Imagine for a moment that you are in the market for a new suit. You find one that you like for $200. A fellow customer then tells you that the same exact suit is on sale across town for only $100. Do you go?
Imagine that you are buying a new car. You’ve done your test drives and made a final decision on which make and model you want. You go to the dealer near your home to find that the car costs $30,000. A salesman sees you eyeing the car and says, “My manager would kill me for saying this, but the dealer on the other side of town has this model for $29,900.” Do you go?
If you’re like most people, you drive across town in the first example, but not in the second. You’ve decided that in the first example it is worth the extra time to drive across town to have an extra hundred dollars in your wallet, but in the second example it isn’t worth the same amount of time to save the same amount of money.
If you took that position, then you’re not alone.
A Kahneman and Tversky paper cited a study that explored this issue.
They asked people to imagine one of two scenarios.
They told the first group to imagine that they were purchasing a jacket for $125 and a calculator for $15. The salesman points out that if they drive to another branch 20 minutes away, they could get the calculator for $10 instead.
They told the second group to imagine that they were purchasing a jacket for $15 and a calculator for $125. The salesman points out that if they drive to another branch 20 minutes away, they could get the calculator for $120 instead.
In both scenarios, the 20 minute drive would result in a savings of $5 on a $140 purchase. And yet, 68% said that they would make the drive when the calculator was $15, but only 29% would make the drive to save on the $125 calculator.
An economist named Ofer Azar took this idea and ran with it. He used a number of different items and different price points and asked what the minimal price difference would need to be for someone to make a 20 minute trip to a cheaper store.
When people were buying a $3 pen, they said that they would drive across town for a savings of $1.88. They needed to save $11.37 to justify the same trip for a $100 jacket. On a $3,000 computer, they wouldn’t travel for anything less than $62.89 in savings. And for a $30,000 car they needed to save $454.81. Anything less than that was not worth an extra 20 minutes.
This makes a sort of intuitive sense. If I can save over 60% off the price of this pen, I should jump on that deal! And why would I bother driving across town just to save 1% off the price of my car?
But if you take a moment to think about it, it quickly becomes clear that this doesn’t actually make any rational sense at all.
A dollar is a dollar is a dollar. It doesn’t matter whether that dollar is still in your wallet because you saved 50% on a $2 item or 1% on a $100 item. That dollar still buys you the exact same soda from the vending machine.
If you’re willing to spend 20 minutes of time to save $11.37 on your $100 jacket, then you’ve decided that your time at that moment is worth about $34 per hour. Why is it that when you are buying a car, the value of your time all of a sudden jumps to $1364.43 per hour?
Clearly there is a problem here. We instinctively think in relative values rather than absolute. This makes sense in most areas of our lives.
The Upshot noted that “what we experience as consumers is like what we experience when we listen to music or lift a heavy object. For example, we are more likely to notice that a drumbeat is loud if we have been listening to, say, a gentle violin. And we will notice that we are lifting extra pounds if they are added to a lightly packed suitcase. The same additional weight is barely noticeable in a heavy one. Vision, heat perception, smell and taste all obey a similar law: Perception is largely a relative mechanism.”
This instinct to think in relative values may serve us well in some domains, but it hurts us when dealing with money.
So what’s the solution? Nobody likes the guy who points out a problem and then doesn’t help you solve it.
I think I’m that guy today, though.
The best that I can recommend is to be aware of this tendency and to work to combat it as best you can. Take the extra few moments to work past your instinctive reactions and try to think about the numbers in rational and absolute terms. Build the habit of ignoring percentages in favor of raw numbers. It isn’t natural or particularly easy, but it will save you a lot of money.
Got any other suggestions? Please let us know in the comments! I’d also be interested in hearing your stories on whether you have noticed this issue or encountered it before. Or, feel free to brag if you are one of the few who is able to easily and naturally avoid this trap that the rest of us fall into.