Starbucks to go, and a quick economics class please!

How many times have you walked into Starbucks, purchase a drink, curse at how coffee prices at Starbucks always seem to be increasing, but end up rationalising that the drink is worth every cent you paid? After all, the immediate and tangible benefit gained from the transaction is exactly what you chose to pay for. While Starbucks customers walk out of the renowned cafe, satisfied with the caffeine fix and “The Starbucks Experience”, many fail to notice the smart implementation of pricing strategies that go into the pricing decisions of each cup of coffee.

Price Insensitivity

Starbucks is blessed with the ability to raise prices without negatively affecting demand or compromising on overall revenue. Are they? According to Tucker Dawson (2013), a one percent increase in the price of Starbucks products actually led to a 25% increase in revenue. A mere 10-cent increase in the price of tall-sized drinks resulted in less than proportionate decrease in quantity demanded. This was not pure coincidence.

Throughout Starbucks’ growth, raising prices was one of their marketing strategies to filter out consumers who are price sensitive and with lower willingness to pay. By doing so, retained consumers are more likely to have higher willingness to pay and have a less elastic demand for Starbucks’ coffee. Given this knowledge about their existing customers and their inelastic demand curves, Starbucks was able to more accurately predict price increases that can maximise their profit and reduce dead weight loss.

Psychology Pricing

Another pricing strategy that Starbucks incorporates is the anchor pricing tactic, which plays on consumer psychology, making them believe that price is always relative. Anchor pricing tactic is the tendency where consumers rely mostly on the first piece of information offered to make purchase decisions.

Imagine Peter, a diehard Starbucks fan who usually purchases tall (small) sized drinks. An increase in prices of tall sized drinks makes him reconsider his purchase basket, since now he can enjoy a larger volume of his favourite drink with a  less than significant top-up. Is it more worth it stick to his current consumption bundle, or would he be better off topping up an additional few cents and gain utility that is higher than the amount paid?

The moment consumers choose to pay more for something that, when compared to the first option, is perceived to have higher value-for-money shows anchor pricing at work. The next time you think higher prices translate into better products or services, think again. Your mind may have been convinced to value the company or brand by only referring to the price set by the company. Starbucks is not the only company that plays around with your mind. Mega sales and items on promotion are just more ways to demonstrate how anchor pricing work (and very effectively I must say). Empowered with this new knowledge, do you really know what you’re paying for, and are you truly appreciative of what the brand has to offer?

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