for the brain to jump from an exact number to a considerably lower one. This technique appeals to our primal brain, which prefers rounded numbers. Also, an exact (high) price more strongly communicates the idea: ‘This is the price, and you have to take it or leave it’.
- Offer discounts on bundled products: By bundling products, customers find it difficult to associate a specific value or price with each item. They get an interesting price for two (or more) products or services combined, making it impossible to allocate a specific cost to one of the items. This reduces the perceived pain of purchasing this one exact item, so customers never know how much they exactly paid for each item. This simplifies the decision-making process and reduces the perceived pain of purchase.
- Set small price differences between similar products: Offering the same prices for similar or identical products can make it challenging for consumers to choose between them, giving them stress of choice. Which one is the way to go if they cost the same? By setting small price differences (and one product serving as a price anchor, a reference point), consumers can compare, making the decision easier. Even if most consumers choose the cheapest option, it still generates more revenue compared to when customers can't choose and buy nothing.
- Provide a reason for the discount: This technique is based on the scarcity principle – which we’ll cover in the following article - in behavioral economics.
Explaining the discount adds an extra layer of temporality and urgency. It emphasizes that the discount is temporary and encourages people to buy now to avoid missing out.
Showing the reason behind the discount also provides an explanation and context to the consumer. When consumers (every human being actually), receive a reasoning for something (even if the reason doesn’t make that much sense…), this is always better accepted and faster processed. It instantly makes it an ‘easy task’ in consumers’ mind’, stimulating in turn the purchase behaviour.
- Use easy-to-process discounts: Offer discount percentages that are easy to calculate and use round numbers whenever possible. Consumers are more likely to respond positively to easy-to-process discounts because they avoid exact calculations, tapping into our primal emotion of happiness.
- Pull the safety/security card: People have a primal need for safety, and low probabilities are weighted more heavily. Highlighting the low probability of a negative outcome can make customers more willing to pay extra for the perceived increase in safety or security. For example, when marketing a premium antivirus software feature, there are two ways to present its effectiveness:
- "This upgrade increases your device's protection against viruses from 95% to 99%."
- "This upgrade reduces your device's risk of virus infection from 5% to 1%."
While both statements describe the same 4% improvement, the second approach is often more compelling to consumers. It frames the benefit as a five-fold reduction in risk (from 5% to 1%), which creates a stronger perceived value!
Interestingly, this perception persists even though the absolute risk was already low, and the actual impact on user experience may be minimal. This example illustrates how framing and cognitive biases can significantly influence consumer decision-making, even when the underlying facts remain the same.
Conclusion
It’s clear that well-thought pricing communication techniques that make use of the substitution theory can influence how consumers perceive the value, quality, and scarcity of products. However, as with other psychological tactics, this technique might raise ethical concerns about transparency. That is why businesses must use these techniques responsibly to ensure ethical standards and consumer interests in the marketplace.
As technology advances and consumer preferences change, the use of psychological pricing techniques will continue to take other formats and appear on other channels. In the future, researchers may explore the intersection of neuroscience, behavioural economics, and marketing to better understand how the brain responds to pricing strategies. By understanding how substitution affects consumer behaviour, industry experts can develop ethical and effective pricing strategies in the constantly changing marketplace.
To summarise, the relationship between substitution theory, intuitive brain stimulation, and psychological pricing (communication) techniques provides a fascinating perspective on consumer behaviour. If you're looking to take your business to the next level, you need to nail your pricing strategy and communication.
At boobook, we understand this and are committed to helping you navigate the complexities of pricing. Our approach combines robust consumer-based data analysis topped with insights from behavioural economics to create pricing strategies that align with your customers' decision-making processes. This drives profitability and business growth.
In our upcoming articles, we’ll talk about loss aversion and prospect theory, and how this pricing technique that can transform your approach to pricing strategy, so stay tuned!
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