By Akhil Raj Gupta
Edited by Edited by Namitha Sadanand, Senoir editor, The Indian economist
In an announcement that had surprised analysts the world over and left many incredulous customers shaking their heads, Apple had launched its iPhone 5C model at a price that many considered unreasonable and downright outrageous. A non-contract retailing at $549 plus local taxes and duties is clearly beyond the reach of middle-income segment consumers in China and India, the ‘emerging markets’ where Apple wishes to enter and establish itself as the leader. A closer look however reveals an ingenious marketing ploy designed specifically to promote what I consider as Apple’s REAL product i.e the iPhone 5S.
In a world of cutting-edge technology, companies need to keep penetrating markets by promoting innovative products (Nokia and Blackberry being pertinent exceptions to the norm). The iPhone 5C is inconsistent with this principle, the only additions to the older model being a ‘cheaper’ plastic body and diversity in color. So then why did Apple reduce the price differential between that and its superior counterpart (5S) to a mere hundred dollars? The answer lies in a clear manifestation of the psychological principle of relativity. Consider the following situation: – A salesman tells you that your $100,000 car can be fitted with leather seats for $8000. Odds are that you would consider the offer on its merit and probably go for it. However, if that same price was quoted for your office chair (which cost $2000 initially), you would instantly turn down the deal. Remember that the marginal benefit derived from a leather-coated office chair is almost always infinitely greater than that of a leather coated car seat viewed purely from the amount of time you sit on it (all else being equal and assuming you’re not a cabbie by profession). A reversal of this argument holds surprisingly true in the 5C vs 5S purchase decision. In a vacuum, paying 6000 rupees(equivalently, $100) for an A7 processor and aluminum back cover seems like a ridiculous decision. However when viewed as simply the gap between 37,000 and 43,000, the relative cost of the additions seems much smaller. On top of that, customers can boast about owning Apple’s best product. In effect, the 5C would enhance sales of the 5S rather than cannibalizing it. Viewed from the lens of behavioral economics, ‘irrational’ decisions (by Apple) can sometimes surprisingly make sense. Consider further the anchoring effect. Their initial valuations notwithstanding, by pricing the 5C steeply, Apple primes its customers to consider it as a far too expensive proposition. However their own estimates are likely to fall back to the initial range of say 20,000 rupees but would hover around 30,000 rupees. If they were indeed set on acquiring an Apple iPhone (an interesting idea called the endowment effect), they would now be more likely to take the plunge and overshoot by buying the 5S which when placed in a close enough range to the 5C seems like a ‘steal’.
To isolate the individual effects on purchase decisions is an impossible task, but one can conclude with a certain degree of satisfaction that a mix of the anchoring effect and price relativity would have lead to more sales of the iPhone 5S vis-à-vis the 5C. Factoring in higher margins, this would reflect in a better profit for Apple even if certain customers dropped out of the buyer set. But if higher prices lead to higher demand, surely there’s a fundamental economic law being violated here. No prizes for guessing.
Akhil is currently in his second year at college, pursuing a Bachelor of Arts degree in Economics (Hons) at Sri Ram College of Commerce, University of Delhi. He has been passionate about writing since an early age and is currently involved with the official College magazine and Economics Department magazine at SRCC. His areas of interest include behavioural economics / finance, econometric analysis, macroeconomic policy, and political theory. He spends his free time reading extensively, watching interesting videos on YouTube, and trying to convince everybody around him that he really does know a thing or two about economics in the midst of all the pontification!