Consider yourself at a famous departmental store, where you chance upon a stylish pair of boots being sold for $79. You don’t really need new boots but they are beautiful and there’s always room for one more. Assuming you had the money, would you buy them?
Now imagine another situation where you happen to be in the same store on a new day. The sales man tells you the same pair of boots, actually worth $99, are now being sold for $79. If you had the money, would you buy them?
Assuming you decided to buy the boots in both circumstances, the latter situation would probably make you happier at the time of purchase, and for good reason, because you saved $20. Retailers are well aware of this feeling a discount or a deal on a product begets & unfortunately, some may act to exploit this very fact. One way of doing this is by using high initial mark up prices and then offering a discount, creating the illusion of a ‘good deal’. American retailer Macy’s was found inflating the price of a Cuisinart food processor, by quoting a regular price of $139.99 and a ‘sale’ price of $99.95. However upon further investigation, Cuisinart’s manufacturer reported $99.95 as the regular price of the food processor*.
Retailer JC Penney was a proponent of the aforementioned marketing strategy, until Ron Johnson was appointed CEO in 2011. Johnson believed the pricing policy followed by JC Penney took a consumer’s intelligence for granted. He soon replaced it with a radically new one that consisted of
1) removing the ‘fake marked up prices’
2) eliminating discounts and deals, thereby quoting fair, ‘everyday low prices’ and
3) eliminating the use of coupons.
While this may have been done in good faith, it caused JC Penney a $163 million net loss within the first quarter of implementing the policy*.If we were rational decision makers, we would always favour a pricing policy that maximised our gains and minimised our losses. However our behaviour often deviates from what standard economic theory deems rational. Behavioural economics gives us some insights as to why Johnson’s policy failed.By removing deals and offers, JC Penney eliminated the perceived scarcity that was associated with the products in question. One of Robert Cialdini’s six principles of persuasion, perceived scarcity states that when people view something to be scarce, it generates greater demand.
Perceived scarcity drives sales. Attractiveness and desirability towards a product are enhanced by perceived scarcity*. Sales and discounts are usually offered for a limited period of time and therefore, one could say that sales are associated with perceived scarcity. While the product supply itself may be in abundance, the ‘deal’ is viewed as being scarce. In the JC Penney case, by making all merchandise either ‘Everyday saving’ or ‘Clearance’, the feeling linked to a unique deal was removed, therefore reducing the product’s desirability (believing that a product is worth more than what you bought it for is likely to add to its desirability). Moreover in this case, the consumer does not face any urgency to buy the product.
The removal of coupons was another major flaw in Johnson’s strategy. Behavioural Economist Dan Ariely emphasizes the concept of the ‘pain of paying’, which is the tendency of human beings to experience psychological pain when paying for a purchase. Interestingly, the pain of paying is greater when people pay by cash, than when they pay by credit/debit cards. Ariely posits that this could be because paying by cash makes parting with the money more salient and this increases the pain of paying. Coupons substitute cash and can be purchased in advance for later use, thereby making parting with the money less salient at the time of purchase. By eliminating the use of coupons at JC Penney, regular coupon users were likely to experience the pain of paying more often.
The next time you go to the shopping mall, leaving your cards at home and paying by cash might just help you avoid buying those beautiful pair of boots that you don’t really need. Shopaholic or not, I dare you.
To know more about the concept of the pain of paying, check out Dan Ariely’s video on the topic http://danariely.com/2013/02/05/the-pain-of-paying/ or read this interesting article http://www.neurosciencemarketing.com/blog/articles/austin-sushi.htm
Some references for the JC Penney case-