Pricing strategies, behavioural nudges, consumer behaviour and market outcomes in the UK’s retail sector
Oliver A
Consumer behaviour is not only influenced by pricing strategies but also psychological factors that influence decisions in more subtle ways. These in turn shape microeconomic outcomes, which can be defined as how household and firm-level decisions affect consumer and producer surplus as well as allocative efficiency in the market. Pricing strategy is a technique commonly used by firms in the retail sector to influence demand and achieve goals such as increasing revenue, market share or sales. Behavioural nudges, however, are changes in the environment to make decisions that are more favourable for producers more likely, without restricting freedom of choice. This essay will explore how both of these principles influence consumer behaviour and how this affects microeconomic outcomes in the UK’s retail sector. Firms employ a range of pricing strategies including loss-leader, psychological and penetration pricing to influence consumer behaviour. Loss-leader pricing is selling a product at a lower price than it costs to produce which is commonly implemented to draw customers into a store. This strategy allows consumers to purchase goods at a lower price than they were otherwise willing to pay, creating consumer surplus as customers receive more value from their purchase. Firms use this strategy with the expectation that consumers will make additional unplanned purchases of higher margin products, relying on the profit made on those goods to make up for the initial loss. An example of this is supermarkets pricing essentials like vegetables at 30p a bag to increase traffic to the store. 1 This may then cause customers to make additional unplanned purchases, raising overall revenue for the firm. Psychological pricing is a technique that influences consumer perception of pricing. A typical technique that makes customers believe the price is significantly lower is left digit pricing where an item is listed at a price just below a round number. In a 2005 study, Thomas and Morwitz found strong evidence for this left-digit effect, describing that prices just below a round number are consistently judged to be significantly cheaper than those just above it. 2 This strategy often leads to an increase in demand for these products despite no change being made to the product itself, illustrating how firms benefit and boost sales from consumers’ behavioural tendencies. Penetration pricing is the strategy of setting an extremely low price for goods and services at for a limited time. This strategy is mostly used by new businesses when entering a competitive market aiming attract customers fast. Firms are forced to accept little to no profit in the short term but the aim is to develop consumer habits and loyalty. This strategy creates consumer surplus as consumers directly benefit from the extremely low prices in the short run, but if long-term loyalty is successfully developed, firms will become capable of maintaining demand while gradually increasing prices.
1 Butler 2024a. 2 Thomas & Morwitz 2005: 54-64.
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