How customers judge prices

blank slate dollar signs expectations numbers psychology preconception prices pricing pricing and payment relativity Dec 03, 2024

^{In short: Research reveals how customers use a mix of prior knowledge and guesswork to determine whether your prices are fair. Here's how to help them make a positive assessment.}

How do customers determine whether your price is fair?

There are two scenarios when it comes to how your prices are perceived. The first is when your customer has no concept of whether your price is fair, and the second is when they have preconceived expectations.

Let’s look at how to manage both.

Blank slate customers

Sometimes customers have no idea of what your product is worth. That’s bad news because most will feel like they need to do their due diligence and set about researching more options before committing.

To encourage them to proceed with you, your task is therefore to assure them they’re getting a good deal.

How? By providing points of reference.

This could be what competitors charge (“you’ll find some businesses charge as much as $15,000 for this, but we think that’s excessive”) or what you’ve charged similar clients (“a similar project cost $10,000 but I think yours can be done for around $8,000”).

Giving them a frame of reference will not only make them more comfortable, but will establish your credibility as someone who knows their industry.

Customers with preconceived expectations

More typically, customers will have some expectation of what they are willing to pay for your product or service. While they may not reveal this to you, it’s likely they have some reference point in mind.

How did they form that magical number?

Researchers have distilled it down to three ingredients:

Recall - what they remember seeing or paying;
Inference - what they guess your product is worth based on proxies (like other products in a similar category); and
Point of purchase - how prices are communicated during the sales process.

Information from each of these three categories is mixed together to form a final reference point, against which your offer is judged.

Here’s how to deal with each category.

1. Recall based reference prices

What your customer remembers paying or seeing will have a bearing on their price expectation. This is why people can get a shock when replacing something they purchased years ago. “But I only paid $5!”, they might think.

In some cases the elapse of time can be helpful.

For example, the cost of TVs has decreased more than many people realise, so they may be happily surprised when upgrading their unit.

But it’s not only infrequent purchases that recall based references impact. When grocery shopping, for example, I know what I paid for an avocado last week, and this helps me decide whether to buy on this shopping occasion.

The more familiar your customer is with products like yours, the more sensitive they’re likely to be to changes.

👉 The key with recall based references is to explain to customers why the price may have changed between then and now.

Has the cost of components changed, for example, or the product’s availability?

As soon as you get a sense that they’re referring back to a previous price, get to work on explaining what’s different about today’s circumstances.

2. Inference based references prices

Inference based reference prices are when your customer uses a proxy to guess what’s fair.

For example, judging the cost of a computer monitor compared to a keyboard.

They may also use their budget to guide what they’d be willing to pay. For example, they won’t spend more than $500 on a computer monitor.

👉 With inference based pricing, it can be helpful to look at products indirectly related to yours. Instead of letting them dwell on those that are less expensive than yours (like a keyboard to a monitor), mention products that are more expensive (like a computer to a monitor).

This will help them place yours in the middle of a broader pricing range, making it seem more realistic.

Mental accounting comes in here too. Just because they’d assigned a $500 limit to their “computer monitor” budget doesn’t mean that’s all the money they have to spend.

For example, you can talk to them about how using the right monitor feels like being on holiday because they’ll feel more rested.

Suddenly the cost of the monitor might be drawn from funds they had psychologically earmarked for their holiday rather than home office!

3. Point of purchase reference prices

Point of purchase is the most prominent frame of reference. Most commonly, this is the Recommended Retail Price (RRP) and includes your point of sale and that of your competitors.

There are a lot of psychological techniques you can employ in your point of sale to make your price look attractive. For example:

Leading with the original price (RRP) before listing the mark down. Sequence is important, as you want the higher number to set expectations so that the markdown seems favourable.
Using easily divisible prices for product bundles (eg $2 for $10 rather than 2 for $9 or $11).
Using a smaller font for the lower price. This is known as the size congruency effect, where smaller font infers smaller prices.
Diminishing the dollar sign. Currency symbols remind people they are spending money, so reducing the salience of a dollar sign can alleviate this negative association.

Customers will also use prices of other models in your product line up to gauge fair value.

That’s why it can make sense to have a “decoy” product in your range. A decoy is often a higher priced product that you don’t necessarily expect to sell, but whose role is to make your highest margin product look like great value in comparison.

The key with point of sale is to present pricing information that helps your customer feel confident, at a glance, that your price is fair.

👉👉 Whether your customer is a blank slate or comes with price expectations, it’s up to you to make them feel like yours is a good deal.

Help them understand why your price is fair and they’ll be much more likely to proceed, and proceed more quickly.

This article also appeared in Smartcompany.

^{Ref: Lii, Yuan-shuh & Ding, May-Ching & Kuo, Tzu. (2023). How Do We Perceive Prices? A Three-category Taxonomy of Reference Price Effect on Consumers’ Price Judgments. Asian Journal of Economics, Business and Accounting. 23. 44-51}