"The same psychological tricks apply whether you're setting a price for text messages or toilet paper or airline tickets."
This is not a book about coming up with prices, it’s about understanding them. More accurately, it’s about our fundamental misunderstanding of what prices even mean.
Poundstone frequently references Dan Ariely, Kahneman and Tversky, Richard Thaler, and others who will be familiar to those of you who like to read about how our brains work – and how they often don’t.
A series of short (2-5 page) treatises which build and focus as you move through the book, he begins with our cluelessness about prices, gives us some psychological grounding, shows us good and bad pricing in action, and gives us greater awareness of our limitations and how to shore them up.
Prices Are Imaginary Numbers
"Yard sales reveal a truth we might not care to admit in a business deal: prices are made-up numbers that don't always carry much conviction."
Just as we assume teachers have the answers at the back of the book, we assume that prices are part of some rational business logic.
They are not.
Our first reaction to that truth is denial. We spend money every single day and we want to believe that it makes sense.
Awareness that we are predictably irrational makes it easier to believe. Poundstone shows that once we’re aware that pricing is psychology, not logic, we can nudge ourselves back in line to some extent.
Humans are very good at comparisons. This is heavier than that. One is larger than the other. Louder. Softer. Brighter.
We are lousy at putting size, loudness, weight on any kind of absolute scale. It’s why the carnival chap who guesses our weight is so impressive: most of us have no clue what a gallon of milk weighs, we just know that by the time we get to the third flight of stairs it’s the heaviest thing in the world.
Fortunately, our ability to compare can help us significantly, if we know what to compare. Let’s take two examples: anchoring, and marketing in thirds.
Meaningless Unrelated Numbers Affect Our Beliefs About Prices
"This isn't something we're aware of -- it takes experiments with groups to demonstrate it statistically -- but it is real nonetheless."
A slightly different pair of questions: Is the average summer temperature in San Francisco higher or lower than 32 degrees? What is the average summer temperature in San Francisco?
Folks presented with the first pair will consistently guesstimate higher than folks presented with the second pair. Even though both 500 degrees and 32 degrees are ridiculous for San Francisco’s summer, they affect our guesstimates. We anchor to the number offered, and adjust away from it. The way we’re wired, though, we consistently fail to adjust far enough.
When Daniel Kahneman and Amos Tversky proved this with extensive research, even the scientific community refused to believe it. Economists ignored it for decades.
Whoever quotes a number first in a negotiation sets an anchor which, like it or not, affects the other party’s perception of what they’ll have to pay or accept.
The antidote to anchoring is to consider the opposite. Make a list of reasons that party’s number could be inaccurate.
This seems commonsense, but anchoring is an unconscious feature of how our brains work. Its effect can only be mitigated consciously, and even then, not entirely.
When you can, be the first to say a number in a negotiation. Get the other party anchored to your number, and you’ll be less susceptible to anchoring’s effects.
Is the average summer temperature in San Francisco higher or lower than 500 degrees? What is the average summer temperature in San Francisco?
Marketing In Thirds
"[T]hey could make the students want one beer or the other, just by adding a third choice that few or no one wanted."
You’re going out to dinner tonight and can think of two restaurants. One is an hour away and a bit pricey, but has a reputation for excellent food and service. The other is 20 minutes away, moderately priced, with some pleasant reviews online.
For most of us, neither choice is obvious. But let’s introduce a third restaurant. This one is a cheap place right down the block, and you know it’s only so-so in all respects.
Now which of the three would you pick? Write it down.
Okay, go back and read about the first two restaurants again. This time, the third restaurant we’re adding will require a short flight and an overnight stay, is very expensive, but is known for its epicurean delights and world-class pampering.
Which of the three do you choose now?
In similar situations, researchers have discovered they can jerk people around like a marionette by presenting two feasible options, plus a third unlikely option. Adding a junk option or a luxury option always had the same effect: whichever was the new “middle” option became the run-away favorite.
Make the product or service you really want to sell the middle option. I’m not suggesting you offer a junk option, though a luxury option isn’t a bad idea if you can make it real (bear in mind, some folks will choose each of the options, not just the middle.)
You can nudge people toward the option you prefer by making it the middle option.
This raises a topic Poundstone touches only briefly: the ethics of pricing. When we know that people accept or reject prices based on psychology they don’t see or understand, it is entirely possible to mislead them and take advantage. (Not just possible; it happens all day long every single day.)
It’s a slimy way to make a living. Use your knowledge of the irrational psychology of pricing to protect yourself; use it to nudge your clientele toward better choices. But don’t be slimy.
Use your power for good, not evil. At least with an understanding of the psychology, you have power.