Price Anchoring- a Weight on your Budget

Anchor

When I think about the world of Sales, the first place my mind usually goes is the classic Alec Baldwin scene from Glengarry Glen Ross. Like probably a lot of people I’ve actually never even seen the rest of the movie, just these couple minutes of intense berating that Alec Baldwin’s character delivers to a room of salesmen. It seems like everyone reacts one of two ways to this clip (and the reality that it’s meant to represent): Group A is inspired by his tough love approach and the motto “Always Be Closing” that says your success is determined solely by your desire and your drive to make things happen; Group B feels disgust at the treatment of the salesmen and the focus on maximizing money at the expense of all else in life. I’m not here to tell you how to feel, you could even be in both camps. I’m here to talk about how not only is this scene grounded in reality, but the attitude it represents isn’t limited to just some sleazy salesman trying to scam you into a big purchase. For better or worse, sales tactics are baked into the core of our capitalist society and the more you realize that, the less likely you are to fall victim to them.

Let’s say you head to the local car lot to lease yourself a new car…Just kidding, that’d be ridiculous. On average, a new car will lose 60 percent of its total value over the first five years of its life. You’re a smart guy or gal, so you let someone else take that depreciation hit and only shop for used cars and only buy what you can afford without a loan…but I digress.

So, let’s say you head to the local car lot to buy yourself a reliable, used car. It’s pretty common knowledge that the salesmen are going to do whatever it takes to convince sucker you into spending as much as possible. There are a dozen little tricks they use to pull this off, but at least you have the advantage of being on guard for it. For example, you know that the sticker price on the car is just a nice high number that is in no way the amount of cash you should actually part with. You go into it prepared and you haggle and you argue and eventually you settle on a number that’s a bit more reasonable.

Now, what you may not realize is that you still probably got screwed by that “sticker” price. Whaaat? Yep. Even if you haggle, that sticker price is designed to act as a price anchor. It’s the first number you’re likely to see and it’s going to stick in your mind as a reference point against which all future numbers are compared. If I’m willing to part with a car for $20k and I set the sticker price at $21k, I’ve only got a thousand dollars to give up during negotiation. If I set it at $22k or even higher, either we still settle on $20k and you feel like you got a better deal because you haggled it down so much, or we actually settle even higher and I come out ahead. What’s important is that the initial number I listed is going to shape how the negotiations go and what you’re actually willing to agree to.

Prices can also be anchored against comparisons. Let’s say I park a gas-sipping $15k hatchback next to a $40k fully-loaded SUV. If you’re on the lot shopping for the hatchback, it’s going to look pretty affordable by comparison and you’re going to be more likely to pay close to that sticker price, even if it’s actually worth a whole lot less.

Now, there’s plenty more that can be said about the various car dealership tactics out there and fortunately the availability of information on the internet has helped put the power back in the hands of us consumers. However, that’s not the point of this article.

As I said, when you’re at a car dealership you’re en garde and you’re ready for this sort of tricky behavior and the mental battle it’s going to take to get yourself the best price. The problem is: price anchoring and other psychological tricks are ubiquitous in every area of our consumer lives, not just the once a decade car purchase (please tell me you’re not buying cars more often than that, right?).

Whether you’re wandering through a Target buying odds and ends or you’re on the interwebs booking a vacation, companies are looking for ways to subtly encourage you to part with as much money as possible. The only differences from the car lot are that maybe it feels a little less sleazy and you probably aren’t watching out for it. This just means you’re more likely to fall victim.

The other side of this coin is that price anchoring isn’t just happening when you’re looking at the price set by a company. It’s also happened in your mind gradually throughout the course of your life. Here’s a few rapid fire questions to show you what I’m talking about:

  • How much should a cup of coffee cost?
  • What about a big ol’ fountain soda (the “I ❤️ Freedom/America” size)?
  • What’s a good price for a lunch out during the work day?
  • How about some take out from that Thai place down the road?

Okay, not rapid fire enough…

  • A night at a nice hotel?
  • A flight across the country?
  • A new car?
  • A week at Disney World?

Okay, that’s probably enough. Did you cheat and skip ahead without thinking of answers? Shame!

Image result for shame got

That’s alright though, I’ll finally get to the point…

For each of those categories, you’ve probably got a rough idea in your mind of what it should cost. I hate to break it to you, but that idea isn’t likely to be a rational calculation by your brain. Rather, it’s an average you’ve reached from your prior purchases, from your society and family background, and yes, from a whole hell of a lot of marketing that you’ve absorbed over the years.

This may seem fairly innocuous, but the trouble is that it means you’re likely to spend X dollars on a given purchase not because of what it’s worth to you or because of its intrinsic value, but because of how it compares to an arbitrary price or price range for the category. Once you’ve accepted that lunch should cost about 10 bucks, you’re much less likely to question if that is really a purchase you should be making every day or if maybe packing a lunch from home (for just a couple dollars in groceries) would bring more benefit. You stop thinking about the dollars spent on a flight across country in terms of their other uses (such as earning you income every year as an index fund investment or paying down debt) and focus mainly on how it compares to the cost of other airlines or other flights.

Wrap Up

Maybe this all sounds crazy to you, I don’t know. I hope not. For me, though, it’s all about the concept of living intentionally. This extends to all areas of life, but in the specific area of spending it’s about spending money on the things that add value to my life and spending relative to what those things are worth to me, rather than relative to what everyone thinks they should cost. Price anchoring takes this value decision out of your hands and places it largely in the hands of marketers and companies that want to charge the absolute most that you’d be willing to pay.

Further Reading

If you’re curious about some of the other ways in which salespeople take advantage of your psychology, here’s a list of 10 pricing strategies that I found interesting. It’s from the point of view of a business owner trying to increase sales, so it gives some good insights into how they can take advantage of us consumers with a few “simple tricks”.

Actionable Steps

  • When making any purchase, even those that seem innocent and require no negotiation, realize that the company/salesperson is probably taking advantage of the way your brain makes decisions in order to get you to spend more. Just having this awareness will go a long way in keeping them from taking advantage of you.
  • Put some thought into your purchases, rather than just buying on a whim. I really love the Frugalwoods concept of “the 72 hour rule“. It means writing down the things you want to buy and giving yourself a few days to marinate on whether or not the purchase adds value to your life.
  • Compare prices not against a category average (anchor price) or again a similar product/service, but against all possible users for that money- other purchases, debt paydown, investments, charity, etc. This approach helps prevent spending that’s driven by whims and marketing. Ultimately, it lends itself to becoming more intentional with your money decisions and leading a life based on your beliefs and values… The small decisions really do add up.

 

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