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Show notes

This is our second episode is about mental accounting - the process of putting our money into categories in our heads and deciding what to do with it based on those categories.

This time we talk about how we think about price when we’re buying goods and services. Our decisions about whether things feel cheap or expensive are often about what we expect the seller to charge us. That might be very different from what we think the right price is for something when we pay attention to who’s selling it.

The science behind this is in Richard Thaler’s paper Mental Accounting Matters (opens as pdf).

Examples

1. If we buy a chocolate bar from a corner store expecting it to be 80p and they charge £1 we may feel ripped off. If we bought the same chocolate bar to take away from a fancy café and expected it to be £1.25 but they charged us £1, we’d feel we got a good deal. This is pretty silly because the products are exactly the same and at the same price.

2. If we go to buy a £10 t-shirt and someone tells us the same t-shirt is available over the road for £5 we’d probably think it was worth going to the other shop for the discount. If we were buying a suit at £1,800* and it was £5 less over the road we’re unlikely to bother. This is pretty irrational, because in both cases the discount is £5, but £5 seems like less money when we’re buying the suit because it’s a smaller percentage discount.

3. Let’s stay at the suit-makers and imagine we’re at the till and the sales person suggests a nice pair of earrings or a tie pin for £15. Compared to the price of the suit the jewellery looks inexpensive, so we’re more likely to buy it. If we’d just walked in and seen the jewellery on its own we probably wouldn't have got it.

Our tips:

• A small discount on a big expense is still worth having.

• Watch out for ‘small’ add-ons to big purchases. Could you do something better with your money?

• When thinking about whether a discount is worth having think about what else you would do with the money. That way it makes the decision more real.

• Think about the things you consider to be cheap and expensive. Are there things that would make you happy, that you don’t buy because they are ‘expensive’? Are there things you buy out of habit that are a similar price? Could you spend slightly differently to get more of what you really enjoy?

(*ha ha! Martha and Alex do not wear £1,800 suits!)