All posts by 433635lm

Personalized pricing: is it fair or not?


A review of the article “Personalized pricing and pricing fairness” by Timothy J. Richards, Jura Liaukonyte & Nadia A. Streletskaya (2016)

The development of high granular price appearance algorithms and the large amount of customer data that can be collected through online purchases, led to the increasing use of personalized pricing (Weisstein et al., 2013). In a transparent environment, personalized pricing may cause a feeling of distrust, unfairness and fears of price-gouging. These feelings can arise when customers notice that they pay a higher price for a product or service than others do. In the end, this feeling of betrayal could lead to reduced purchase intentions of customers. Therefore, it is of high importance for organizations to arrange their pricing system in a correct way, so that it does not affect customers’ purchase intentions in a negative way. The paper of Richards, Liaukonyte & Streletskaya (2016) investigates how interpersonal price differences could lead to customers’ perceptions of unfairness. Subsequently, the paper gives a mitigation strategy for companies to reduce the negative effects on sales because of personalized pricing.

During the course Customer-Centric Digital Commerce, we have discussed the phenomenon personalized pricing with the example of airline tickets and a bottle of Coca-Cola. Why do we feel betrayed if there would be interpersonal pricing differences for a bottle of Coca-Cola, but do we accept these differences when it comes to airplane tickets? This has to do with the product type and setting, but also with the customers’ price fairness perceptions. According to Richards et al. (2016)  the price perceptions of customers are mainly derived through social norms and transactional utility, which means that customers are more satisfied if they paid less than their reference price. A customer’s reference price is often based on what other people paid. Customer’s price fairness perception can be determined by comparing the customer’s reference price with the actual price. Perception of price unfairness is in this study shaped by self-interested inequity aversion, which entails that people are less likely to purchase when they value prices as unfair and people are more likely to purchase if prices are more fair or price inequity is in their favour. Based on these concepts, the article raises the following main hypotheses for the study:

  • “There is self-centered inequity aversion in which agents experience negative marginal utility whether others pay less than themselves, or they pay less than others.” (Richards, Liaukonyte & Streletskaya, 2016: p143)
  • “When we allow buyers to negotiate the final price, however, we expect to find fairness perceptions improve to the point where much larger differences in realized prices are acceptable, and discriminatory pricing equilibria are generally stable.” (Richards, Liaukonyte & Streletskaya, 2016: p139)

Methodology

The researchers have tested the hypotheses by an experiment in a lab setting with a survey among 278 students from a large Eastern US university. The students are randomly assigned between two treatment groups, the price-posted treatment or the price-discovery treatment. Before the treatment, the risk preferences of the students are measured by a multiple choice exercise. In the exercise, students are asked to choose between two lotteries (A or B) whereby lottery A is more safe in terms of risk compared to lottery B. This exercise is done, because the researchers expect that people’s risk seeking or risk avoiding behaviour can be an important factor in determining price inequity aversion. After this exercise, the experiment continues with the treatment procedure. First, the students had to practise with making purchase decisions though the board game Monopoly. Hereafter, the real experiment started, which consisted of multiple rounds where students were confronted with different price distributions for the same T-shirt.  In the price-posted treatment group, students had to accept or reject the T-shirt price without the chance to negotiate. In the price-discovery treatment group, the participants had the option to negotiate on the price by submitting their own bid, besides the option of accepting or rejecting the price just as in the price-posted treatment. In both groups, the students were asked to rate the fairness of the prices on a five-point Likert scale. By this way the researchers were able to measure the impact of inequity on purchase intentions.

Results

One of the most important results that were found by the researchers through the experiment, is about how fairness perceptions influence purchase behaviour. From the participants that rated the prices as unfair or slightly unfair, only 4.9% chose to buy the T-shirt. While from the participants that assessed the prices as fair or generally fair, more than 73% decided to buy the T-shirt. These results show that the feeling of inequity is expected to have an important effect on customer’s purchase behaviour. Another interesting finding is that the price-discovery treatment has a significant effect on the purchase intentions of customers. This means that customers are more likely to purchase consumer goods when they can participate in price determination through negotiation. Furthermore, the research indicates that in a transparent setting more risk averse people are more likely to purchase products even when there is inequity against them.

Main strength of the paper

In my opinion, a big strength of the article is that it brings some novel managerial implications to improve companies’ pricing strategy. The researchers found that customers are much more likely to buy a product when they can participate in the price formation. Companies can use this insight by including customers in the price determination to increase the sales of the company. Furthermore the paper indicates that customers are less likely to purchase products when they perceive the price as unfair. Companies should therefore ensure that customers feel like the prices are fair. Although these insights are very meaningful for companies, the paper does not give very concrete instructions of how companies should include consumers in the price formation process or how companies could ensure that their prices will be perceives as fair. Nevertheless, this paper brings some new, valuable insights in the personalized pricing issue and provides a foundation for future research.

References

Richards, T. J., Liaukonyte, J. & Streletskaya, N. A. (2016). Personalized pricing and price fairness. International Journal of Industrial Organization44, 138-153.

Weisstein, F.L., Monroe, K.B. & Kukar-Kinney, M. (2013). Effects of price framing on consumers’ perceptions of online dynamic pricing practices. J. Acad. Mark. Sci., 41 (5), 501–514.