When Companies “Play Games” With Prices
Is it ethical for companies — without deception — to make use of well-documented human tendencies and weaknesses in order to get us to buy more? Social scientists have long been aware that humans are subject to a range of cognitive biases that affect the way they think in fairly predictable ways. And, apparently, smart marketers know it, too.
For instance, check out this critique of Apple’s pricing, by Ben Kunz: “How Apple plays the pricing game”
Economist Dan Ariely, author of Predictably Irrational, gives the classic example of a Realtor who shows you a home that needs a new roof, right before taking you to a higher-priced house she really wants to sell. It’s hard to tell if a $400,000 colonial is a good deal – but compared with a $380,000 home that needs work, it looks quite good. Now consider, $499 for an iPad? Well, compared with a smaller one with fewer features, it suddenly looks great.
Decoys explain why Apple often sells each gadget in a pricing series, such as the new iPod Touch’s $229, $299, and $399 price points for different storage capacities. You may gladly spend $229 to get a hot media player, thinking it’s a deal compared with the highest-priced version and not blink that you could instead buy an iPhone 4 at the lower price of $199 with more features.
(Don’t put too much stock in the details of the prices quoted — as one of the comments under the article points out, Kunz may be comparing apples & oranges by comparing retail prices for iPod Touch to the discounted iPhone price that you get when you sign a 3-year contract with a phone company.)
At any rate, practices like the ones Kunz describes are by no means unique to Apple. Many restaurants, for example, will include one or two high-priced entrees. I’ve heard it said that those, too, are “decoys.” The restaurant doesn’t expect to sell much of the $35 Surf’n’Turf, but the fact that there is a $35 entree makes the $25 entrees look very reasonably-priced. Now notice that there’s no actual deception, here…just a reliance on the fact that most people will have their choices swayed by such pricing.
Here’s the short version of the case for such practices: Look, there’s no deception here. And consumers still have free will. And there’s no clear difference between using this kind of so-called “trick” and the “trick”, known by salesmen since time immemorial, that people will buy more stuff if you smile and are polite to them. The relationship between buyer and seller is an adversarial one, so buyer beware. (Notice also that a company can accidentally, unintentionally engage in such pricing. Maybe the restaurant really thought the #35 Surf’n’Turf would sell well. But it didn’t, and so the net effect is that the dish ends up acting as a decoy, but it’s hardly something you can blame the restaurant for.)
Here’s the short version of the case against such practices: The cognitive biases that such pricing preys upon are so strong that they effectively limit consumer autonomy. Preying upon them is therefore wrong. We put limits on marketing to young children, because we realize that young children aren’t fully capable of filtering messages, evaluating options, and choosing rationally. But the (sad) news from the psychological literature is that adults are likewise limited. We just aren’t as rational or autonomous as we think we are. Selling crack to a crack addict is unethical in part because the addict has no choice but to buy. She doesn’t rationally choose to buy the crack: her addiction ensures the sale. Now, cognitive biases of the kind describe above aren’t quite like addictions. But if a given cognitive bias is only effective “most” of the time (as opposed to an addiction’s near certainty) doesn’t the fact remain that the person doing the selling is relying on a kind of human compulsion, rather than on a rational choice that is likely to satisfy the consumer’s needs?
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If you’re interested in this stuff, I highly recommend Dan Ariely’s book, Predictably Irrational. See also Judgment under Uncertainty: Heuristics and Biases, by they guys who basically invented the field, Daniel Kahneman, Paul Slovic, and Amos Tversky.)
The Business Ethics Blog 
Fascinating topic. I have also read that charging $1.99 for something as opposed to $2.00 does make a world of difference to the consumer mind. Anyway, it seems a company creates a “framing effect” by putting decoy products around what it is trying to position you to buy. Granted, you are responsible as a consumer for buying only what you can afford, yet it seems that such decoys provide a false “intuition” of what bang you can get for your buck. For example, if the $229 iTouch has few features, the $299 multi-featured iTouch appears a slight premium for a bargain. I feel that “consumer intuitions” can be unjustly deceived, such as when consumers might buy a “bargain” printer for $79, only to later discover that the two printer replacement ink cartridges run around $69 (far more than they’d have expected). Pricing in a way contrary to what a “reasonable consumer” could expect might at times cross the ethical line.
Social scientists in business schools are known to offer money to their research participants. Instead of paying them a fixed amount, say $10, they may instead offer them payment in the form of a 1/100 chance of winning a lottery with a $1000 prize. With 100 participants in their sample, the total cost is the same to the researcher. As I understand it, this does not create a legal issue under lottery laws. But it’s a very attractive way of compensating participants with a payment that is worth more than $10. They’re using participants’ psychological bias to increase participation. Kind of ironic, if they’re doing psychological research.
Jim:
Good point.
I believe the details of your example need to be shifted, though: the standard assumption is that a 1/100 chance of winning $1000 just *is* worth $10 — so offering one or the other is basically the same offer, unless e.g., the individual for personal reasons desperately needs the $10 so that the sure thing is better than the gamble. No bias required. But you’re surely right that a lottery can easily be made to *look* better than a sure payoff. Indeed, that’s roughly why lotteries of all kinds work in the first place, and why lotteries are often referred to as a “tax on the inability to do math.”
Chris.
Consumers in a market economy have the right to determine what they are going to buy and how much they are willing to pay for an item….this is known as consumer sovereignty, but along with this right comes the responsibility to do our homework. Find out if one product is indeed better than another or if we can find a similar item at a better price somewhere else.
With regards to Apple’s pricing, I don’t think it is unethical, since none of us actually needs an iPhone, iPad or iPod to survive (although some of my students think otherwise.)And we can always choose to look for a different product with similar features at a better price point.
I also do not believe that the relationship between buyer and seller is an adversarial one. It is a business relationship where generally speaking, both parties get what they want..i.e. the seller gets your cash and you get the product you have willingly purchased.
Lorraine:
I should have been clearer. The relationship between buyer and seller is only *partly* adversarial. If all goes well, both benefit from the transaction. But every extra dollar the buyer spends is an extra dollar in the seller’s pocket — they’re in direct competition for those extra dollars.
Chris.
I think it is accurate to label the relationship between buyer and seller as partly adversarial, and I agree that both parties should benefit from the transaction. As you imply, it is an ethical business practice to strive to get more dollars out of a transaction, and so being adversarial (in an ethical way) includes more money for the seller at the expense of the buyer (or vice-versa). But this adversarial relationship, to be ethical, must be based on some principles and show awareness of the boundaries of fairness. In other words, being partly adversarial does not mean the the seller should without restraint manipulate the buyer; likewise, sellers should not disrespect buyers as only a means to trick into making more money. If sellers do these things the adversarial relationship becomes unethical.
Sellers need to be aware of their place in the relationship of the transaction and take responsibility for it. I think people often assume that buyers and sellers have opposite but equal roles in the transaction, but I think that’s mistaken. In typical retail transactions (like your examples of meals and ipods), sellers are the ones who are offering the product and have superior information about the product. As such, sellers have the responsibility to present the product fairly and accurately: this includes how they present the product in relation to their other products. If the FOCUS of their business is to trick buyers into purchasing the wrong things, then sellers are doing something else than business: applied psychology or something, but not ethical business.
That being said, it is our responsibility as consumers to educate ourselves as to our psychological biases or “weaknesses.” It is probably the responsibility of educators to help individuals educate themselves in this manner. I don’t know if I would put it in the core curriculum in high school or college, but becoming an educated person now includes tools to help us manage how we are manipulated fairly by ethical businesses or really targeted by unethical businesses.
In the end I think some standard psychological manipulation involved in getting us (who can afford it) to spend a little more on non-essential items is not that big of a deal. Sellers may have tools that make us slightly less than “truly autonomous” beings when it comes to prices, but that is not the most important aspect of autonomy. Sellers who respect consumers as autonomous persons establish a fair relationship that allows consumers to know what they’re getting and work to insure that consumers are served well.
Tom:
That sounds right.
One bit of essential reading in this area is Joe Heath’s stuff on the ethics of competition. See, for example, “An Adversarial Ethic for Business: or, When Sun-Tzu met the Stakeholder,” Journal of Business Ethics, 69 (2006).
Joe basically argues that the limits of fair commercial competition are to be found in restrictions on behaviour that threatens to undermine the functioning of the market itself, namely things like:
– information asymmetry;
– monopoly power;
– externalities.
It’s incredibly helpful, I think, to realize that commerce is fundamentally adversarial (or at least partly so), and so to think about business ethics in terms of asking what the reasonable LIMITS are to adversarial behaviour.
Regards,
Chris.
I wouldn’t say it’s unethical, but there’s certainly nothing ethical about it. It is what it is, I think – just a relatively harmless way to make a living, to make a profit. The other option is to sell at cost (or minimal profit), but then what would be the point? I’d say the trick of smiling and feigning friendliness is more off putting because it takes a direct manipulation of the person’s behaviour to deceive. Pricing techniques and strategies on the other hand are like tactical games to be expected in the marketplace. And anyway, you’re doing things wrong if you base decisions solely on price. People need to decide for themselves if the features/content justifies the price regardless of what other items are priced at.
The key, I think, is that business here generally does a good job in keeping things balanced by providing reasonable and sometimes generous return and exchange policies (perhaps acknowledging some form of deception if indeed there is). So if you do have buyer’s remorse or find a cheaper price, you’re generally allowed to return the product (even if say, the ipod, has been used). This, to me, is the ethical aspect of pricing games. If things were final sale (as is usually the case in Asia), then you can make the case for it being unethical.
In the case of a restaurant meal, you could make an attempt the first time around to argue for a discount or free dessert or something if the meal was really unsatisfactory. However, if you continue to purchase the $25 meal knowing that it isn’t worth it, well then there’s no one to blame but yourself.
As Bush once said, “There’s an old saying in Tennessee – I know it’s in Texas, it’s probably in Tennessee – that says, fool me once, shame on … shame on you. It fool me. We can’t get fooled again.”
Chris, thanks for commenting on my column (I am the author of that BusinessWeek piece). What I found interesting was how many Apple fans got very upset in the comments after I discussed what I believe is a smart pricing strategy by Apple.
For instance, many complained I unfairly compared the “price” of the iPhone to the iPod Touch, even though I mentioned in the column that much of the costs of such phones are hidden in downstream wireless service contracts (apparently most commentators don’t read entire articles). You suggest the same with “Kunz may be comparing apples & oranges by comparing retail prices for iPod Touch to the discounted iPhone price that you get when you sign a 3-year contract with a phone company.” I did explicitly check that box.
However, what the commentators complained about is exactly the point — by moving one aspect of the price off the phone price tag, and hiding it elsewhere in a service contract, Apple is cleverly managing price perception. It is no error that Apple promotes “199” in big type on its web site for the iPhone 4, because it wants consumers to believe that is what it costs! The price bundling strategy is quite common, and frankly a smart move by marketers who must make their products seem appealing to compete.
As far as ethics, it is a difficult issue — but the deeper question is why do *consumers* build a market for price framing in the first place? Everyone responds to “50%” sales, even if the higher reference price on a dress or suit never existed in the first place. Consumers demand discounts, so marketers, to compete, must adjust their prices accordingly. Economists such as Richard Thaler have noted that people need reference points to make judgments; marketers are required to provide them.
Perhaps the answer is simple disclosure. Apple fails to do this, for instance, on its phones in web legal copy … it gives the $199 price + contract requirement for the iPhone 4, or the alternative price if you buy the phone standalone, but it does not mention how much of the contract goes to pay for the $199 phone if you go that route. If companies disclose the full loaded price of their goods, consumers could make better informed decisions. This wouldn’t be easy to manage; should car companies disclose the cost of 5 years of gasoline for your new vehicle? If you want to have a child, does your spouse disclose the cost of daycare, clothing and college? Where do we draw the line?
Pricing games are not going away, because consumers demand deals. People want a reference point, even if such reference is illusory. With such demand, supply of price framing is sure to follow. And given the fuzziness of “how” to disclose all costs, marketers will disclose as little as possible.
In simplest terms, the ethics of massaging price perception are driven by the ethics of consumers who are out to cut the best deal.
Thank you again for an intelligent commentary and moving this debate forward.
Ben Kunz
Director, Strategic Planning
Mediassociates
@benkunz
Ben:
Thank you for your thoughtful comment.
I guess the “apples & oranges” question really is part of what makes this issue difficult — it’s just not obvious what the comparison should be. If I have $500 in my pocket right now, but can’t afford a the long-term contract required to get that same item for $299, then paying more up-front may be a very good deal. But if I’m cash-poor at the moment but have a steady income, the long-term contract may be a great deal. Which means, I think, that it’s not clear whether a particular comparison really is an “apples & oranges” comparison — there’s no single point of view from which to determine that. (That’s why I hedged my bets by saying you “may” be making an apples & oranges comparison.)
Your further point about the role of consumers is interesting. It is of course true that companies will only put forward the kinds of pricing “deals” (or framings) that consumers have, as you say, have built a market for. But then, one of the factors helping to build that market is a set of unconscious (and not generally rational) pscyhological mechanisms. I suspect that even full disclosure won’t solve the problem.
Regards,
Chris.