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.
