Ben Leftwich | May 12, 2016

Why marketers need to start paying attention to behavioral economics

Used to be, if you were going into marketing, psychology was a pretty good bet for an educational background. The connections between marketing and psychology are well known and, indeed, most of the marketing that’s taught at the university level is done by psychologists.

Having received an undergraduate degree in economics, though, I tend to be a bit partial to the power of economics to help predict or explain human behaviour. One aspect that always bothered me in economics though was the underlying assumption of the rational decision maker.

I’m condensing and bastardising about 300 years of economic theory here, but the assumption basically goes like this: when presented with all of the relevant data, humans will make the choice that maximises their utility.

That makes us all sound very sensible; we look at all the facts and then spend our money in such a way that we will derive the greatest satisfaction from our purchase. Most of us would like to think that we’re perfectly rational and make our choices using this simple concept everyday. But as we all know from experience, our decisions are rarely this neat and rational.

Maybe we prefer something because of its colour versus its usefulness. Maybe we like it because our friends like it, or don’t like it as the case may be. In any event, rarely are our decisions purely rational – which psychologists have known for a long time, but economists had a hard time accepting.

Fortunately, economics has slowly started to catch on, developing a new branch called behavioural economics.

Instead of doing what economists typically do and take observed data sets from reliable sources (think governments) and run regression analysis to determine correlations and causations, behavioural economists design controlled experiments similar to phycologists to test a given hypothesis. The tools to analyse the data are similar, but the way the data is collected is different.

Why should marketers care?

In short: understanding behavioral economics and the implications of the experiments will make you better at your job.

For example, one of the most famous behavioral economists, Dan Ariely at Duke University, has proven that supply-and-demand is not the sole factor influencing the price of a product. As a marketer, you can assign a value to a product simply by the price you assign it.

Why do you think 40 year old rum is five times as expensive at 5 year old rum? Do you think it cost five times as much to make? Or there’s more demand and less supply for the 40 year old rum?

That pricing, especially in a market where there’s imperfect information about products, in tandem with the psychology of the product packaging, sends a powerful message about the quality of the product and therefore how much a buyer should be willing to pay.

In another experiment, Ariely shows the power of the “decoy effect” to alter how people make selections based on relative comparisons. Essentially, marketers can put one option out (the decoy) that makes the others look significantly better to influence a desired action. Some consumers will of course pick the decoy, but the majority will go for what’s perceived as the better option.

Behavioral economics is an exceedingly exciting space in the economics field that marketers seem to be ignoring for the most part. Definitely pick up one of Dan Ariely’s books such as Predictably Irrational to get a primer on behavioral economics and start applying some of the concepts to real marketing situations in your world.

Ben Leftwich

Account Director