Friday, 11 October 2013

The price is right


Pricing has always been a difficult thing to get right, make something too expensive and you may struggle to sell enough of it, make it too cheap and it can be hard to make a return. In recent years work on heuristics and biases have helped explain some of the quirks or seeming irrationality in the way prices influence the decision making process. The usual behavioural economic suspects have written extensively on various aspects of the subject.  That said, there are still big gaps in our knowledge and the technology-led diversification of payment structures means we need to expand and re-evaluate what we thought we knew.

Two things that have emerged over recent years are the growth of Pay what you want (PWYW) pricing systems and crowd-funding platforms. The former allows individuals to decide how much they are willing to pay for a good or service. Whilst not an entirely new concept, the increase in digital delivery of content such as video games and music and the sophistication of online payment systems have made this approach increasingly common. Nonetheless, the most well known case of this is probably still Radiohead’s release of In Rainbows back in 2007. Crowd-funding projects allows individuals to pledge money to things that they want to see become a reality. In 2012 Amanda Palmer took this approach to fund the production of her next album (and art book, and tour). Having asked for $100,000, she quickly accumulated almost $1.2 million in pledges and about as much controversy as Radiohead did in 2007.

When and why these mechanisms work (or don’t work) is a rich area for continued enquiry.  A study recently published in Jena Economic Research Papers suggested that anonymity could have an important effect on the success of PWYW schemes [1]. They analysed Magnatune sales data during two periods from 2005.  During this year Magnatune made a change for a brief time whereby they told customers on the payment screen that the artist would be given their name and told how much they had paid. By contrasting sales figures from these two periods, the researchers concluded that reducing the anonymity led to a non-significant increase in amount paid, but a significant drop in purchases made, leading to an overall drop in revenue of 15%. Of course the research uses data from 2005, so whether this behaviour of what probably could be considered “early adopters” would match the wider audience, it is hard to say.

Personally I’ve always been fascinated by the Humble Bundle statistics. Humble Bundle operates a PWYW scheme for collections of independent games. The first collection was released in 2010 and since then the series has successfully generated not only additional collections of games but expansion into eBooks and music.

Since the very first bundle they have published aggregate statistics on the payments made for the bundles [2]. They show the total contribution and average donation by operating system. Although the total contribution has generally been dominated by those using a Windows Operating System (due to volume of sales), the average price paid by those using Linux is consistently higher.

Does the fact that the average amount contributed by those on Linux exceed those on Mac and Windows Operating Systems indicate something about the sort of people who use Linux? Or is there some kind of grouping effect? Maybe the visibility of the stats affects the amounts those using different Operating Systems are willing to pay, or initial availability plays a role? It is hard to say, but certainly raises interesting questions about willingness to pay. Making something free can lead to over-consumption and make us undervalue superior paid alternatives (see for example "The cost of zero" in Predictably Irrational). However if anything Linux users are less used to paying for the software that they use. In fact the idea that people may become used to paying nothing for software is often an argument given against freeware and the open source movement.

When it comes to pricing we certainly don’t have all the answers and not all prices or situations are created equal. What works in terms of PWYW and crowd-funding schemes is still the subject of a great deal of debate – currently well over 50% of kickstarter projects have failed [3]. However as new types of transaction emerge and grow in popularity, it provides the data and opportunity to improve our understanding of the decision making process and I'm sure will generate plenty of interesting new findings.

Dan Siddle
Research Innovation Specialist

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