The SUV In The Driveway

Is that SUV with leather seats and separate front and rear climate control utilitarian, hedonistic or conspicuous? How about when it is parked in a off road trail leading up to hiking trails, when parked in a local mall parking lot, or when parked in your driveway?

This month’s (June) Harvard Business Review has a short piece by Dan Ariely and Michael Norton on conceptual consumption that says,

Conceptual consumption strongly influences physical consumption. Keeping up with the Joneses is an obvious
example. The SUV in the driveway is only partly about the need for transport; the concept consumed is status

As our conceptual consumption shifts from purely utilitarian to hedonistic, so does the price we expect to pay and willingly pay for the products. In the book Richistan,  Robert Frank describes pricing the luxuries for the  “Richistan” segment  as “pushing an open door – no pressure”. This is seen in the data of the prices of SUVs. For example, a VW Touareg is a luxury SUV and is priced more than a same sized Honda Pilot. But a more stark contrast is the price differential between   a Prosche Cayenne, which is built on the same assembly line as Touareg and has almost identical parts,  and Touareg.  While the Touareg could be called hedonistic, the Cayenne falls into conspicuous end of the consumption spectrum and hence provides the marketer with more freedom in pricing them.

The question is can we tease out consumer’s willingness to pay for the hedonistic and conspicuous parts of their consumption?

Reversal of Irrational Consumption

Have we been buying things that are worth less to us that the price we paid for them? If we all are rational we should not pay more than our willingness to pay which is a function of  what the product is worth and our reference price.  A recent Financial Times article on changing consumer preferences in recessionary times had quotes from several marketing professionals and academics. One of the quote was from Mr. Seth Godin, author of several marketing books,

Seth Godin, a marketing trendspotter, calls this the “affordable premium” product, which, like a McDonald’s coffee, is deemed to be worth more than it costs.

If we are rational (left image) we should only be buying products that leaves us a positive consumer surplus. What Mr.Godin suggests (or to be specific the FT’s quote states) is that we have been behaving like the right image.consumption

Does that mean we have been buying goods that are not worth the price  we paid for them? Perhaps. There are two possible explanations:

  1. Our consumptions were hedonistic and we convinced ourselves that the products are really worth more than the price we paid for them.
  2. Our consumptions were conspicuous – that is we have been doing them for keeping up with appearances and with the Joneses.

Availability of easy credit and high home prices drove us to behave like the right image and buy things that we were not getting the value for the price we paid. Now with bad economy we see the reversal to the expected rational behavior.

The bigger question is how do consumers value the products they buy? Even consumers do not know the exact dollar figure of value. A marketer can tease out this value and make a reasonable estimate of the relative weights we assign to the components of a product like is utility, hedonistic value, brand and luxury. Next up I will discuss the factors that go into the valuation and the current shift in consumer valuation.

Wherewithal To Pay

My next work on behavioral economics is about  pricing effects in changed economic conditions. Here is a sketch of the ideas I am working on. Here I introduce a new phrase that mirrors “Willingness to Pay” – Wherewithal to Pay. While you are there do check out my other decks as well.

Do you pick free shipping or pay for it at Amazon.com?

In his book Predictably Irrational, Dan Ariely talks about how we treat money as percentages instead of absolutes. For example,

You can buy a nice pen for $25 at a store you are in. Then you remember (or are told) the exact same pen can be had for $18 at another store that is a 15-minute walk away. Most people will take the walk. But if someone is about to buy a suit for $455 and finds out he can get the exact same thing for $448 by walking to another store 15 minutes distant, he will not, if he is like most people, bother to walk there.

The explanation for this comes from Prospect Theory, the decision context (and framing)  our decision making, even though  the absolute result is the same and context and framing are irrelevant according to rational expected utility theory.

The same goes when picking shipping option for Amazon.  The claim is that all thing being equal,  those who generally prefer the free shipping option for small purchases ($25-$70) will pick the paid option for larger purchases (>$80).  I do not have statistically significant data to verify but from the few informal queries I did with my colleagues it appears to be the case.

Next time you order something big from Amazon.com, (all things being equal and you are not in hurry to get your hands on the item) see what shipping option you check. When buying something for $100, the $4 additional shipping does not look much, whereas it  does when you order for $25.