Behavioral Economics

23 Apr 2013

The following article is my submission for the writing assignment of the introductory behavioral economics course I am taking on Coursera. Professor Dan Ariely is pretty funny and witty. I would recommend this course for everyone, there’s great insights.

The in-video citations won’t make sense to you, but you should still get it. Here goes:

Problem

How fast-food outlets, retailers and banks target students by employing choice architecture and free items.

Details

Chocolates serve as a quick meal between classes and hungry students tend to buy them more often when displayed right at the billing counter at retail outlets. These outlets generally offer a ~5% discount to students, but to compensate for that they only offer expensive items - notebooks, chocolates, drinks etc.

Such choice-architecture employed by big firms results in economic and health-wise deterioration of the student.

Scale

The problem exists large within the student community who tend to fall for traps like free wifi and student discounts very often.

Research

Although there aren’t specific existing researches on this issue, inferences can be drawn from some research conducted on related issues.

Our decisions are more than often influenced by complexity, defaults and freebies. We tend to favour free items over payable items even if there is no net difference in the two amounts.

1. As indicated by video lecture 1.4, 9:27 and 2.8, 1:00, decisons are influenced by choice sets. the subjects preferred the free chocolate bar over the truffle although there was no net difference in the prices. Similarly when the retail outlets provide a choice between relatively expensive chocolates right at the billing counter and stack their products in such a way that high-priced notebooks are more prominent, the student unknowingly buys one thinking about how getting a chocolate for 30 bucks and a notebook for 60 (which had a free pen with it!) at a discount of 5% was such a great bargain. She, however, is totally ignorant of the fact that she could have bought the same notebook for 40 bucks and evaded the false “free pen” trap and not get seducted by the chocolate by putting in a little bit of thought and self-control before buying. This example also proves that when we don’t know what we want, we are guided by the environment.
2. The example quoted in lecture 2.8, 6:15 is a brilliant evidence of how a free book with $20 shipping appears to be a bargain. The student chooses a fast-food joint for it offers free wifi and a special combo for students, over a healthy meal at the local deli. Therefore “enjoying” a sloppy wifi network (we all know how sucky the speeds at wifi hotspots are) with a fairly expensive meal provides greater happiness to the student, and drills an even greater hole in her pocket.
3. There’s another funny and maybe even evil way retailers employ choice architecture. Bottled water is available at various prices - 15, 30 and 40 bucks; retailers provide all three variants but in order to maximize their profits they offer them with a twist. During peak summers only the expensive variants are offered cold, the cheap 15 bucks variant is available but warm.
4. Banks offer cheap credit and debit cards to students which is also a move more in favour of retailers’ than the students’. The study by Thomas et al (October, 2010) proves that both credit cards and debit cards reduce pain of payment and thus increase purchases of vice products such as talked of above.

Solution

There aren’t any definitive concrete solutions for this problem. All solutions merge at “self-control” and “think before buying”.

Based on existing research

From video lecture 1.6, 1:26 it can be drawn that our intuitions are often wrong, and we don’t recognize our faults. Students should realize this and keep this in mind while making purchases. A simple solution would be to offer an introductory course in behavioral economics and money handling to all students in their junior year.

New solution

(1) An experiment conducted in this research (Frederick et al, 2009) showed that listing the “Not buy” option as “keep money for other purchases” reduced the buying behavior from 75% to 55%.

(2) As can be seen from this infographic 80% of humans have a mobile phone today. In the age group of 18-24, 17.4% own a smartphone.

An ideal solution to draw from (1) and (2) would be to use money keeping apps like Lemon (lemon dot com). Every time you add a receipt to your log if a message (such as - “Do you really need to buy this?”) displays on the screen it will more often than not detract the student’s expenses. Non-smartphone owners could keep a check on their spending habits by keeping a weekly/fortnightly account.

Speaking from personal experience, one does not need to keep their balance sheet up-to-date with every minor purchase all the time. However doing so for a few weeks or so provides a more or less accurate idea of the average expenses and develops a neat habit of mental accounting.

Comment: All prices listed above are in INR.