Tuesday, July 5, 2011

Three price rise tips from Behavioural Economics

The Australian financial year has clicked over to FY2011/12, and with it no doubt some tweaks to the profit and loss.  Your opportunity now is to use Behavioural Economics to rethink one of the most common activities associated with this time of year; introducing a price rise.
Whilst common place, introducing a price rise doesn’t necessarily mean it will be well received. Three behavioural principles of which you should be mindful;
1.       Relativity – we judge one thing relative to another, so in this case your pricing will be compared with inflation, competitor prices and value.  How do you stack up? The best course of action is undoubtedly to increase the value at the same time you increase your price, but let’s be honest, sometimes you just want a healthier profit line. Here you will need to do some homework. With what can you compare your pricing favourably?  Guide the relativity judgement by providing cues (eg last year’s rise, overpriced competitors, allied industries etc) otherwise your customers will do it by themselves.
2.       Adaptation – if it’s bad news, get it over quickly. The principle of adaptation has proven that we adapt more readily to news if we are not constantly reminded of it. “Quick like a band aid” springs to mind.  For a price rise, communicate it as you need (ie appropriate and legal disclosure) but don’t keep reminding your customers!  Even if you are increasing the price in increments (eg every quarter), communicate at the first rise, not every time. 
3.       Status Quo Bias – This is one to help you feel better about your decision!  We have a strong status quo bias, tending to stick with what we know.  Still scared that your price rise will result in customer attrition?   Sure, it may happen. But take heart from banks. Remember when one of the big banks raised interest rates above the RBA’s cash rate increase?  Outrage followed by mass exit? Well, no.  Same goes every time the health insurers raise their fees. Of course, exit fees and other penalties for changing provider may have helped, but what is really at play is inertia. Oftentimes we just can’t be bothered taking our business elsewhere.
Have a business issue on which you would like a Behavioural Economics perspective?  Let me know by emailing peoplepatterns@gmail.com.  Until next week, happy pricing.

This article originally appeared in Smartcompany for whom I am contributing articles on how Behavioural Economics can be applied to common business issues.

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