Using Cognitive Biases for Pricing Decisions
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How should we price our product? Should we start low, deliver value and then demand a higher price? Or should we start high?
Most people are aware of price-quality heuristic, maybe not by that name. Heuristics, simply put, are the mental shortcuts that people employ to make quick judgements. Price-quality heuristic is the essentially the connection one tends to build between price and quality. In other words, the high price is high quality. The price-quality heuristic forced to answer the broader question- how do we want to position ourselves. Do we want our firm to be a no-frills version of big Market Research firms or do we want to be the domain specialist? We knew we wanted to be the latter, so we decided not to price ourselves lower than the incumbents. Awareness of price-quality heuristic helped us make that call.
It has been a call that we are happy we made (or maybe we just suffer from confirmation bias) because of another bias- the anchoring bias or the tendency to be over-reliant of the first piece of information one hears. In 1974, Nobel Laurette Daniel Kahneman and Amos Tversky demonstrated the anchoring bias. They conducted a study asking people to estimate the per cent of African countries that were part of the UN. But before they answered, the respondents had to spin a wheel of fortune. The wheel went 0 to 100 but was rigged to land either on 10 or 65. They found people for whom the wheel landed on 10, guessed around 25 per cent of Africa was part of the UN. For those whom the wheel landed on 65, guess was around 45 per cent. The higher guess was due to unconnected, higher spin was due to anchoring bias.
Good negotiators are good at using Anchoring bias to their advantage. So next time you hear a purchase manager throw out a ridiculously low price for your product, know that they are employing anchoring bias to encourage you to make a low counter. By pricing ourselves high, we anchored ourselves high. Yes, we did lose some low-hanging fruits in the short-run, but soon enough we found customers who accepted the price. It helped that we could deliver enough value to get repeat work.
So, is pricing high the only way to use cognitive bias? No. A low priced but highly visible product can use availability heuristic to help you sell a high priced one when the need arises. The availability heuristic operates on the notion that if something can be recalled, it must be important. We have often given free copies of reports carrying our brand. Not PDFs. High quality, coloured hard copies with our logo prominently on it that sit on the tables of our clients and get shared around. Many times, they have been expensive to make but we have never charged for these. The underlying thesis is that these reports remind customers of us. And anything that can be recalled, must be important. We have had customers we have never met, come to us with their research needs years down the line because he saw a copy of our report on someone’s table.
For a startup, pricing will always be a tough decision to make. Cognitive biases can help devise better pricing strategies. Everyone, everyone gets influenced by cognitive biases including your customers. And those who claim to be immune to it suffer from bias blind-spot- a kind of cognitive bias. Awareness of the biases can help you use them to your advantage.