ArticlePDF Available

# Mental Accounting and Consumer Choice

Authors:

## Abstract

A new model of consumer behavior is developed using a hybrid of cognitive psychology and microeconomics. The development of the model starts with the mental coding of combinations of gains and losses using the prospect theory value function. Then the evaluation of purchases is modeled using the new concept of “transaction utility.” The household budgeting process is also incorporated to complete the characterization of mental accounting. Several implications to marketing, particularly in the area of pricing, are developed.
Vol. 27, No. 1, January–February 2008, pp. 15–25
issn 0732-2399 eissn 1526-548X 08 2701 0015
informs®
doi 10.1287/mksc.1070.0330
Mental Accounting and Consumer Choice
Richard H. Thaler
Johnson Graduate School of Management, Cornell University, Ithaca, New York 14853, thaler@chicagogsb.edu
Anew model of consumer behavior is developed using a hybrid of cognitive psychology and microeconomics.
The development of the model starts with the mental coding of combinations of gains and losses using
the prospect theory value function. Then the evaluation of purchases is modeled using the new concept of
“transaction utility.” The household budgeting process is also incorporated to complete the characterization of
mental accounting. Several implications to marketing, particularly in the area of pricing, are developed.
This article was originally published in Marketing Science, Volume 4, Issue 3, pages 199–214, in 1985.
Key words: mental accounting; consumer choice; pricing
History : This paper was received June 1983 and was with the author for 2 revisions.
1. Introduction
Consider the following anecdotes:
1. Mr. and Mrs. L and Mr. and Mrs. H went on a
ﬁshing trip in the northwest and caught some salmon.
They packed the ﬁsh and sent it home on an airline,
but the ﬁsh were lost in transit. They received $300 from the airline. The couples take the money, go out to dinner and spend$225. They had never spent that
much at a restaurant before.
2. Mr. X is up $50 in a monthly poker game. He has a queen high ﬂush and calls a$10 bet. Mr. Y owns 100
shares of IBM which went up 1
2today and is even in
the poker game. He has a king high ﬂush but he folds.
When X wins, Y thinks to himself, “If I had been up
$50 I would have called too.” 3. Mr. and Mrs. J have saved$15,000 toward their
dream vacation home. They hope to buy the home in
ﬁve years. The money earns 10% in a money market
account. They just bought a new car for $11,000 which they ﬁnanced with a three-year car loan at 15%. 4. Mr. S admires a$125 cashmere sweater at the
department store. He declines to buy it, feeling that
it is too extravagant. Later that month he receives the
same sweater from his wife for a birthday present. He
is very happy. Mr. and Mrs. S have only joint bank
accounts.
All organizations, from General Motors down to
single person households, have explicit and/or im-
plicit accounting systems. The accounting systems
often inﬂuence decisions in unexpected ways. This
paper characterizes some aspects of the implicit men-
tal accounting system used by individuals and house-
holds. The goal of the paper is to develop a richer
theory of consumer behavior than standard eco-
nomic theory. The new theory is capable of explain-
ing (and predicting) the kinds of behavior illustrated
by the four anecdotes above. Each of these anec-
dotes illustrate a type of behavior where a mental
accounting system induces an individual to violate
a simple economic principle. Example 1 violates the
principle of fungibility. Money is not supposed to
have labels attached to it. Yet the couples behaved
the way they did because the $300 was put into both “windfall gain” and “food” accounts. The extrava- gant dinner would not have occurred had each cou- ple received a yearly salary increase of$150, even
though that would have been worth more in present
value terms. Example 2 illustrates that accounts may
be both topically and temporally speciﬁc. A player’s
behavior in a poker game is altered by his current
position in that evening’s game, but not by either his
lifetime winnings or losings nor by some event allo-
cated to a different account altogether such as a paper
gain in the stock market. In example 3 the violation
of fungibility (at obvious economic costs) is caused
by the household’s appreciation for their own self-
control problems. They are afraid that if the vacation
home account is drawn down it will not be repaid,
while the bank will see to it that the car loan is
paid off on schedule. Example 4 illustrates the curi-
ous fact that people tend to give as gifts items that
the recipients would not buy for themselves, and that
the recipients by and large approve of the strategy. As
is shown in §4.3, this also violates a microeconomic
principle.
The theory of consumer behavior to which the cur-
rent theory is offered as a substitute is the standard
economic theory of the consumer. That theory, of
course, is based on normative principles. In fact, the
paradigm of economic theory is to ﬁrst characterize
the solution to some problem, and then to assume the
relevant agents (on average) act accordingly.
The decision problem which consumers are sup-
posed to solve can be characterized in a simple fash-
ion. Let z=z1z
iz
nbe the vector of goods
15
Thaler: Mental Accounting and Consumer Choice
16 Marketing Science 27(1), pp. 15–25, © 2008 INFORMS
available in the economy at prices given by the cor-
responding vector p=p1p
ip
n. Let the con-
sumer’s utility function be deﬁned as Uzand his
income (or wealth) be given as I. Then the consumer
should try to solve the following problem:
max
zUz
s.t. piziI
Or, using Lagrange multipliers
max
zUzpiziI(1)
The ﬁrst order conditions to this problem are,
in essence, the economic theory of the consumer.
Lancaster (1971) has extended the model by having
utility depend on the characteristics of the goods.
Similarly, Becker (1965) has introduced the role of
time and other factors using the concept of house-
hold production. These extended theories are richer
than the original model, and, as a result, have more
to offer marketing. Nevertheless, the economic the-
widespread application in marketing. Why not? One
reason is that all such models omit virtually all mar-
keting variables except price and product characteris-
tics. Many marketing variables fall into the category
that Tversky and Kahneman (1981) refer to as framing.
These authors have shown that often choices depend
on the way a problem is posed as much as on the
objective features of a problem. Yet within economic
theory, framing cannot alter behavior.
To help describe individual choice under uncer-
tainty in a way capable of capturing “mere” fram-
ing effects as well as other anomalies, Kahneman and
Tversky (1979) have developed “prospect theory” as
an alternative to expected utility theory. Prospect the-
ory’s sole aim is to describe or predict behavior, not
to characterize optimal behavior. Elsewhere (Thaler
1980), I have begun to develop a similar descrip-
tive alternative to the deterministic economic theory
of consumer choice. There I argue that consumers
often fail to behave in accordance with the norma-
tive prescriptions of economic theory. For example,
consumers often pay attention to sunk costs when
they shouldn’t, and underweight opportunity costs as
compared to out-of-pocket costs.1
This paper uses the concept of mental account-
ing to move further toward a behaviorally based
theory of consumer choice. Compared to the model
in Equation (1) the alternative theory has three key
features. First, the utility function Uxis replaced
1These propositions have recently been tested and conﬁrmed in
extensive studies by Arkes and Blumer (1985), Gregory (1982), and
Knetch and Sinden (1984).
with the value function v·from prospect theory. The
characteristics of this value function are described and
then extended to apply to compound outcomes. Sec-
ond, price is introduced directly into the value func-
tion using the concept of a reference price. The new
concept of transaction utility is developed as a result.
Third, the normative principle of fungibility is relaxed.
Numerous marketing implications of the theory are
derived. The theory is also used to explain some
empirical puzzles.
2. Mental Arithmetic
2.1. The Value Function
The ﬁrst step in describing the behavior of the rep-
resentative consumer is to replace the utility func-
tion from economic theory with the psychologically
richer value function used by Kahneman and Tversky.
The assumed shape of the value function incorpo-
rates three important behavioral principles that are
used repeatedly in what follows. First, the function
v·is deﬁned over perceived gains and losses relative
to some natural reference point, rather than wealth
or consumption as in the standard theory. This fea-
ture reﬂects the fact that people appear to respond
more to perceived changes than to absolute levels.
(The individual in this model can be thought of as
a pleasure machine with gains yielding pleasure and
losses yielding pain.) By using a reference point the
theory also permits framing effects to affect choices.
The framing of a problem often involves the sugges-
tion of a particular reference point. Second, the value
function is assumed to be concave for gains and con-
vex for losses (vx < 0x > 0; v x > 0x<0). This
feature captures the basic psychophysics of quantity.
The difference between $10 and$20 seems greater
than the difference between $110 and$120, irrespec-
tive of the signs of the amounts in question. Third, the
loss function is steeper than the gain function vx <
vx,x>0. This notion that losses loom larger
than gains captures what I have elsewhere called
the endowment effect: people generally will demand
more to sell an item they own than they would be
willing to pay to acquire the same item (Thaler 1980).
2.2. Coding Gains and Losses
The prospect theory value function is deﬁned over
single, unidimensional outcomes. For the present
analysis it is useful to extend the analysis to incor-
porate compound outcomes where each outcome is
measured along the same dimension (say dollars).2
2Kahneman and Tversky are currently working on the single out-
come, multi-attribute case. It is also possible to deal with the com-
pound multi-attribute case but things get very messy. Since this
paper is trying to extend economic theory which assumes that all
Thaler: Mental Accounting and Consumer Choice
Marketing Science 27(1), pp. 15–25, © 2008 INFORMS 17
The question is how does the joint outcome x y
get coded? Two possibilities are considered. The out-
comes could be valued jointly as vx +y in which
case they will be said to be integrated. Alternatively
they may be valued separately as vx +vy in
which case they are said to be segregated. The issue
to be investigated is whether segregation or integra-
tion produces greater utility. The issue is interesting
from three different perspectives. First, if a situation
is sufﬁciently ambiguous how will individuals choose
to code outcomes? To some extent people try to frame
outcomes in whatever way makes them happiest.3
Second, individuals may have preferences about how
their life is organized. Would most people rather have
a salary of $30,000 and a (certain) bonus of$5,000 or
a salary of $35,000? Third, and most relevant to mar- keting, how would a seller want to describe (frame) the characteristics of a transaction? Which attributes should be combined and which should be separated? The analysis which follows can be applied to any of these perspectives. For the joint outcome x y there are four possible combinations to consider: 1. Multiple Gains. Let x>0 and y>0.4Since vis concave vx +vy>vx+y, so segregation is pre- ferred. Moral: don’t wrap all the Christmas presents in one box. 2. Multiple Losses. Let the outcomes be xand y where xand yare still positive. Then since vx + vy<vx +y integration is preferred. For example, one desirable feature of credit cards is that they pool many small losses into one larger loss and in so doing reduce the total value lost. 3. Mixed Gain. Consider the outcome x y where x>yso there is a net gain. Here vx+vy < vx y so integration is preferred. In fact, since the loss function is steeper than the gain function, it is possible that vx +vy<0 while vx y must be positive since x>y by assumption. Thus, for mixed gains integration amounts to cancellation. Notice that all voluntarily executed trades fall into this category. 4. Mixed Loss. Consider the outcome x y where x<y, a net loss. In this case we cannot determine outcomes can be collapsed into a single index (utils or money) sticking to the one-dimensional case seems like a reasonable ﬁrst step. 3This is illustrated by the following true story. A group of friends who play poker together regularly had an outing in which they played poker in a large recreational vehicle while going to and from a race track. There were signiﬁcant asymmetries in the way people (honestly) reported their winnings and losings from the two poker games and racetrack bets. Whether the outcomes were reported together or separately could largely be explained by the analysis that follows. 4For simplicity I will deal only with two-outcome events, but the principles generalize to cases with several outcomes. Figure 1 Segregation or Integration of Gains and Losses Value Losses Gains Losses Gains Integration preferred Value Silver lining, segregation preferred Integration segregation v(x) v(x) (xy) (xy) v(xy) v(xy) v(x)+v(–y) v(x)+v(–y) v(–y) v ( y) y y x x without further information whether vx +vy vx y. This is illustrated in Figure 1. Segregation is preferred if vx>vxyvy. This is more likely the smaller is xrelative to y. Intuitively, with a large loss and a small gain, e.g.,$40$6000segregation is preferred since vis relatively ﬂat near 6,000. This will be referred to as the “silver lining” principle. On the other hand, for$40$50integration is proba- bly preferred since the gain of the$40 is likely to be
valued less than the reduction of the loss from $50 to$10, nearly a case of cancellation.
2.3. Evidence on Segregation and Integration
The previous analysis can be summarized by four
principles: (a) segregate gains, (b) integrate losses,
(c) cancel losses against larger gains, (d) segregate
Thaler: Mental Accounting and Consumer Choice
18 Marketing Science 27(1), pp. 15–25, © 2008 INFORMS
“silver linings.” To see whether these principles coin-
cided with the intuition of others, a small experiment
was conducted using 87 students in an undergradu-
ate statistics class at Cornell University. The idea was
to present subjects with pairs of outcomes either seg-
regated or integrated and to ask them which frame
was preferable. Four scenarios were used, one corre-
sponding to each of the above principles.
The instructions given to the students were:
Below you will ﬁnd four pairs of scenarios. In each
case two events occur in Mr. A’s life and one event
occurs in Mr. B’s life. You are asked to judge whether
Mr. A or Mr. B is happier. Would most people rather
be A or B? If you think the two scenarios are emotion-
ally equivalent, check “no difference.” In all cases the
events are intended to be ﬁnancially equivalent.
The four items used and the number of responses of
each type follow.
1. Mr. A was given tickets to lotteries involving the
World Series. He won $50 in one lottery and$25 in the
other.
Mr. B was given a ticket to a single, larger World
Series lottery. He won $75. Who was happier? 56 A16B15no difference 2. Mr. A received a letter from the IRS saying that he made a minor arithmetical mistake on his tax return and owed$100. He received a similar letter the same
day from his state income tax authority saying he
owed $50. There were no other repercussions from either mistake. Mr. B received a letter from the IRS saying that he made a minor arithmetical mistake on his tax return and owed$150. There were no other repercussions
from his mistake.
Who was more upset? 66 A14B7no difference
3. Mr. A bought his ﬁrst New York State lottery
ticket and won $100. Also, in a freak accident, he dam- aged the rug in his apartment and had to pay the land- lord$80.
Mr. B bought his ﬁrst New York State lottery ticket
and won $20. Who was happier? 22 A61B4no difference 4. Mr. A’s car was damaged in a parking lot. He had to spend$200 to repair the damage. The same day
the car was damaged he won $25 in the ofﬁce football pool. Mr. B’s car was damaged in a parking lot. He had to spend$175 to repair the damage.
Who was more upset? 19 A63B5no difference
For each item, a large majority of the subjects chose
in a manner predicted by the theory.5
5Two caveats must be noted here. First, the analysis does not
extend directly to the multi-attnbute (or multiple account) case. It
is often cognitively impossible to integrate across accounts. Thus
winning $100 does not cancel a toothache. Second, even within the same account, individuals may be unable to integrate two losses that are framed separately. See Johnson and Thaler (1985). 2.4. Reference Outcomes Suppose an individual is expecting some outcome x and instead obtains x+x. Deﬁne this as a refer- ence outcome x +x x. The question then arises how to value such an outcome. Assume that the expected outcome was fully anticipated and assim- ilated. This implies that vxx =0. A person who opens his monthly pay envelope and ﬁnds it to be the usual amount is unaffected. However, when x = 0 there is a choice of ways to frame the outcome cor- responding to the segregation/integration analysis of simple compound outcomes. With reference outcomes the choice involves whether to value the unexpected component x alone (segregation) or in conjunction with the expected component (integration). An exam- ple, similar to those above, illustrates the difference: • Mr. A expected a Christmas bonus of$300. He
received his check and the amount was indeed $300. A week later he received a note saying that there had been an error in this bonus check. The check was$50
too high. He must return the $50. • Mr. B expected a Christmas bonus of$300. He
received his check and found it was for $250. It is clear who is more upset in this story. Mr. A had his loss segregated and it would inevitably be coded as a loss of$50. Mr. B’s outcome can be inte-
grated by viewing the news as a reduction in a gain
v300v250. When the situation is structured
in a neutral or ambiguous manner then the same four
principles determine whether segregation or integra-
tion is preferred:
(1) An increase in a gain should be segregated.
(2) An increase in (the absolute value of) a loss
should be integrated.
(3) A decrease in a gain should be integrated (can-
cellation).
(4) A small reduction in (the absolute value of) a
loss should be segregated (silver lining).
The concept of a reference outcome is used below to
model a buyer’s reaction to a market price that differs
from the price he expected.
3. Transaction Utility Theory
In the context of the pleasure machine metaphor sug-
gested earlier, the previous section can be thought
of as a description of the hard wiring. The machine
responds to perceived gains and losses in the way
described. The next step in the analysis is to use this
structure to analyze transactions. A two-stage pro-
cess is proposed. First, individuals evaluate potential
transactions. Second, they approve or disapprove of
each potential transaction. The ﬁrst stage is a judg-
ment process while the second is a decision process.
They are analyzed in turn.
Thaler: Mental Accounting and Consumer Choice
Marketing Science 27(1), pp. 15–25, © 2008 INFORMS 19
3.1. Evaluating Transactions
Consider the following excerpt from a movie review:
My sister just found out that for a $235 per month sub- let she shares with another woman, she pays$185 per
month. The other woman justiﬁes her $50 per month rent two ways: one, she is doing my sister a favor let- ting her live there given the housing situation in New York City, and, two, everyone with a room to sublet in NYC will cheat her at least as badly. Her reasons are undeniably true, and that makes them quadruply disgusting. (Cornell Daily Sun, Feb. 21, 1983) Notice that the writer’s sister is presumably getting a good value for her money (the room is worth$185
per month) but is still unhappy. To incorporate this
aspect of the psychology of buying into the model,
two kinds of utility are postulated: acquisition util-
ity and transaction utility. The former depends on the
value of the good received compared to the outlay,
the latter depends solely on the perceived merits of
the “deal.”
For the analysis that follows, three price concepts
are used. First, deﬁne pas the actual price charged for
some good z. Then for some individual, deﬁne ¯
pas
the value equivalent of z, that is, the amount of money
which would leave the individual indifferent between
receiving ¯
por zas a gift.6Finally, let pbe called the
reference price for z. The reference price is an expected
or “just” price for z. (More on pmomentarily.)
Now deﬁne acquisition utility as the value of the
compound outcome z p =¯
pp. This is desig-
nated as v ¯
pp. Acquisition utility is the net utility
that accrues from the trade of pto obtain z(which is
valued at ¯
p). Since v ¯
pp will generally be coded as
the integrated outcome v ¯
pp, the cost of the good
is not treated as a loss. Given the steepness of the
loss function near the reference point, it is hedonically
inefﬁcient to code costs as losses, especially for rou-
tine transactions.
The measure of transaction utility depends on the
price the individual pays compared to some reference
price, p. Formally, it is deﬁned as the reference out-
come vpp, that is, the value of paying pwhen
the expected or reference price is p. Total utility from
a purchase is just the sum of acquisition utility and
transaction utility.7Thus the value of buying good zat
6In the standard theory, ¯
pequals the reservation price, the maxi-
mum the individual would pay. In this theory, ¯
pcan differ from the
reservation price because of positive or negative transaction utility.
Acquisition utility is comparable in principle to consumer surplus.
7A more general formulation would be to allow differing weights
on the two terms in (2). For example, Equation (2) could be writ-
ten as
wz p p=vp p +vp p
where is the weight given to transaction utility. If =0 then the
standard theory applies. Pathological bargain hunters would have
>1. This generalization was suggested by Jonathan Baron.
price pwith reference price pis deﬁned as wz p p
where:
wz p p =v ¯
pp +vp p (2)
Little has been said as to the determinants of p.
The most important factor in determining pis fair-
ness. Fairness, in turn, depends in large part on cost
to the seller. This is illustrated by the following three
questionnaires administered to ﬁrst-year MBA stu-
dents. (The phrases in brackets differed across the
three groups.)
Imagine that you are going to a sold-out Cornell
hockey playoff game, and you have an extra ticket to
sell or give away. The price marked on the ticket is $5 (but you were given your tickets for free by a friend) [which is what you paid for each ticket] {but you paid$10 each for your tickets when you bought them from
another student}. You get to the game early to make
sure you get rid of the ticket. An informal survey of
people selling tickets indicates that the going price is
$5. You ﬁnd someone who wants the ticket and takes out his wallet to pay you. He asks how much you want for the ticket. Assume that there is no law against charging a price higher than that marked on the ticket. What price do you ask for if 1. he is a friend 2. he is a stranger What would you have said if instead you found the going market price was$10?
3. friend
4. stranger
The idea behind the questionnaire was that the
price people would charge a friend would be a good
proxy for their estimate of a fair price. For each ques-
tion, three prices were available as possible anchors
upon which people could base their answers: the
price marked on the ticket, the market price, and the
price paid by the seller, i.e., cost. As can be seen in
Table 1, the modal answers in the friend condition are
equal to the seller’s costs except in the unusual case
Table 1 Percent of Subjects Giving Common Answers to Hockey
Ticket Question
Friend Stranger
Cost Market value 0 5 10 Other 0 5 10 Other
N=31
05 68
26 3 3 6 77 10 6
010 65
26 6 3 61658 19
N=28
5 5 14 79 07079714
510 779
4 9 01457 29
N=26
10 5 0 69 23 8 0 42 46 12
10 10 0 15 69 15 0 0 73 27
Thaler: Mental Accounting and Consumer Choice
20 Marketing Science 27(1), pp. 15–25, © 2008 INFORMS
where seller’s cost was above market price. In con-
trast, the modal answers in the stranger condition are
equal to market price with the same lone exception.
The implication of this is that buyers’ perceptions of
a seller’s costs will strongly inﬂuence their judgments
about what price is fair, and this in turn inﬂuences
their value for p.
The next questionnaire, given to those participants
in an executive development program who said they
were regular beer drinkers, shows how transaction
utility can inﬂuence willingness to pay (and therefore
demand).
Consider the following scenario:
You are lying on the beach on a hot day. All you have
to drink is ice water. For the last hour you have been
thinking about how much you would enjoy a nice cold
bottle of your favorite brand of beer. A companion gets
up to go make a phone call and offers to bring back
a beer from the only nearby place where beer is sold
(a fancy resort hotel) [a small, run-down grocery store].
He says that the beer might be expensive and so asks
how much you are willing to pay for the beer. He says
that he will buy the beer if it costs as much or less
than the price you state. But if it costs more than the
price you state he will not buy it. You trust your friend,
and there is no possibility of bargaining with (the bar-
tender) [store owner]. What price do you tell him?
The results from this survey were dramatic. The
median price given in the fancy resort hotel version
was $2.65 while the median for the small run-down grocery store version was$1.50. This difference occurs
despite the following three features of this example:
1. In both versions the ultimate consumption act is
the same—drinking one beer on the beach. The beer
is the same in each case.
2. There is no possibility of strategic behavior in
stating the reservation price.8
3. No “atmosphere” is consumed by the respon-
dent.
The explanation offered for these choices is based
on the concept of transaction utility. (Acquisition util-
ity is constant between the two cases.) While paying
$2.50 for a beer is an expected annoyance at the resort hotel, it would be considered an outrageous “rip-off” in a grocery store. Paying$2.50 a bottle is $15.00 a six-pack, considerably above the reference price. 3.2. Purchase Decisions—Multiple Accounts The introduction of w·as the purchase evaluation device requires additional changes to the standard theory described in the introduction. Since w·is 8The question is what economists would call “incentive compat- able”. The respondent’s best strategy is to state his or her true reservation price. Subjects given extensive explanations of this fea- ture nevertheless still display a large disparity in answers to the two versions of the problem. deﬁned over individual transactions it is convenient to give each unit of a speciﬁc good its own label. Opti- mization would then require the individual to select the set of purchases that would maximize w·sub- ject to the budget constraint piziIwhere Iis income. A solution to this integer programming prob- lem would be to make purchases if and only if wzip ip i pi k(3) where kis a constant that serves a role similar to that of the Lagrange multiplier in the standard formulation. Notice that if kis selected optimally then (3) can be applied sequentially without any explicit consid- eration of opportunity costs. This sort of sequential analysis seems to be a good description of behavior.9 First, the consumer responds to local temporal budget constraints. That is, the budget constraint that most inﬂuences behavior is the current income ﬂow rather than the present value of lifetime wealth. For many families, the most relevant time horizon is the month since many regular bills tend to be monthly. Thus, the budgeting process, either implicit or explicit, tends to occur on a month-to-month basis. Second, expen- ditures tend to be grouped into categories. Potential expenditures are then considered within their cate- gory. (Families that take their monthly pay and put it into various use-speciﬁc envelopes to be allocated during the month are explicitly behaving in the man- ner described here. Most families simply use a less explicit procedure.) The tendency to group purchases by category can violate the economic principle of fungibility. Given the existence of time and category speciﬁc budget constraints, the consumer evaluates purchases as situations arise. For example, suppose a couple is called by friends who suggest going out to din- ner on Saturday night at a particular restaurant. The couple would have to decide whether such an expen- diture would violate either the monthly or the enter- tainment constraints. Formally, the decision process can be modelled by saying the consumer will buy a good zat price pif wz p p p>k it where kit is the budget constraint for category iin time period t. 9The model that follows is based, in part, on some extensive, open- ended interviews of families conducted in 1982. The families were asked detailed questions about how they regulate their day-to-day expenditures, and what they have done in various speciﬁc situa- tions such as those involving a large windfall gain or loss. Thaler: Mental Accounting and Consumer Choice Marketing Science 27(1), pp. 15–25, © 2008 INFORMS 21 Of course, global optimization would lead all the kit’s to be equal which would render irrelevant the budgeting process described here. However, there is evidence that individuals do not act as if all the k’s were equal. As discussed elsewhere (Thaler and Shefrin 1981), individuals face self-control problems in regulating eating, drinking, smoking, and con- sumption generally. The whole mental accounting apparatus being presented here can be thought of as part of an individual’s solution to these problems. For example, the rule of thumb to restrict monthly expen- ditures to no more than monthly income is clearly nonoptimal. Yet, when borrowing is permitted as a method of smoothing out monthly k’s, some families ﬁnd themselves heavily in debt. Restrictions on bor- rowing are then adopted as a second-best strategy. The technology of self-control often implies outright prohibitions because allowing a little bit eventually leads to excesses. (Although smoking cigarettes is undoubtedly subject to diminishing marginal utility, almost no one smokes between 1 and 5 cigarettes a day. That level, while probably preferred by many smokers and former smokers to either zero or 20, is just unattainable.) Unusually high category speciﬁc k’s are most likely to be observed for goods that are particularly seduc- tive or addictive. Unusually low k’s are observed for goods viewed to be particularly desirable in the long run such as exercise or education. Application of these ideas to gift giving behavior is discussed below. 4. Marketing Implications The previous sections have outlined a theory and pre- sented some survey evidence to support its various components. The following sections discuss the impli- cations of this theory to marketing. There are two types of implications presented here. First, the the- ory is used to explain some empirical puzzles such as why some markets fail to clear. Second, some advice for sellers is derived, based on the presumption that buyers behave according to the theory. This advice is illustrated with actual examples. The implications are derived from each of the three main components of the theory: compounding principles, transaction util- ity, and budgetary rules. 4.1. Compounding Rule Implications This section will illustrate how the results from the analysis of mental arithmetic can inﬂuence market- ing decisions either in the design or products or in the choice of how products are described. The results of §2.2 can be summarized by two principles: segre- gate gains and integrate losses. Each principle also has a corollary: segregate “silver linings” (small gains combined with large losses) and integrate (or cancel) losses when combined with larger gains. Segregate Gains. The basic principle of segregating gains is simple and needs little elaboration or illus- tration. When a seller has a product with more than one dimension it is desirable to have each dimen- sion evaluated separately. The most vivid examples of this are the late-night television advertisements for kitchen utensils. The principle is used at two levels. First, each of the items sold is said to have a multi- tude of uses, each of which is demonstrated. Second, several “bonus” items are included “if you call right now.” These ads all seem to use the same basic for- mat and are almost a caricature of the segregation principle. The silver lining principle can be used to under- stand the widespread use of rebates as a form of price promotion. It is generally believed that rebates were ﬁrst widely used because of the threat of gov- ernment price controls. By having an explicitly tem- porary rebate it was hoped that the old price would be the one for which new regulations might apply. Rebates for small items have the additional feature that not all consumers send in the form to collect the rebate. However, rebates continue to be widely used in the automobile industry in spite of the following considerations: (1) Price controls seem very unlikely during the Reagan administration, especially with inﬂation receding. (2) All purchasers claim the rebate since it is pro- cessed by the dealer and is worth several hundred dollars. (3) Consumers must pay sales tax on the rebate. This can raise the cost of the purchase by 8% of the rebate in New York City. While this is not a large amount of money relative to the price of the car, it nonetheless provides an incentive to adopt the seem- ingly equivalent procedure of announcing a tempo- rary sale. Why then are rebates used in the automobile indus- try? The silver lining principle suggest one reason. A rebate strongly suggests segregating the saving. This can be further strengthened for those consumers who elect to have the rebate mailed to them from the corporate headquarters rather than applied to the down payment.10 Integrate Losses. When possible, consumers would prefer to integrate losses. The concavity of the loss function implies that adding$50 less to an existing
$1,000 loss will have little impact if it is integrated. This means that sellers have a distinct advantage 10 In the ﬁrst year that rebates were widely used, one manufacturer reported (to me in personal communication) that about one-third of the customers receiving rebates chose the option of having the check sent separately. My impression is that this has become less common as rebates have become widespread. Thaler: Mental Accounting and Consumer Choice 22 Marketing Science 27(1), pp. 15–25, © 2008 INFORMS in selling something if its cost can be added on to another larger purchase. Adding options to an auto- mobile or house purchase are classic, well-known examples. More generally, whenever a seller is deal- ing with an expensive item the seller should consider whether additional options can be created since the buyers will have temporarily inelastic demands for these options. The principle also applies to insurance purchases. Insurance companies frequently sell riders to home or car insurance policies that are attractive (I believe) only because of this principle. One com- pany has been advertising a “paint spill” rider for its homeowner policy. (This is apparently designed for do-it-yourselfers who have not yet discovered drop cloths.) Another example is credit card insur- ance which pays for the ﬁrst$50 of charges against a
credit card if it is lost or stolen. (Claims over $50 are absorbed by the credit card company.) The principle of cancellation states that losses will be integrated with larger gains where plausible. The best example of this is withholding from paychecks. In the present framework the least aversive type of loss is the reduction of a large gain. This concept seems to have been widely applied by governments. Income taxes would be perceived as much more aver- sive (in addition to being harder to collect) if the whole tax bill were due in April. The implication for sellers is that every effort should be made to set up a payroll withdrawal payment option. Probably the best way to market dental insurance, for example, would be to sell it as an option to group health insur- ance through employers. If the employee already pays for some share of the health insurance then the extra premium would be framed as an increase in an exist- ing deduction; this is the ultimate arrangement for a seller. 4.2. Transaction Utility Implications Sellouts and Scalping. The tool in the economist’s bag in which most economists place the greatest trust is the supply and demand analysis of simple com- modity markets. The theory stipulates that prices adjust over time until supply equals demand. While the conﬁdence put in that analysis is generally well founded, there are some markets which consistently fail to clear. One widely discussed example is labor markets where large numbers of unemployed work- ers coexist with wages that are not falling. Unemploy- ment occurs because a price (the wage) is too high. Another set of markets features the opposite problem, prices that are too low. I refer to the class of goods and services for which demand exceeds supply: Cabbage Patch dolls in December 1983 and 1984, tickets to any Super Bowl, World Series, World Cup Final, Vladimir Horowitz or Rolling Stones concert, or even dinner reservations for 8:00 p.m. Saturday evening at the most popular restaurant in any major city. Why are these prices too low? Once the Cabbage Patch rage started, the going black market price for a doll was over$100.
Why did Coleco continue to sell the dolls it had at list
price? Why did some discount stores sell their allot-
ted number at less than list price? Tickets for the 1984
Super Bowl were selling on the black market for $300 and up. Seats on the 50-yard line were worth consid- erably more. Why did the National Football League sell all of the tickets at the same$60 price?
There are no satisfactory answers to these questions
within the conﬁnes of standard microeconomic the-
ory. In the case of the Super Bowl, the league surely
does not need the extra publicity generated by the
ticket scarcity. (The argument that long lines create
publicity is sometimes given for why prices aren’t
higher during ﬁrst week’s showing of the latest Star
Wars epic.) The ticket scarcity occurs every year so
(unlike the Cabbage Patch Doll case) there is no pos-
sible surprise factor. Rather, it is quite clear that the
league knowingly sets the prices “too low.” Why?
The concept of transaction utility provides a coher-
ent, parsimonious answer. The key to understand-
ing the puzzle is to note that the under-pricing only
occurs when two conditions are present. First, the
market clearing price is much higher than some well-
established normal (reference) price. Second, there is
an ongoing pecuniary relationship between the buyer
and the seller. Pure scarcity is not enough. Rare art
works, beachfront property, and 25-carat diamonds all
sell at (very high) market clearing prices.
Once the notion of transaction (dis)utility is intro-
duced, then the role of the normal or reference price
becomes transparent. The goods and services listed
earlier all have such norms: prices of other dolls
similar to Cabbage Patch dolls, regular season ticket
prices, prices of other concerts, dinner prices at other
times or on other days, etc. These well-established ref-
erence prices create signiﬁcant transaction disutility if
a much higher price is charged.
The ongoing relationship between the buyer and
the seller is necessary (unless the seller is altruistic),
else the seller would not care if transaction disutil-
ity were generated. Again that ongoing relationship
is present in all the cases described. Coleco couldn’t
charge more for the dolls because it had plans for
future sales to doll customers and even nondoll buy-
ers who would simply be offended by an unusually
high price. Musical performers want to sell record
albums. Restaurants want to sell dinners at other
times and days. When a well-established reference
price exists, a seller has to weigh the short-run gain
associated with a higher price against the long-run
loss of good will and thus sales.
The pricing of sporting events provides a simple
test of this analysis. For major sporting events, the
Thaler: Mental Accounting and Consumer Choice
Marketing Science 27(1), pp. 15–25, © 2008 INFORMS 23
Table 2 Recent Prices for Major Sporting Events
1983 World Series $25–$30
1984 Super Bowl All seats $60 1984 Indianapolis 500 Top price$75
1981 Holmes–Cooney ﬁght Top price $600 price of tickets should be closer to the market clearing price, the larger is the share of total revenues the seller captures from the event in question. At one extreme are league championships such as the World Series and the Super Bowl. Ticket sales for these events are a tiny share of total league revenue. An intermediate case is the Indianapolis 500. This is an annual event, and is the sponsor’s major revenue source, but race- goers frequently come year after year so some ongo- ing relationship exists. At the other extreme is a major championship ﬁght. A boxing championship is a one- time affair involving a promoter and two ﬁghters. Those three parties are unlikely to be a partnership again. (Even a rematch is usually held in a differ- ent city.) There is no signiﬁcant long-run relationship between the sellers and boxing fans. While it is impossible to say what the actual market clearing prices would be, the ﬁgures in Table 2 indi- cate that the predictions are pretty well conﬁrmed. Good seats for the Super Bowl are probably the sin- gle item in greatest demand and are obviously un- derpriced since even the worst seats sell out at$60.
Of course, some Super Bowl tickets and Cabbage
Patch dolls do change hands at high prices through
scalpers. Since the black market price does rise to the
market clearing level, why do the sellers permit the
scalpers to appropriate these revenues? There are two
reasons. First, the transaction disutility generated by
a high black market price is not attributed to the orig-
inal seller. The NFL sets a “fair” price; it is the scalper
who is obtaining the immoral rents.11 Second, in many
cases the seller is really getting more than the face
value of the tickets. Tickets to the Super Bowl are
distributed to team owners in large numbers. Many
of these tickets are resold to tour operators (see the
next section) at prices which are not made public.
Similarly, tickets to the NCAA basketball tournament
ﬁnals are distributed in part to the qualifying teams.
These tickets are sold or given to loyal alumni. The
implicit price for such tickets is probably in the thou-
sands of dollars.
Methods of Raising Price. A seller who has a mon-
opoly over some popular product may ﬁnd that the
price being charged is substantially less than the mar-
ket clearing price. How can price be raised without
11 Transferring the transaction disutility is often a good strategy.
One way this can be done is to turn over an item for sale to an agent
who will sell it at auction. The seller then bears less responsibility
for the price.
generating excessive negative transaction utility (and
thus loss of good will)? The theory provides three
kinds of strategies that can be tried. First, steps can be
taken to increase the perceived reference price. This
can be done in several ways. One way is to explic-
itly suggest a high reference price (see next section).
Another way is to increase the perceived costs of the
product, perhaps by providing excessive luxury. As
the hockey question showed, perceptions of fairness
are affected by costs. In the beer on the beach exam-
ple, the owner of the run-down grocery store could
install a fancy bar. Notice that the extra luxury need
not increase the value of the product to the buyer;
as long as pis increased then demand will increase
holding acquisition utility constant. An illustration of
this principle is that short best-selling books tend to
have fewer words per page (i.e., larger type and wider
margins) than longer books. This helps to raise p.
A second general strategy is to increase the mini-
mum purchase required and/or to tie the sale of the
product to something else. Because of the shape of the
value function in the domain of losses, a given price
movement seems smaller the larger is the quantity
with which it is being integrated. The Super Bowl pro-
vides two illustrations of this phenomenon. Tickets
are usually sold by tour operators who sell a pack-
age including air fare, hotel and game ticket. Thus
the premium price for the ticket is attached to a
considerably larger purchase. Also, hotels in the city
of the Super Bowl (and in college towns on grad-
uation weekend) usually impose a three-night mini-
mum. Since the peak demand is for only one or two
room rate over a larger purchase.
The third strategy is to try to obscure pand thus
make the transaction disutility less salient. One sim-
ple way to do this is to sell the product in an unusual
size or format, one for which no well-established p
exists. Both of the last two strategies are used by
candy counters in movie theaters. Candy is typically
sold only in large containers rarely seen in other
circumstances.
Suggested Retail Price.12 Many manufacturers of-
fer a “suggested retail price” (SRP) for their prod-
ucts. In the absence of fair trade laws, SRP’s must
be only suggestions, but there are distinct differences
across products in the relationship between market
prices and SRPs. In some cases the SRP is usually
equal to the market price. In other cases the SRP
exceeds the market price by as much as 100% or
more. What is the role of an SRP that is twice the
typical retail price? One possibility is that the SRP
12 This paragraph was motivated by a discussion with Dan Horsky
several years ago.
Thaler: Mental Accounting and Consumer Choice
24 Marketing Science 27(1), pp. 15–25, © 2008 INFORMS
is being offered by the seller as a “suggested refer-
ence price.” Then a lower selling price will provide
positive transaction utility. In addition, inexperienced
buyers may use the SRP as an index of quality. We
would expect to observe a large differential between
price and the SRP when both factors are present. The
SRP will be more successful as a reference price the
less often the good is purchased. The SRP is most
likely to serve as a proxy for quality when the con-
sumer has trouble determining quality in other ways
(such as by inspection). Thus, deep discounting rel-
ative to SRP should usually be observed for infre-
quently purchased goods whose quality is hard to
judge. Some examples include phonograph cartridges
which usually sell at discounts of at least 50%, home
furniture which is almost always “on sale,” and silver
ﬂatware where “deep discounting—selling merchan-
dise to consumers at 40% to 85% below the manufac-
turer’s ‘suggested retail price’ has become widespread
in the industry.”13
4.3. Budgeting Implications: A Theory of
The analysis of budgeting rules suggests that category
and time speciﬁc shadow prices can vary. This implies
that individuals fail to undertake some internal arbi-
trage operations that in principle could increase util-
ity. In contrast, the standard theory implies that all
goods that are consumed in positive quantities have
the same marginal utility per dollar, and in the
absence of capital market constraints, variations over
time are limited by real interest rates. Observed pat-
terns of gift giving lend support to the current theory.
Suppose an individual G wants to give some recipi-
ent R a gift. Assume that G would like to choose that
gift which would yield the highest level of utility to R
for a given expenditure. (Other nonaltruistic motives
case.) Then the standard theory implies that G should
choose something that is already being consumed in
positive quantities by R.
How does this compare with common practice?
Casual observation and some informal survey evi-
dence suggest that many people try to do just the
himself. Flowers and boxed candy are items that are
with items that are purchased almost exclusively as
Once the restriction that all shadow prices be equal
is relaxed, the apparent anomaly is easily understood.
Categories that are viewed as luxuries will tend to
have high k’s. An individual would like to have a
13 See Business Week, March 29, 1982. This example was suggested
by Leigh McAlister.
small portion of the forbidden fruit, but self-control
problems prevent that. The gift of a small portion
solves the problem neatly.
A simple test of the model can be conducted by the
reader via the following thought experiment. Suppose
you have collected $100 for a group gift to a depart- ing employee. It is decided to give the employee some wine since that is something the employee enjoys. Suppose the employee typically spends$5 per bottle
on wine. How expensive should the gift wine be? The
standard theory says you should buy the same type
of wine currently being purchased. The current theory
says you should buy fewer bottles of more expensive
wine, the kind of wine the employee wouldn’t usually
treat himself to.
One implication of this analysis is that goods which
are priced at the high end of the market should
be marketed in part as potential gifts. This suggests
aiming the advertising at the giver rather than the
receiver. “Promise her anything but give her Arpege.”
The gift-giving anomaly refers to those goods in
categories with high k’s. Individuals may also have
categories with low k’s. Suppose I like to drink expen-
sive imported beer but feel it is too costly to buy
on a regular basis. I might then adopt the rule of
drinking the expensive beer only on speciﬁc occa-
sions, such as at restaurants or while on vacation.14
Advertisers may wish to suggest other occasions that
should qualify as legitimate excuses for indulgence.
One example is Michelob’s theme: “Weekends are
made for Michelob.” However, their follow-up cam-
paign may have taken a good idea too far: “Put a
a different category, namely, what beer to serve to
company. “Here’s too good friends, tonight is some-
thing special  ” While impressing your friends is
also involved here, again the theme is to designate
speciﬁc occasions when the beer kshould be relaxed
enough to purchase a high cost beer.
Another result of this analysis is that people may
cash, again violating a simple principle of microeco-
nomic theory. This can happen if the gift is on a “for-
bidden list.” One implication is that employers might
want to use gifts as part of their incentive packages.
Some organizations (e.g., Tupperware) rely on this
type of compensation very heavily. Dealers are paid
both in cash and with a multitude of gift-type items:
trips, furniture, appliances, kitchen utensils, etc. Since
most Tupperware dealers are women who are second-
income earners, the gifts may be a way for a dealer to:
14 One bit of evidence that people on vacation adopt temporarily
low k’s is that all resorts seem to have an abundance of gift and
candy shops. Some of their business, of course, is for gifts to bring
home, but while on vacation, people also seem to buy for them-
selves at these shops.
Thaler: Mental Accounting and Consumer Choice
Marketing Science 27(1), pp. 15–25, © 2008 INFORMS 25
(1) mentally segregate her earnings from total fam-
ily income;
(2) direct the extra income toward luxuries; and
(3) increase her control over the spending of the
extra income.15
Another similar example comes from the National
Football League. For years the league had trouble get-
ting players to come to the year-end All-Star game.
Many players would beg off, reporting injuries. A few
years ago the game was switched to Hawaii and a free
trip for the player’s wife or girlfriend was included.
Since then, no-shows have been rare.
Conclusion. This paper has developed new con-
cepts in three distinct areas: coding gains and losses,
evaluating purchases (transaction utility), and bud-
getary rules. In this section I will review the evi-
dence presented for each, describe some research
in progress, and suggest where additional evidence
might be found.
The evidence on the coding of gains and losses
comes from two kinds of sources. The “who is hap-
pier” questions presented here are a rather direct test,
though of a somewhat soft variety. More research
along these lines is under way using slightly differ-
ent questions such as “two events are going to hap-
pen to you, would you rather they occurred on the
same day or two weeks apart?” The two paradigms
do not always lead to the same results, particularly in
the domain of losses (Johnson and Thaler 1985). The
reasons for the differences are interesting and sub-
tle, and need further investigation. The other source
for data on these issues comes from the investigation
of choices under uncertainty. Kahneman and Tversky
originally formulated their value function based on
such choices. In Johnson and Thaler (1985) we inves-
tigate how choices under uncertainty are inﬂuenced
by very recent previous gains or losses. We ﬁnd that
previous gains and losses do inﬂuence subsequent
choices in ways that complicate any interpretation of
the loss function. Some of our data comes from exper-
iments with real money and so are in some sense
“harder” than the who is happier data. Kahneman
and Tversky are also investigating the multi-attribute
extension of prospect theory, and their results suggest
caution in extending the single attribute results.
The evidence presented on transaction utility was
the beer on the beach and hockey ticket question-
naires, and the data on sports pricing. The role of
fairness is obviously quite important in determin-
ing reference prices. A large-scale telephone survey
undertaken by Daniel Kahneman, Jack Knetch and
myself is under way and we hope it will provide
additional evidence on two important issues in this
area. First, what are the determinants of people’s per-
15 Tax evasion may be another incentive if recipients (illegally) fail
to declare these gifts as income.
ceptions of fairness? Second, how are market prices
inﬂuenced by these perceptions? Evidence on the for-
mer comes directly from the survery research, while
evidence on the latter must come from aggregate eco-
nomic data. The latter evidence is much more difﬁcult
to obtain.
Both the theory and the evidence on the budgetary
processes are less well developed than the other top-
ics presented here. The evidence comes from a small
sample of households that will not support statistical
tests. A more systematic study of household decision
making, perhaps utilizing UPC scanner data, should
be a high priority.
More generally, the theory presented here repre-
sents a hybrid of economics and psychology that has
heretofore seen little attention. I feel that marketing is
the most logical ﬁeld for this combination to be devel-
oped. Aside from those topics just mentioned there
are other extensions that seem promising. On the the-
ory side, adding uncertainty and multiple attributes
are obviously worth pursuing. Regarding empirical
tests, I would personally like to see some ﬁeld exper-
iments which attempt to implement the ideas sug-
gested here in an actual marketing environment.
Acknowledgments
An earlier version of a portion of this paper was presented
at the Association for Consumer Research conference in San
Francisco, October 1982, and is published in the proceedings
of that meeting. The author wishes to thank Hersh Shefrin,
Daniel Kahneman and Amos Tversky for many useful dis-
cussions. Financial support from the Alfred P. Sloan Foun-
dation is gratefully acknowledged.
References
Arkes, H. R., C. Blumer. 1985. The psychology of sunk cost. Organ.
Behav. Human Decision Processes 35(1) 124–140.
Becker, G. S. 1965. A theory of the allocation of time. Econom. J.
75(September) 493–517.
Gregory, R. 1982. Valuing non-market goods: An analysis of alter-
native approaches. Unpublished dissertation, University of
Kahneman, D., A. Tversky. 1979. Prospect theory: An analysis of
decision under risk. Econometrica 47(March) 263–291.
Knetch, J. L., J. A. Sinden. 1984. Willingness to pay and compensa-
tion demanded: Experimental evidence of an unexpected dis-
parity in measures of value. Quart. J. Econom. 99 507–521.
Lancaster, K. J. 1971. Consumer Demand, A New Approach. Columbia
University Press, New York.
Thaler, R. 1980. Toward a positive theory of consumer choice.
J. Econom. Behav. Organ. 1(March) 39–60.
Thaler, R., E. J. Johnson. 1990. Gambling with the house money
and trying to break even: The effects of prior outcomes or
risky choice. Management Sci. 36(6) 643–660. [Originally cited
as Johnson, E., R. Thaler. 1985. Hedonic framing and the break-
even effect. Working paper, Cornell University, Ithaca, NY.]
Thaler, R., H. M. Shefrin. 1981. An economic theory of self-control.
J. Political Econom. 39(April) 392–406.
Tversky, A., D. Kahneman. 1981. The framing of decisions and the
rationality of choice. Science 211 453–458.
... Moreover, theories based on rational choice theory would also not be able to explain (altruistic) behaviours, such as blood donations, which are a purely altruistic act without any benefit for the donor [39][40][41][42][43]. ...
... Combining findings from psychology with economics Formulating a different theory of individual decisionmaking, Thaler (1985) strived to combine insights from cognitive psychology with economic theory to develop a new model of how decisions are made [43]. This school of thought uses behavioural experiments to better understand how humans make decisions -and how findings can be used to change behaviour [44]. ...
... Combining findings from psychology with economics Formulating a different theory of individual decisionmaking, Thaler (1985) strived to combine insights from cognitive psychology with economic theory to develop a new model of how decisions are made [43]. This school of thought uses behavioural experiments to better understand how humans make decisions -and how findings can be used to change behaviour [44]. ...
Preprint
Full-text available
Recent years have seen a widening gap between growing global demand and a shrinking supply with donor blood worldwide, including Germany. One reason is that the generation of the so-called “baby boomers”, who have long been the backbone of donor blood supply, have passed the age limit for donations. Younger generations appear to be less willing to donate. It is, therefore, imperative to identify ways that enable blood donation agencies to re-engage with prospective donors to motivate them to donate blood. One feasible strategy might be to tap into methods proposed by “behavioural economics”. This approach uses insights from economics, psychology, and rigid experimentation to design interventions. This article seeks to understand if approaches from this school of thought might be useful to increase the number of blood donors, using the example of corporate blood drives in Germany. To this end, eight qualitative interviews with experts from blood donation agencies were conducted to map the current donor recruitment processes in corporate drives. An additional five experts in behavioural science were interviewed to understand what their approach could contribute to improving donor recruitment. The key result of the study is that applying behavioural science’s principles to designing a successful blood drive, namely ensuring participation, foster experimentation, and rigorous evaluation, might contribute to higher recruitment rates of blood donors.
... Richard Thaler first proposed the concept of mental accounting in 1980 to describe the psychological process of bounded rational consumers in evaluating and controlling their budgetary expenditures through internal control systems (Thaler 1980(Thaler , 1999. Thaler (1985) argued that people cognitively divided wealth into different mental accounts which have different accounting methods and mental operation rules. Kivetz's (1999) research suggested that people used the theory of mental accounting to balance the consumption of luxury goods against necessities. ...
Article
Full-text available
In order to effectively promoting green consumption, this paper constructs a theoretical model from the perspective of double-entry mental accounting to study the impact of perceived value and consumption sensitivity on green consumption intention. Conducting a large-scale empirical study, we analyzed the influence of perceived value on green consumption intention, tested the mediating effect of double-entry mental accounting, and explored the moderating effect of consumption sensitivity on perceived value and green consumption intention. The results indicate that perceived benefits are significantly positively correlated with green consumption intention, and perceived sacrifices are significantly negatively correlated with green consumption intention. In addition, perceived benefits have a greater impact on green consumption intention than perceived sacrifices. Double-entry mental accounting plays a significant mediating role on the path from perceived value to green consumption intention. Compared with the mediating effect of the coefficient of pleasure attenuation and the coefficient of pain buffering, the mediating effect of coefficient of pleasure attenuation is stronger and the mediating path is more important. This study concludes that individuals with lower consumption sensitivity are more willing to buy green products. When consumption sensitivity is lower, the negative correlation between perceived sacrifices and green consumption intention is stronger. Finally, corresponding policies are proposed based on the results of this study.
... If the principle of the dual entitlement holds true, most price discrimination and RM pricing would be seen as unfair, because those pricing practices increase prices without cost increases [6]. However, several ways of increasing price without provoking customer resistance are available [23]. One method is so-called the "rate fences". ...
Article
Full-text available
In revenue management practice, customers’ perceived fairness is a critical issue. Prior research examined the effect of revenue management on customers’ perceptions of fairness by implementing two different conditions: fencing and framing. In this study, the authors evaluated the role of a service firm’s environmentally friendly reputation under the conditions of fencing and framing. Results indicated that an environmentally friendly reputation only moderated the effect of framing on perceived fairness. In particular, when the firm had a poor reputation, framing as a discount rather than framing as a surcharge increased customers’ fairness perceptions. When the firm had a good reputation, however, customers’ perception of fairness did not differ across two framing conditions. The findings of this study help firms to understand how customers perceive fairness in revenue management practice.
... Behavior is to sunk costs that cannot be recovered once spent. (Arkes & Blumer, 1985;Sleesman et al., 2012;Thaler, 1980, Thaler, 1985, Thaler, 1999. If we make an investment of money or time in something (a plan, a relationship, an asset), we tend to continue investing in the face of failure because we would otherwise perceive the initial investment as a loss. ...
Article
Full-text available
This paper will review the emergence and adoption of decision heuristics as a conceptual framework within the avalanche research and education community and demonstrate how this emphasis on the heuristic decision framework has anchored and was critical in redefining the discussion around avalanche accidents. This paradigm has been a critical and meaningful step in recognizing the importance of decision making in avalanche accidents. However, in an attempt to reduce the incidence of fatal accidents, the adoption of these ideas within the wider avalanche community has overlooked some clearly stated limitations within the foundational work of the heuristic decision frame. With respect to the concept of heuristic traps in conventional avalanche education, the concepts are poorly operationalized to the extent that they are vague about what exactly they describe. The result is that as presently framed, they are of negligible value to avalanche education that seeks its basis on the best available information. We end with a discussion, and a call to action to the avalanche research community, of how we could move towards resolution of these weaknesses and add value to prior work on human factor research. Our aim is not to disparage the seminal, paradigm shifting work by McCammon, but rather draw attention to how it has been operationalized and how the industry needs to move beyond this paradigm to see further gains in our understanding of avalanche fatalities.
Article
The paper takes a critical view on the prevalent approaches to developing financial literacy programs. It has been shown that meta-analytical and review studies indicate low efficiency of financial literacy improvement programs: their effect on financial behavior is either statistically insignificant or statistically significant, but practically negligible. Among potential reasons of financial literacy programs low efficiency the role of behavioral factors in financial decision making and the impossibility of determining “financially literate” behavior from the perspective of an outside observer are considered. It is concluded that the currently dominant criteria for assessing financially competent behavior can be characterized either as procedural, within which not the consequences of financial decisions are considered, but how consciously they are taken, or as normative, within which the government differentiates the consumers attitudes into wrong and right. Both groups of criteria are based on a non-economic understanding of rationality.
Article
Full-text available
Digital technology in financial services is helping consumers gain wider access to investment funds, acquire these funds at lower costs, and customize their own investments. However, direct digital access also creates new challenges because consumers may make suboptimal investment decisions. We address the challenge that consumers often face complex investment decisions involving multiple funds. Normative optimal asset allocation theory prescribes that investors should simultaneously optimize risk–returns over their entire portfolio. We propose two behavioral effects (mental separation and correlation neglect) that prevent consumers from doing so and a new choice architecture of virtually integrating investment funds that can help overcome these effects. Results from three experiments, using general population samples, provide support for the predicted behavioral effects and the beneficial impact of virtual integration. We find that consumers’ behavioral biases are not overcome by financial literacy, which further underlines the marketing relevance of this research.
This paper reformulates Kahneman–Tversky’s (KT’s) cumulative prospect theory to become a von Neumann–Morgenstern (vNM) theory that is compatible with many existing economic, finance, psychology and decision theories. This vNM theory has the following desirable characteristics: consistently increasing utility of wealth, loss aversion, concave over favorable outcomes, convex over unfavorable outcomes, consistent preference for positively skewed outcomes and it spans the real line between $$- \infty$$ and $$\infty$$. The weighted probabilities in KT’s cumulative prospect theory do not align with the vNM requirement that the probabilities sum to one; nevertheless, important advantages are gained from this vNM assumption.
Valuing non-market goods: An analysis of alternative approaches. Unpublished dissertation
• R Gregory
Gregory, R. 1982. Valuing non-market goods: An analysis of alternative approaches. Unpublished dissertation, University of British Columbia, Vancouver, B.C., Canada.
Article
Full-text available
Although many economists, most notably Strotz, have discussed dynamic inconsistency and precommitment, none have dealt directly with the essence of the problem: self-control. This paper attempts to fill that gap by modeling man as an organization. The Strotz model is recast to include the control features missing in his formulation. The organizational analogy permits us to draw on the theory of agency. We thus relate the individual's control problems with those that exist in agency relationships.
Article
Full-text available
The sunk cost effect is manifested in a greater tendency to continue an endeavor once an investment in money, effort, or time has been made. Evidence that the psychological justification for this behavior is predicated on the desire not to appear wasteful is presented. In a field study, customers who had initially paid more for a season subscription to a theater series attended more plays during the next 6 months, presumably because of their higher sunk cost in the season tickets. Several questionnaire studies corroborated and extended this finding. It is found that those who had incurred a sunk cost inflated their estimate of how likely a project was to succeed compared to the estimates of the same project by those who had not incurred a sunk cost. The basic sunk cost finding that people will throw good money after bad appears to be well described by prospect theory (D. Kahneman & A. Tversky, 1979, Econometrica, 47, 263–291). Only moderate support for the contention that personal involvement increases the sunk cost effect is presented. The sunk cost effect was not lessened by having taken prior courses in economics. Finally, the sunk cost effect cannot be fully subsumed under any of several social psychological theories.
Article
The psychological principles that govern individual decision making produce predictable reversals of preferences when the same decision problem is framed in different ways. Inconsistencies are illustrated in choices involving monetary outcomes, both hypothetical and real, and in policy questions that pertain to the loss of human lives. Our analysis questions the descriptive adequacy of the standard rational model and highlights the dependence of the normative theory of choice on the psychology of hedonic experience. (Author)
Article
The economic theory of the consumer is a combination of positive and normative theories. Since it is based on a rational maximizing model it describes how consumers should choose, but it is alleged to also describe how they do choose. This paper argues that in certain well-defined situations many consumers act in a manner that is inconsistent with economic theory. In these situations economic theory will make systematic errors in predicting behavior. Kanneman and Tversey's prospect theory is proposed as the basis for an alternative descriptive theory. Topics discussed are: undeweighting of opportunity costs, failure to ignore sunk costs, scarch behavior choosing not to choose and regret, and precommitment and self-control.
Article
The article attempts to develop a general theory of the allocation of time in non-work activities. It sets out a basic theoretical analysis of choice that includes the cost of time on the same footing as the cost of market goods and treats various empirical implications of the theory. These include a new approach to changes in hours of work and leisure, the full integration of so-called productive consumption into economic analysis, a new analysis of the effect of income on the quantity and quality of commodities consumed, some suggestions on the measurement of productivity, an economic analysis of queues and a few others as well. The integration of production and consumption is at odds with the tendency for economists to separate them sharply, production occurring in firms and consumption in households. It should be pointed out, however, that in recent years economists increasingly recognize that a household is truly a small factory. It combines capital goods, raw materials and labor to clean, feed, procreate and otherwise produce useful commodities.
Article
Aside from possible income effects, measures of the maximum amounts people will pay to avoid a loss and the minimum compensation necessary for them to accept it are generally assumed to be equivalent. Unexpectedly wide variations between these sums, however, have been noted in survey responses to hypothetical options. This paper reports the results of a series of experiments that confronted people with actual money payments and cash compensations. The results indicate that the compensation measure of value seems to exceed significantly the willingness to pay measure, which would appear to call into some question various rules of entitlement, damage assessments, and interpretations of indifference curves.
Article
Analysis of decision making under risk has been dominated by expected utility theory, which generally accounts for people's actions. Presents a critique of expected utility theory as a descriptive model of decision making under risk, and argues that common forms of utility theory are not adequate, and proposes an alternative theory of choice under risk called prospect theory. In expected utility theory, utilities of outcomes are weighted by their probabilities. Considers results of responses to various hypothetical decision situations under risk and shows results that violate the tenets of expected utility theory. People overweight outcomes considered certain, relative to outcomes that are merely probable, a situation called the "certainty effect." This effect contributes to risk aversion in choices involving sure gains, and to risk seeking in choices involving sure losses. In choices where gains are replaced by losses, the pattern is called the "reflection effect." People discard components shared by all prospects under consideration, a tendency called the "isolation effect." Also shows that in choice situations, preferences may be altered by different representations of probabilities. Develops an alternative theory of individual decision making under risk, called prospect theory, developed for simple prospects with monetary outcomes and stated probabilities, in which value is given to gains and losses (i.e., changes in wealth or welfare) rather than to final assets, and probabilities are replaced by decision weights. The theory has two phases. The editing phase organizes and reformulates the options to simplify later evaluation and choice. The edited prospects are evaluated and the highest value prospect chosen. Discusses and models this theory, and offers directions for extending prospect theory are offered. (TNM)