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Thank F*sed7 it’s Friday: The Economics of Marketing

April 27, 2018

Psychology plays such an important role in marketing that sometimes economics can be overlooked. However, economics also goes hand-in-hand with marketing, and by getting to grips with key areas of theory and statistics, campaign performance can be considerably magnified.

To get started, here we will examine the theories of prisoner’s dilemma and nudge, along with the significance of statistical data in marketing.

Prisoner’s Dilemma

What is prisoner’s dilemma?

The mathematical branch of ‘game theory’ examines cooperation and competition within strategic scenarios. One of the most well-known of these is prisoner’s dilemma. It explains why individuals sometimes act in ways which aren’t beneficial to anyone.

The prisoner’s dilemma theory provides an extremely useful decision-making framework that can be applied in many areas, including marketing.

The story of the prisoner’s dilemma revolves around two individuals accused of a crime. The suspects have been separated and cannot communicate with each other. They are each told:

  • If they testify against their partner and their partner stays quiet, they will go free and their partner will receive the maximum sentence of 10 year
  • If they stay quiet and their partner testifies against them, their partner will go free and they will receive the maximum sentence of 10 years
  • If both they and their partner testify against each other, they will each receive a sentence of 5 years
  • If both they and their partner stay quiet, they will each receive a sentence of 1 year

Here we can see the options and outcomes summarised:

The most likely outcome is that both suspects will testify against each other, but this results in a lose-lose situation. However, if both suspects cooperate with each other and stay quiet, they each face only 1 year in prison.

The reason both suspects will likely accuse each other is that staying quiet holds the risk of receiving the maximum sentence of 10 years.

Therefore there is greater incentive to testify, or ‘defect’ against the partner, even though staying quiet, or ‘cooperating’ could have the best outcome.

The prisoner’s dilemma demonstrates that when two individual parties compete for the best personal result, the overall outcome is, in fact, worse than if they had cooperated with each other.

Examples of Prisoner’s Dilemma

Prisoner’s dilemma can be applied to many marketing situations. Consider well-known companies like Coca-Cola and Pepsi, or McDonald’s and Burger King. Big brands like these don’t need to advertise to make people know who they are.

Yet if they don’t advertise, their rivals will gain market share. Therefore they all need to advertise so they all maintain high sales.

The theory can also be applied to pricing. If one brand reduces its prices or ‘defects’ as per the prisoner’s dilemma, its profits will soar while its rival’s will stay the same.

If both defect and reduce prices, both will see acceptable rises in profits.

However, if both cooperate and maintain high prices, both maintain high profits. Despite this, regular promotions by these example companies demonstrate that even big brands fall victim to the prisoner’s dilemma.

Applying prisoner’s dilemma

The challenge of applying prisoner’s dilemma is reconciling the goals of the individual parties with those of the parties collectively.

Let’s say a marketing firm has two managers assigned to a client and two target consumer groups. One target group has more spending power than the other.

Both managers want the more profitable target group and due to a lack of communication, both devise campaigns aimed at the higher value group.

This results in consumers receiving two campaigns from the same brand with different offers. The consumers have a negative experience and potentially go elsewhere.

In this scenario, the solution is to communicate effectively and ensure one manager is assigned to each of the target groups.

Commission or other incentives should be based on the performance of both campaigns, so that the goals of both managers are aligned to overall success and not just individual profits.

Although this is a simplified and – hopefully – unlikely scenario, by using the principles of prisoner’s dilemma, it is possible to achieve the best outcomes and keep both marketers and consumers happy.

Nudge Theory

What is nudge theory?

Nudge theory hypothesises that indirect suggestions, or ‘nudges’, can be used to influence behaviour. This takes the important step of adding human beings to economic theory.

Traditionally, economic theory assumes that humans are rational, but in reality, people behave in ways that don’t always align with their goals or intentions. Nudge theorists believe that humans make decisions in two different ways:

  • Quickly – automatically, largely influenced by environmental factors
  • Slowly – reflectively, taking into account personal goals

People utilise the first, fast method of decision-making when faced with complex, pressured or time-restricted situations. Because goals aren’t taken into consideration, decisions made this way aren’t always the most beneficial.

Nudge suggests that by slightly altering the environment, a more positive outcome can be achieved. For example, in a supermarket, healthy food can be placed at eye-level or close to the tills instead of junk food.

Real-life nudges

Urinal flies

One of the most reported nudge examples is ‘urinal flies’. First used in Amsterdam, the image of a fly is painted near the bottom of urinal bowls.

Men simply can’t help aiming at the fly and as a result, splashing around the toilet is reduced by 80%.

Organ donation is another prominent nudge example.

Organ donation

In the UK, we have an opt-in system for organ donation, so we have to register if we want our organs to be donated upon our death. It is thought that most people want to be organ donors but many never get around to registering.

In Spain, there is an opt-out system instead. This means that everyone is automatically registered to be an organ donor, but can opt out if they want.  There is still consultation with the family, who make the final decision.

The opt-out system has proved to be successful, with Spain becoming a world leader in terms of organ donation. France has also made the switch to an opt-out system, and the UK is anticipated to follow suit.

Pension policy

A nudge example already implemented in the UK is our pension policy. Due to worrying low private sector pension savings, the government introduced the ‘workplace pension’ in 2012.

The scheme means that a percentage of workers’ pay is automatically deducted from their pay packet and put into a pension plan, unless they formally opt out.

Just like organ donation, it is believed that most people wish to save for retirement but are put off by the expected complexity of the process.

This assumption seems to be true, as private pension subscriptions rose from 2.7 million to 7.7 million in the four years following implementation.

Applying nudge theory

Nudge theory can be used in numerous ways in marketing. Ultimately, it can be used to ‘nudge’ consumers into deciding on making that call to action.

Whether it’s through email campaigns or retargeting, nudge can be used effectively to influence consumers’ behaviours.

Everything from design to copy can be tailored to achieve the positive reaction required.

For example, the subject line of an email campaign should entice the recipient to open the message in the first place. The layout of an email or advertisement should highlight the desired call to action.

This can be done through size, colour or phrasing. Copy that successfully utilises nudge theory includes phrases like:

  • most popular
  • last few remaining
  • how to…

Avoiding pitfalls in nudge theory

Nudge theory has been demonstrated to be a successful strategy in a number of large-scale situations. However, critics have questioned whether it encroaches on civil rights. Intrinsic to nudge is that it is not mandatory.

Therefore, the ability to opt out in examples such as organ donation and pension enrolment has somewhat quashed these concerns.

Nudges have to be exactly right to achieve the desired results. Nudges that are too strong can be conceived as patronising while weak nudges might not have enough influence to result in a call to action.

Additionally, consumers’ knowledge of nudge theory may make them immune.

To overcome these obstacles, marketers must understand the limitations of nudge and embrace its capabilities.

A successful nudge could make consumers decide on an initial call to action, such as clicking through to the website from an email. But if the ultimate goal is several actions away, like making a purchase, a series of nudges may be required.

A nudge should be carefully designed and combined with other marketing techniques for optimum results.

The Positive Power of Data

What is a hypothesis?

A hypothesis is an educated guess about something, or a proposed theory, that should be testable by experiment or observation.

Using hypothesis tests

The data that hypothesis tests produce can be positively used in numerous areas of marketing, including PPC advertising. The analysis of such data can highlight factors that affect the success of a campaign.

Factors could include interest rates, tax and even the weather. Essentially, hypothesis tests demonstrate relationships between different factors and outcomes.

By using them, it’s possible to find statistical significance so there is certainty in what is affecting, and what will affect results.

In PPC, this means a level of confidence can be established that those results can be replicated.

A hypothesis test doesn’t have to be directly related to a marketing campaign. Even a hypothesis test not obviously associated with the campaign could yield incredibly useful and relevant data.

In the following table, the results from an experiment demonstrate the variables that affect wages in the UK. The data shows the correlation between wages and certain factors like level of qualification, gender and age.

A hypothesis test such as this can provide valuable information in various marketing applications. The above data could be just as beneficial to an education provider as to a PPC advertiser.

As such, it’s important to think outside the box to take advantage of data that could make all the difference to a marketing campaign.