26Oct

Using the Psychology of Pricing: Do "Experts" Fall for the Same Tricks?

Author: Dan Skodol

Human beings are hard-wired to interpret and react to the world around them in certain ways, even if those reactions are often irrational and unpredictable.

This seems to hold especially true when it comes to buyer behavior and many have long sought to understand the psychology behind the interesting quirks of human behavior that drive how we make purchasing decisions.

Earlier this year, we conducted a study among attendees at our annual user conference, OPTIMIZE2017, to explore this further. The survey contained a series of “experiments” designed to prove certain theories regarding behavioral science based on our thesis that, in general, people tend to behave irrationally when it comes to their decision-making, especially as it relates to price and purchases. We wanted to see if this still held true when surveying a group of pricing and revenue management experts. The goal was to find results that could help hoteliers and revenue managers identify what drives these behaviors and choices psychologically, so they can tailor their pricing strategies to cater to the decision-making processes of their potential guests.

It’s commonly known that marketers, as well as pricing and revenue management professionals in the hotel industry, have long utilized various tactics that attempt to extract the greatest possible spending from customers. However, the extent to which customers may perceive these tactics as “fair” or “unfair” varies depending on the psychological and emotional response the customer has to any number of tactics used. This is a key driver in whether or not a customer, or hotel guest, will make the choice to spend more or less at your establishment.

The findings from this study are meant to help marketers and revenue managers identify the most effective tactics that are both perceived as “fair” by customers and convince them to spend more. Here are a few key takeaways from this presentation: 

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1. Humans think in contrasts, not absolutes

Our brains are wired to think in often irrational ways, which affects how people view pricing. One insight comes from research on how humans think in contrasts rather than in absolutes. For example, if you were given two bags, you could tell which one is heavier, but it's much harder to tell the true weight of each bag, or if the bags fit within the 50-pound weight limit. Human brains are programmed to work using contrast and context.

This tendency to think in terms of contrast and context comes into play in pricing via a powerful concept known as anchoring. When estimating the value of a reasonable range, our brains will adjust upward from the low number, or anchor point, until we get to the bottom-end of that range then stop. Conversely, when we're given a high number, we adjust downward until we get to the high-end of that range, then stop. An example of where anchoring takes place in real life can be found in home values. It's hard to determine the actual value of a home, so asking prices and comparable prices serve as the anchors for home pricing. 

Based on the concept of anchoring, the first tip is to go big with pricing! The more you ask for, the more you get. Think about how you might leverage the pent-house suite at your hotel, or present options with particularly high prices in order to affect your customer's perception of what the true value of your products should be. 

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2. Reference transaction: What you think you should get & what you think you should pay for it

Perception is often reality, and when it comes to transactions, the reality can move off these transactions in two different directions. Research shows that our tolerance or aversion to risk is very different based on whether you believe that you are gaining or losing something in the process. Prospect theory indicates that we obviously like things such as upgrades and being on the gains side, but we especially dislike being on the losses side, which includes fees and downgrades.

With this in mind, sellers can influence the reference transaction. In general, the goal should be to unbundle gains and bundle losses. An example of this can be illustrated in resort fees, where you can remove the a la carte prices of each item and bundle them together and present them for a single price, or at check-in you bundle those items together with a room upgrade for a single price.

Another real-life experiment demonstrated that the same choices for a Las Vegas hotel presented in two different ways resulted in more upgrades. Ultimately, the way a pricing option is presented can influence potential customers in their purchase decision. 

3. How to influence the reference transaction

As mentioned above, sellers can influence the reference price. A few ways to do this include using the past price, advertised price, purchase context, and current prices of comparable items. Something we've all seen is price tags with the original price slashed out and the new price displayed next to it. The first price forms a strong reference point in our mind, making displaying the original price a useful way to influence the reference transaction. An example of purchase context is found in research demonstrating that customers are willing to spend more on their favorite cold beverage at a 5-star resort hotel than they would for the same drink at a local dive bar. The environment affects a customer's ability to value your product. And the current prices of comparable items can be used to influence the reference transaction by introducing a new product at a new price, influencing the customer to consider the new product offering a similar value proposition at the better price. 

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