Imagine you walk into a Best Buy to purchase a new laptop. Maybe you come across a laptop that suits your needs with a price tag of $1,799. Although you like the brand and model, the price is a bit steep for you. As you’re about to walk away, a salesman approaches you and informs you that the laptop is on sale today for only $1599. This sways you a bit, but you had only intended to spend $1,400. The salesman sees you’re not yet convinced and lets you know that with the laptop, you can also snag a pair of AirPods for only $99 when the regular price is $199, now that’s a lot more convincing.

Although you only intended to spend $1,400, you left feeling satisfied that you snagged such a great deal. You are likely to walk away feeling happier than if you had picked up a laptop for $1,400 like you originally intended. It might be hard to believe, but that’s the power of pricing psychology.

In this instance, the following pricing psychology tactics were used to influence your decision:

• Charm Pricing (a form of Price Framing) — by setting the price at $1,799, you subconsciously perceive it as cheaper than $1,800, even though you know there is only a one-dollar difference.
• The anchoring bias  — because you anchor to the initial price of $1,799, $1,599 seems like a much more attractive deal.
• Product bundling — when the laptop is bundled with the AirPods, the overall perceived value of the purchase is increased.¹

Pricing psychology tactics like these are leveraged by businesses to influence how customers perceive the value of a product to make it more appealing. It is informed by behavioral economics, which shows that psychological, social, cognitive and emotional factors all play a role in our economic decisions. Businesses use this knowledge to increase sales while also maintaining customer satisfaction.¹

Price Framing: a marketing technique that changes the context of a price presentation without significantly changing the price itself to increase sales. For example, marketing a sale as “Buy one, get one free” instead of “50% off when you buy two” might appeal more to customers even though the price is the same.³

Zero Price Effect: the theory that free items are more attractive to us beyond what is rational considering their utility. For example, even if the drop in price to $0 is minimal (e.g. free ice cream instead of a $3 scoop), the increase in demand will be higher than what you would see if the reduction was from $7 to $3. 

Anchoring Bias:  a cognitive bias that causes people to rely heavily on the first information they encounter about an item. 

Decoy Effect: a cognitive bias where adding a third less attractive option influences our perception of two original choices.

Choice Architecture: the intentional crafting of an environment or context that is built to influence people’s decisions.

Loss Aversion: a cognitive bias that causes a loss to have a deeper emotional impact than the joy of experiencing an equivalent gain. 

Dynamic Pricing: a strategy widely used in e-commerce where prices fluctuate in real-time based on current demand and supply.⁴

Personalized Pricing: a strategy used by businesses where different customers are offered different prices based on their location, purchasing behavior, and history.⁵

In the 18th and 19th centuries, the dominant economic theory was that humans acted as rational agents in their economic decisions, choosing options that maximized benefits and minimized costs. This was based on the rational actor theory, which states people evaluate all the information available to them to decide based on self-interest. For this reason, before 1861, price tags didn’t even exist. The belief was that people would pay the price of a good based on the value it had to them, which meant that introducing fixed pricing could result in the sale of a product for less than a customer was willing to pay — leading to the seller losing out on potential profit.⁶

In 1861, John Wanamaker invented the price tag, believing that offering customers consistently low prices would appeal to them. This was a first step in realizing there was more to an economic decision than perceived benefits and costs. Wanamaker was also the first store owner to publish an advertisement in 1876 and later used various sales techniques to influence purchasing behavior.⁷

With the 20th century came the rise of behavioral economics, which showed that other factors, such as emotions, societal trends and pressures, and past experiences influence our decisions. Behavioral scientists argue that these different factors affect our decision-making and can cause us to deviate from pure rationality. 

At the same time, there was a rise in consumerism, which led to greater competition for businesses. This meant that businesses had to work even harder to be successful — it was no longer about selling a product or service at a reasonable price that matched the utility it would give people. In the 1960s, businesses focused on consumer psychology, researching how purchasing behavior could be influenced.⁸ By understanding emotional and cognitive factors that influence whether someone purchases a product, businesses could adjust their pricing and selling tactics to increase their success. 

Technological advancements have allowed businesses to conduct more in-depth consumer analysis. Thanks to access to big data, pricing psychology tactics have increased in popularity and utility. With the everyday use of e-commerce, businesses can implement new pricing tactics, such as dynamic pricing (fluctuating pricing based on external factors)⁴ and personalized pricing (fluctuating prices based on location, past purchasing behavior and browsing history).⁵ Today, pricing psychology is incredibly sophisticated thanks to data-driven decisions and a widely used strategy to lead to economic success.

John Wanamaker

Wanamaker was an American merchant in the 19th century, becoming a store owner and retailer at 22. He opened the first-ever department store in 1876 and introduced fixed pricing. Wanamaker was revolutionary in his time for inventing the price tag and using pricing psychology tactics like advertising and discounts.⁷

Richard Thaler

One of the most prominent figures in behavioral economics, Thaler is an American economist and winner of the 2017 Nobel Memorial Prize. He is best known for his contributions to nudge theory, which showed how making subtle changes in decision-making environments could influence behavior. His book Nudge showed how pricing psychology tactics such as specials and sales can influence consumers' decisions, noting that “getting a great deal is more than saving a small and largely invisible amount on each item.” ⁹

Robert Cialdini

Cialdini is a leading behavioral scientist in the field of influence and wrote the book Influence: The Psychology of Persuasion that outlined six principles of persuasion: reciprocity, scarcity, authority, consistency, liking, social proof, and unity. These six principles informed businesses on how they could influence customers’ purchasing behavior.¹⁰

Amos Tversky and Daniel Kahneman

Two of the most influential behavioral scientists through their work, showed humans did not make decisions according to the rational actor theory but that many other factors, like emotions and perception of risk, influenced decision-making. Tversky and Kahneman showed how people overvalue information presented to them early on and use this as an “anchor”  to compare other options, known as the anchoring bias.

Although we may be quick to assume that pricing psychology only benefits businesses (and it is undoubtedly true that they influence our purchasing behavior), various sectors can benefit from pricing psychology to influence people to make decisions that contribute to social well-being. 

Consumer Decision-Making

Pricing psychology shows that the value someone attaches to a product can be influenced through various tactics; perceived value is more important than actual value. Pricing psychology taps into consumers’ cognitive biases to influence their emotions and, in turn, influencing their decisions. According to recent studies, 93% of consumers consider pricing a crucial factor in their purchasing decisions, which shows how important it is for businesses to make their prices appeal to consumers.¹¹

Frequently, these tactics are relatively simple and can be easily leveraged to increase sales while representing a minimal cost to businesses. For example, changing the price of a product from $100 to $99 represents just a dollar difference but could lead to greater scales.³

Public Policy

While pricing psychology tactics are implemented to drive sales and increase profits for businesses, there are also ways that they can create an impact for social good. 

Let’s consider environmental wellbeing. As the dangers associated with climate change are becoming increasingly important, policymakers can tap into our cognitive biases to encourage people and businesses to make environmentally conscientious decisions. For example, green taxes are applied to businesses that engage in activities that negatively impact the environment. According to loss aversion, businesses would be more motivated to avoid loss penalties (having to pay the green tax) than to seek equivalent gains, pushing enterprises to find more sustainable development methods.¹²

Healthcare

Research into how pricing psychology affects people’s healthcare decisions shows how providers can adjust their language and pricing to attract more people and ultimately lead to better societal health. 

Various studies have shown that people are looking for transparency when it comes to healthcare. People are put off by hidden costs or medical codes and abbreviations, making it difficult for them to understand how much they are paying and what they are paying for. Transparency can address patient demands whilst also tapping into a psychological preferences for honesty, motivating people to engage with health services.¹³

Adjusting how the prices of healthcare plans are framed can also influence decisions. For example, presenting prices with options (e.g. monthly vs annual costs for treatments) could encourage more patients to engage with health services.

While pricing psychology offers businesses powerful tools to influence consumer behavior and boost profit it also has potential downsides. Some tactics may seem manipulative or exploitative, and when consumers become aware of these approaches, it can backfire, eroding trust and loyalty

Manipulation & Deceit 

Pricing psychology is all about tapping into our cognitive biases to make decisions that we may not otherwise or which deviate from rationality, and it can feel quite uncomfortable for us to realize that we are being manipulated. Although pricing tactics can lead to short-term gains for a business, if customers begin to think that they are being deceived or manipulated, it can be detrimental to long-term success.¹¹ 

That means that pricing psychology can come to the detriment of customer loyalty, and increasingly, people are choosing brands they deem transparent and trustworthy. 

Decreased Focus on Quality

Ideally, businesses would spend their time and energy ensuring their products are of high value (both in terms of quality and addressing consumer needs) rather than trying to change our perception of value. Yet, because pricing tactics are so effective, many businesses are focused on altering consumer perceptions instead of building up that reputation based on the  quality of products and services. This leads to lower-quality products, which can diminish customer satisfaction. 

Ethical Concerns with Dynamic & Personalized Prices

As more of us engage with e-commerce, new pricing tactics have been implemented, which either change the price depending on the time of year and market or based on who is looking at the product. Rideshare apps like Uber, for example, will change the price of a trip depending on how many consumers are currently looking for a ride. While this strategy can maximize profits and improve efficiency for businesses, it raises ethical questions about fairness, mainly when consumers are unaware of these fluctuations.

Dynamic Pricing of Cocktails

A new bar recently opened in Toronto that uses dynamic pricing - depending on demand, the price of drinks can increase or decrease. When a customer puts their order in, servers input that data into their software, which then changes the price of a cocktail on a large screen in the bar that mimics a stock ticker. ¹⁴

Although it is a bit of a gimmick, this bar is taking advantage of a few pricing psychology tactics. If the price of a cocktail drops, it creates a sense of urgency, where consumers want to make sure they don’t miss out on the deal. A raised price can also influence consumers — they may stay away from that drink and slowly the price will drop once again. Or, it can create a sense of exclusivity by demonstrating what is popular, which causes consumers to perceive its value as higher. 

Presentation of Prices Impacts Decisions

To take advantage of pricing psychology, businesses don’t always need to reduce or change their prices — sometimes, it’s enough to present the options differently to influence decisions. 

The PRICE Lab, a behavioral economics research program in Ireland, conducted a study to see how personal loan purchases were affected based on the information shown to consumers. The results showed that people chose to pay the loan back when the size of the monthly repayments was emphasized instead of highlighting how much the loan would cost them overall. This is because of the framing effect, where the way a price is highlighted impacts our perception of overall gains and losses. 

The PRICE Lab also tested whether nudges could lead to better consumer decisions regarding repaying their loans. They found that consumers were less likely to proceed if they saw a “high-cost loan” warning when selecting a loan with a higher-than-average interest rate. This shows how businesses can also use pricing psychology to encourage smarter decisions.¹⁵

The Weight of The Anchor Effect

The anchoring effect is a pricing psychology bias that businesses and marketers leverage to drive sales. Interested in learning more about how the anchoring effect impacts our decisions? Check out our article written by co-founders and managing directors Dan Pilat and Dr. Sekoul Krastev.

How In-Store Music Increased French Wine Sales by 330%

Our choice environment can be altered in many ways to push us towards a particular decision. You may not pay much attention to background music while shopping. Still, in this article, we explore the results of a field study conducted by a UK supermarket that showed that the type of music playing resulted in shoppers’ selecting wine from the same region. 

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