posted on Dec, 7 2009 @ 04:00 PM
Chapter 1: The Truth About Relativity
We always seek to draw comparisons, and we are often unaware as to how seemingly irrelvant factors such as the simple presentation of options,
actually influence what we select.
Thus, given three choices, A, B (very distinct, but equally as attractive as A), and A- (similar to A, but inferior), we will almost always choose A,
because it is clearly superior to A-.
* Say we are trying to decide on a vacation between two choices: a Paris trip with free breakfast and a Rome trip with free breakfast. We cannot
decide between the two because we love Paris and Rome equally.
o Simply adding a third option - an "A minus" version of one of the options, will cause us to pick the A version, over the equally
atractive B version.
+ Thus, the simple addition of a third "A-" option, "Paris without a free breakfast", will cause us to choose "Paris with a free
breakfast", the "A" option, over "Rome with a free breakfast", the equally attractive "B" option.
+ Similarly, had the third option added been "B minus" - "Rome without a free breakfast", we would have selected that "B" option
- "Rome with a free breakfast".
o This is irrational behavior because in the presence of two equal options, we couldn't decide between the two, and the presence of a
third, inferior option, shouldn't cause us to suddenly prefer one of the two.
* Ariely did an experiment where he used photos of undergrads to test this; 75% of research subjects chose choice A over choice B.
* When Williams-Sonoma introduced bread machines, sales were slow. When they added a "deluxe" version that was 50% more expensive, they started
flying off the shelves; the first bread machine now appeared to be a bargain
* Tversky and Kahneman conducted the following experiment
o When contemplating the purchase of a $25 pen, the majority of subjects would drive to another store 15 minutes away to save $7
o When contemplating the purchase of a $455 suit, the majority of subjects would not drive to another store 15 minutes away to save $7
o The amount saved and time involved are the same, but people make very different choices
Watch out for relative thinking; it comes naturally to all of us.
Chapter 2: The Fallacy of Supply and Demand
Anchoring has a major long-term effect on our willingness to pay.
* Savador Assael, the Pearl King, single-handedly created the market for black pearls, which were unknown in the industry before 1973. His first
attempt to market the pearls was an utter failure; he didn't sell a single pearl. So he went to his friend Harry Winston, and had Winston put them in
the window of his 5th Avenue store with an outrageous price tag attached. Then he ran full page ads in glossy magazines with black pearls next to
diamonds, rubies, and emeralds. Soon, black pearls were considered precious.
* Ariely, Prelec, and Loewenstein conducted an experiment in "arbitrary coherence" at the Sloan School. Students were asked to write down the
last two digits of their SSN and consider whether or not they would pay that amount for certain items. Then they bid on those items.
o For every product, those with a 80-99 SSN were willing to pay more than those with a 00-19 SSN...by nearly 3X.
* Simonsohn and Loewenstein found that people who move to a new city remain anchored to the prices they paid in their previous city. People who
move from Lubbock to Pittsburgh squeeze their families into smaller houses to pay the same amount. People who move from LA to Pittsburgh don't save
money, they just move into mansions.
* In another set of experiments, even attempts to switch anchors failed; those who started off with higher anchors always demanded a higher price
than those who started off with lower anchors, even after both groups had been exposed to exactly the same prices (albeit in a different order)
Herding: Assuming that something is good (or bad) on the basis of other people's previous behavior
Example: People wanting to go to a restaurant where people are waiting outside
Example: Going back to Starbucks because you recall enjoying yourself on your previous visit
At that point, you no longer ask yourself if you'd be better off with the cheaper coffee at Dunkin Donuts, or with the free coffee
at your office
Starbucks itself is a case of producing a new anchor. Schultz made Starbucks as different as possible from the traditional coffee shop to
convince shoppers to establish a new anchor, rather than saying, "This is a fancy, expensive Dunkin Donuts."
Ariely then ran another experiment. He read from "Leaves of Grass," and then asked his students the following:
1/2 of the students were asked if they would be willing to pay Ariely $10 for a 10-minute poetry recitation
1/2 of the students were asked if they would be willing to listen to a 10-minute poetry recitation if Ariely paid them $10
The students who were asked if they were willing to pay offered $1 for a short reading, $2 for a medium reading, and $3 for a long
The students who were asked if they'd accept pay demanded $1.30 for a short reading, $2.70 for a medium reading, and $4.80 for a long
This is known as the "Tom Sawyer" effect. Quote Twain: "There are wealthy gentlemen in England who drive four-horse passenger coaches
20 or 30 miles in the summer because the privilege costs them considerable money, but if they were offered wages for the service, that would turn it
into work, and then they would resign."
Knowing the impact of anchoring, you should train yourself to question your repeated behaviors. You should also pay particular attention to the first
decision in a long stream of decisions. It may seem like it is just one decision, but that first decision may have impact on future decisions for
years to come.
The bigger picture is that supply and demand are not independent; supply-side variables like MSRP can impact willingness to pay. Price "memory" can
also have a major impact. Doubling the price of milk and halving the price of wine would have a major short-term impact, but it's unlikely to have a
long-term impact on consumption patterns.