How much do we want to pay?

21st March, 2009

Dear Economist,
With the economy slowing down, I have seen an outburst of “pay-what-you-want” options where customers of, say, coffee shops are encouraged to pay what they consider the product or service is truly worth. Is this sustainable in the long term, or will people take advantage of it, gaming the system into failure?
John Wegman, London

Dear John,

While we economists realise that people pay money even when they don’t legally have to, few of us have studied exactly when or why. One exception is Paul F., the “bagel man” made famous by Stephen J. Dubner and Steven D. Levitt, the authors of Freakonomics. Paul F., a retired economist, delivered bagels to offices, along with a box for payment. He specified prices and kept careful track of payment rates – a little under 90 per cent.

Pay-what-you-want goes further than this simple honesty system, and might work better because it stands a chance of persuading affluent customers to pay over the odds. Most retailers devote great ingenuity to this task of “price discrimination”; it would simplify things a lot if customers simply complied.

Yet I am doubtful. A major attraction of pay-what-you-want is free publicity, whether for an ageing rock band or the new café on the block. The more businesses try it, the less publicity each will receive. I wonder, too, whether customers continue to contribute more than they must after the thrill of the new wears off: the economists John List and Uri Gneezy once conducted an experiment to see if temporary workers tried harder if unexpectedly paid a generous wage. The answer: yes, but the gratitude wears off in a matter of hours.

Still, pay-what-you-want has to be worth a try. If the journalists look elsewhere and the customers become ungrateful, it’s a simple matter to install a cash register.

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