Thursday, 3 October 2013

The anchoring effect and Harrods hampers

The anchoring effect recognizes that people's judgements (and choices) can be biased by things they come across before making the judgement. The most well known discussion of the anchoring effect is due to Ariely, Loewenstein and Prelec and their paper entitled 'Coherent arbitrariness: Stable demand curves without stable preferences'. Through six experiments they showed that valuations and experiences can be influenced by arbitrary anchors.
    The first experiment that they discussed is the one that typically grabs the headlines. Subjects were shown six different products - a computer mouse, keyboard, average wine, fine wine, Belgian chocolates and a book. Having been introduced to the products, subjects were asked if they would buy each product for a dollar amount equal to the last two digits of their social security number. So, if the last two digits of your social security number are 52 you would have needed to say whether you wanted to buy the box of Belgian chocolates for $52. Having done this subjects were then asked to write down how much they would be willing to pay for each of the products.
    The headline result was that those with a higher social security number put a significantly higher valuation on the products. There is clearly no reason why someone with a social security number ending in 79 should value Belgian chocolates more than someone with number 23. This shows how judgement - the valuation - can depend on an arbitrary anchor - the last two digits of a social security number.
     This result is a serious challenge to conventional economic modelling because it suggests that preferences are arbitrary and easily changed. It should come as no surprise, therefore, that some have challenged the result. For example, a recent paper by Fudenberg, Levine and Maniadis reports replications of the original experiment that show no anchoring effect at all. Such results leave a somewhat confused picture as to how important anchoring effects are.
     My personal take on the issue is that anchoring effects become influential when there is a lot of uncertainty. For example, if someone is asked to value a familiar box of chocolates that is freely available in local stores then anchors are not going to matter much; you know the box of chocolates is worth about $10. If that person is asked to value an unfamiliar, never before seen box of chocolates then anchors can matter; you have no idea if the box of chocolates is worth $5 or $35.
     If people are reluctant to buy things when they are uncertain about value then anchoring effects should ultimately not affect choice very much. But, that doesn't mean anchoring effects are completely irrelevant. Which brings me on to Harrods, the famous London department store.
    We just received the brochure advertising Harrods 2013 Christmas Hampers. For those of you unfamiliar with a Harrods Hamper it contains all you need for a jolly Christmas - alcohol, meat, cheese, mine pies, etc. How much do you think the most expensive hamper is? The Decadence Hamper will cost you £20,000 (approximately $30,000). The Opulence will cost you £10,000, the Ultimate £5,000.
      What has this got to do with anchoring effects? As you flick through the brochure the price drops. And once I had got over the shock of a £20,000 hamper and seen the price drop down to around £200 to £300 I found myself thinking - '£250 is not a bad price for a hamper, it looks a good deal'. Now, I am pretty certain that if you had asked me whether I was willing to pay £250 for a very sparse looking hamper before I had seen hampers priced at £20,000 and £10,000 I would have said 'no way'. My thinking that £250 is not a bad price was, thus, due to an anchoring effect. Exposure to high numbers made £250 look good value.
       My hunch would be that Harrods are aware how anchoring effects can work. Otherwise, why put the most expensive hamper first? Anchoring effects can, therefore, make a real difference. And because of that I have to convince myself that we do not want to buy a £250 hamper.