Psychology plays not the last role in understanding how consumers make purchasing decisions. Find out how understanding customer psychology creates the prerequisites for behavioral economics and behavioral pricing, which can be translated into profitable pricing strategies.
Behavioral pricing helps understand what motivates people to purchase one product while avoiding others. Knowing how to distinguish can make a difference between a successful and unsuccessful pricing strategy. Stay with us and explore the world behind behavioral pricing and behavioral economics.
After reading the piece, you will get valuable knowledge and practical tips for using behavioral pricing to its full potential.
The ideas behind behavioral pricing and behavioral economics
Behavioral economics set the scientific foundation for behavioral pricing.It examines various psychological factors guiding consumer behavior toward particular purchasing behaviors. In most instances, the studies offered by experts in behavioral economics can be used to formulate and predict the process of people making economic-based decisions. From such a perspective, insights from behavioral economics help better understand economics as a whole.
When narrowing down the phenomenon of behavioral economics, we arrive at the concept of behavioral pricing.The idea entails setting product prices based on available information on customer behavior patterns and purchasing decisions. In other words, behavioral pricing takes the insights from behavioral economics and transforms them into viable pricing strategies.
Interestingly, the origins of behavioral pricing date back to one of the founders of capitalism, Adam Smith. While the initial understanding of purchasing behaviors was linked to the idea of justice, with several hundred more years of research, the experts found many more psychological pinpoints affecting people's purchasing decisions.
With the arrival of big data and the digital era, companies received a vaster amount of metadata that helps better understand consumer psychology. At this point, nothing tells better about behavioral economics, like real-life examples.
An instance of behavioral economics in real life: The case of Apple Inc.
To further understand the logic behind each given an example, you should consider one of the primary premises of behavioral economics. The theory dictates that people are often motivated by irrational factors in their purchasing behaviors. Interestingly, the more their decisions are irrational, the higher likelihood that individuals will look for some objective justifications for their initially irrational choices. It means that rational beings do not always make rational choices when engaging in consumerism.
Companies like Apple Inc. always use behavioral economics in their pricing decisions. For instance, when the firm introduces its new iPhone, it always, I repeat, always sets higher prices for a product. The introductory price can be about
$800
with its further reduction to
$600
or even
$500
after several weeks.
Why the company does it?
The simple answer is that the company sets an unreasonably high price to create later an impression that $600 is a very good deal. And the approach works. Apple Inc. understands consumer psychology and makes people believe they receive a great deal, while there are no rational factors supporting that.
Apple Inc. spends millions of dollars on research of consumer psychology. It is a long-term investment that helps “manipulate” how customers perceive Apple’s products. Yet, if done correctly, everyone wins. A customer receives their satisfaction from the “good deal,” and companies get their profits while boosting sales volumes.
Tools for effective behavioral pricing
Behavioral pricing already helps businesses to boost revenues. However, it is important to know several tricks to get the most from behavioral pricing. Here are six tools any company can use to propagate behavioral pricing:
- The endowment phenomenon. When a customer receives more than they expect, it is a powerful motivator to make an additional purchase or stay loyal to a particular brand. Give loyalty cards, discounts, and a great customer experience to make such an effect.
- The rule of price anchors. Price anchoring is exactly what Apple Inc. does when introducing new products. We’ve talked about it above, and you can read more about it here.
- The power of pricing thresholds. Thresholds can be imagined as particular zones determining how willing customers are to pay for a product. Using pricing thresholds is important for maximizing the existing margin while keeping consumers loyal at the same time. It is all about a fine balance.
- The principle of three options. It is always better to offer several options. If you have cheap and expensive options, always provide a medium option standing between the two. In this TEd-talk on behavioral economics, a speaker explains the phenomenon in detail.
- The importance of giving something for free. Everyone likes to get something for free. You can reasonably exploit that. Give customers to receive something free, and it can be something simple.
- The nudging effect. Behavioral pricing can direct consumers toward the product you want to sell. Consider nudging customers with labels like “Best Buy for the Price,” and “Hot Deal” to create a sense of urgency or a great deal.
There is a high chance of finding one of the instruments beneficial and applicable to your case. Yet, you should remember to avoid manipulation and exploitation of consumers. Try to find the approach that will create a win-win situation, and you’ll see how fast your business will thrive.
Behavioral pricing and automation
Technological advances offered the world algorithms that can bring pricing to whole another league. Analysts used manual calculations to determine the best pricing approaches in the past. Now, it can be done with several clicks and good software. For instance, dynamic pricing software helps find the best pricing solutions based on the variables a user presents. You just type in the prerequisites, and the software analyzes your case across different pricing libraries to recommend the best pricing strategy for your situation.
With further integration of artificial intelligence, machine learning, and cloud computing, the effectiveness of behavioral pricing will grow exponentially. With access to a myriad of data points on consumers, the machines can present pricing decisions that would have required years of manual calculations in a matter of minutes. Behavioral pricing will remain effective. People do not like to change their purchasing habits. Besides, they often cannot do that because irrational urges drive many.
