We all like to think that when we make decisions, we are logical and have complete insight into the factors determining the choices we make.
In a nutshell
- We must not look at consumers as blank slates ready to be influenced by rational and factual propositions.
- Culture, context and biases all play a part in how we make decisions.
- If you're interested in having consumers choose your product or service, put yourself in your customer’s shoes and take a wider view of the trends and changes in society.
The truth is, as humans we don’t always make decisions by carefully weighing up the facts. This got thrown into stark relief when we were confronted with the Covid-19 pandemic, a situation where we had no experience. In theory, we would seek out facts to make measured decisions about what to do. In practise – did we?
Where does prospect theory come in?
This might not seem particularly ground-breaking, but prior to the 1980s, it was generally assumed that people are rational, and that decision-making is based on rational thinking. In 1979, Israeli psychologists Daniel Kahneman and Amon Tversky challenged this paradigm with prospect theory, offering a new way for us to reflect on how people think, and how decisions are made. In prospect theory, Kahneman and Tversky argued that people make decisions not on logic but based on perceived losses or gains, and that humans judge the value of things relative to a reference point, rather than by absolute outcomes.
Let me illustrate this with a simple example:
Does the price of a bottle of wine have an absolute value, or does it depend where and who you are drinking with? For many people, the same glass of wine tastes better when poured from a $100 bottle than from a $10 bottle.
Or think about how you’d rate being given $100 unexpectedly – fairly good? Imagine how you’d feel if you lost that $100 out of your wallet before you’d had a chance to spend it – really fed up? When we own something, it takes on more value, so losing it is very painful. And think about how much we lost during lockdown. If your organisation is a supplier of one of the things we lost, then the value of your product or service increased. You may have seen that play out after lockdown in the form of latent demand and the willingness to pay shipping costs, for example. Or in the rise in value that parents put on schools and teachers when the schools closed.
Things get more interesting when we think about how this value is defined. We can use principles from behavioural economic theories as a framework for understanding perceived value and how it impacts behaviour and decision-making. But there are numerous factors, many completely unrelated to the core issue under consideration, which exert powerful influences on choice and consumption.
Decisions do not happen in isolation
Context determines how we see things. Our perception of a bottle of wine’s value is influenced by how it is priced at the supermarket, and the price of the other bottles around it. The wine’s perceived value is also affected by wider forces, such as the growing importance of sustainability in our culture or, more recently, supporting a local business.
The pandemic has been a mind-bending shift in context. We are not talking bottles of wine here, we are looking at almost every facet of life and many, many losses. Our loss aversion cognitive bias went into overdrive, but strangely we started to appreciate some things as gains that would otherwise be seen as losses. The commute to work, for example.
Cognitive biases are part of context. They exert considerable influence and create behaviours that are simply hardwired into our brains as habits, habits that we could no longer live by and instead had to create new ones. But these did not have long to establish, and the pendulum of losses and gains is beginning to swing back in some areas. The loss of the commute was good, but the loss of the office camaraderie will have been greater for some people - the gain of 30 mins longer in bed wasn’t enough to compensate. For other people the opposite will be the case. The value of losses and gains is personal and cultural.
While there are universal behavioural patterns and biases that influence us and our decision making, our cultural environment has the force to impact these and these cultural forces did not go away during Covid-19. The ingrained behaviours and mental shortcuts we take to make decisions are all affected by the cultural context we have grown up in and live in.
The ingrained behaviours and mental shortcuts we take to make decisions are all affected by the cultural context we have grown up in and live in.
Looking through the cultural lens
Culture is not just traditional ethnic beliefs and values, but localised trends and societal shifts which all have an impact on how we see the world. Even fundamental cognitive functions such as how we perceive colour or simple optical illusions can significantly differ based on the cultural environment. If a cognitive process as simple as visual perception can vary significantly across different cultural contexts, what does that suggest for more complex psychological processes, such as behaviour and decision making?
As an example, let’s take the idea from prospect theory that we make decisions based on gains and losses relative to a reference point. We can see how different ethnic traditions play out in the New Zealand landscape.
How many times have you gone window shopping, seen something that you don’t need, but since it was on sale, bought it anyway? New Zealand is a sales nation with a culture of heavy retail discounts. This partially determines how we judge value and what we use as a reference point. In this case, the reference point is the original sale price, which creates a sense of value for us as Kiwis.
But New Zealand is a multi-cultural society, which means that those from other ethnic backgrounds may have a completely different perspective. Deep and sustained discounting is quite unique to the New Zealand market. Some of our new migrants are from cultures where heavy discounting and sales create lower perceived value and even untrustworthiness. So, in a post-Covid era where discounting and ‘local’s rates’ have become even more common, we need to bear in mind the impact that might have.
What does this all mean?
We know that behavioural science theories can explain a lot of decision-making behaviour, but it is not the be all and end all of understanding people. If it was, marketing would be very easy. What behavioural science, and prospect theory in particular, tells us is that we must not look at consumers as blank slates ready to be influenced by rational and factual propositions. Marketers should rethink the notion that customer reference points are fixed and stable over time. Instead their relative strength and influence can vary dramatically depending on the context. In the last six months context shifts have been massive, and losses and gains have in some cases been upended.
So, how do we create value for consumers in an environment when the consumer themselves don’t even have an absolute view on what they are looking for? A great first step is to put yourself in your customer’s shoes and take a wider view of the trends and changes in society. How will these changes shift your customer’s reference point for decision-making? How has Covid-19 impacted the reference point? Define the reference point and look at your offer again and consider how can your organisation or brand be on the right side of the mental accounting that people use unconsciously to value things and experiences. Prospect theory tells us that a dollar isn’t always equal to the same value.