In the previous article I outlined how behavioural economics is different from neoclassical economics, as it does not assume the four core axioms of the homo economicus. In today’s post I will emphasize the implausibility of the core axiom of transitivity, by showing how context affects the decision-making process.
How do you determine whether you are getting a good deal? Whether the product you are purchasing is good value? Whether the extra amount of functions, luxury or service is worth the additional money? You start comparing. You compare the product you are about to purchase to similar products you have purchased before. But even more likely, you compare the product you are thinking of purchasing to similar products in its direct surroundings. Let’s put this in a scenario almost everyone has experienced: buying a phone.
Often, there is relatively cheap phones with a limited number of functions, and the functions that it does have are not that great. Then there is also the best phone, which has a lot of functions and they all perform to the highest standard on the market: touchscreen, great camera, endless memory, great processing speed. However, this phone is of course very expensive compared to the cheap phone. Most people find this an incredibly difficult choice, as they don’t know to make the trade-off between money and quality. The cheap phone really doesn’t have all the functions they want, but they’re not sure whether they are willing to pay that much money for the much better phone. They wonder if they really do need that many functions, at that level of quality.
With only these two options available, it is very plausible that people do not make a choice at all. Which results in either less or no sales. To solve this issue, the context effects go to work. The three most famous context-effects are: compromise (EA), attractiveness (decoy) and similarity (Trueblood et al, 2013).
Compromise The compromise effect is often also called extremity aversion, in which an individual tends to select the product in the middle as a form of compromise. Retailers present both the cheap and the expensive phone, but with an option in the middle. This option will have a price around the average of both phones, with also the average amount of functions with an average quality. It will be the compromise: more functions of possibly a better quality than the cheapest phone. But also costing a lot less than the most expensive phone. When a middle option is present, sales for this option are highest. So often, if a product hasn’t met its sales target, it will be presented with an inferior, cheaper option and a superior, much more expensive option to increase its attractiveness. And as a result boost sales.
Attractiveness The attractiveness effect is often called the decoy effect. In which the third option is introduced to boost the sales of either the cheap, but most often the most expensive product. The decoy is a product that has less functions (or lower quality), but is more expensive than the product it is most similar with. So compared to the cheap phone it has even less functions and is more expensive. Compared to the more expensive, it is even more expensive, but has less options. Obviously as a result, the phone it is most similar to, will appear even more attractive. It would be rather illogical to purchase the decoy product, therefore this product often has incredibly low sales, whereas the sales of the now most attractive product soar. This effect is often used to boost sales of a product that might not have met its initial sales target.
Similarity The similarity effect is often used to detract rather than put increased focus on another product. Using the similarity effect someone would introduce a product that is very similar to a product that is already out there. It would be like introducing another cheap phone, with a similar amount and level of functions as the one already out there, but maybe with a different colour or slightly different shape. This product will hurt the similar product more in sales than it will the dissimilar product. With two or more similar items competing for attention they will only detract from each other in the marketplace, as there is little to no difference between them. However, the market share for cheap phones compared to the more expensive phones can go up, as there are more of the former on offer. Cheaper phones due to their increased presence can now look like the norm, and as a result can increase their sales as most people like to fall into the norm. This can backlash, as the now expensive phone looks more exclusive, which is something quite a few people enjoy as well. The similarity effect in general, is not used to boost sales of one specific product.
For all these effects I have used price and number of functions (a measure of quality) as the two characteristics on which products are judged. However, this is not always the case. Products can also compete on size, sustainability, endurance, and location. For example, when customers are looking amongst a range of products they tend to favour the product in the middle (Bar-Hillel, 2015). This is in line with the compromise effect or extremity aversion. However, the product need not even necessarily have the median price, the median number of functions or be the median size. It just needs to be well-positioned.
It need not be products either, people can use this context effects as well to make themselves appear more attractive, more intelligent or funnier. This is why they tell you to take pictures with “uglier” friends, especially for dating apps. It will make you look more attractive in comparison, as mean as that is….
References Bar-Hillel, M. (2015). Position effects in choice from simultaneous displays: A conundrum solved. Perspectives on Psychological Science, 10(4), 419-433.
Trueblood, J. S., Brown, S. D., Heathcote, A., & Busemeyer, J. R. (2013). Not just for consumers: Context effects are fundamental to decision making. Psychological science, 24(6), 901-908.