“We assign money to ‘mental categories’, and we spend money according to these categories.”

We find it too difficult to think about every possible alternative purchase, when making a purchase decision. This effect is called ‘Opportunity Cost Neglect’. Rationally, we should consider the fungibility of all our expenditures. But we don’t.

Instead we assign money to specific categories – known as mental accounts. Both the sources and uses of money are labeled according to these categories (housing, holidays, food, etc.). Some categories are broad, others are narrow. Some cover years, others only a short time. Balancing of these accounts happens daily for some accounts, yet weekly or even annually for others.

But no matter what kind of mental account, we decide on expenditures according to the implicit or explicit budgets within these non-fungible categories.

Why do we do that? Well, mental accounting creates virtual monetary decision boundaries that are clear and that save us the cognitive hassle of comparing all possible alternative purchases that we could make with the same money. And our brain loves everything that decreases cognitive effort. mental accounting So when selling or servicing people online, you should ask yourself “in which mental monetary bucket do I want my customer to think about my product?”

The founding father of mental accounting, Richard Thaler defines mental accounting as follows: “It is the set of cognitive operations used by individuals and households to organize, evaluate, and keep track of financial activities”.

In his famous article “Mental Accounting Matters” (1999) he shares a nice personal anecdote to clarify:
“A few years ago I gave a talk to a group of executives in Switzerland. After the conference my wife and I spent a week visiting the area. At that time the Swiss franc was at an all-time high relative to the US dollar, so the usual high prices in Switzerland were astronomical. My wife and I comforted ourselves that I had received a fee for the talk that would easily cover the outrageous prices for hotels and meals. Had I received the same fee a week earlier for a talk in New York though, the vacation would have been much less enjoyable.”

Scientific research example:

Imagine that you have decided to see a play and paid the admission price of $10 per ticket. As you enter the theater, you discover that you have lost the ticket. The seat was not marked, and the ticket cannot be recovered.

=> Would you still pay $10 for a ticket for the play?

Now imagine that you have decided to see a play where admission is $10 per ticket. As you enter the theater, you discover that you have lost a $10 bill.

=> Would you still pay $10 for a ticket for the play?

Well, Kahneman and Tversky (1981) discovered that 46% of us would buy another ticket if we lost the original ticket, whereas 88% would buy a ticket if we lost the monetary equivalent of a ticket.

Online Persuasion tips:

  • Make your customer assigns your offer to either, a wealthy category that is used to unquestioned large expenditures, or a narrow mental bucket without true competitors.
    • Preferably your ‘wealthy bucket’ meets the following characteristics: 1) broad 2) rich 3) seldom ‘balanced’
    • The narrow mental bucket should be called your ‘personal mental bucket’. For instance, like when Starbucks created a completely new coffee experience compared to Dunkin’ Donuts.
  • If you know that you are currently ‘dealing with the wrong mental account manager’, try to innovate your offer or communication, in order to get into contact with your preferred mental account manager in your customer’s brain.

    For example; imagine you sell pet health insurances. Do you want to discuss your $30 monthly fee with your prospects’ mental account manager for ‘pet costs’, or with the one for ‘health insurance costs’…?

Further reading on mental accounting:

  • Richard H. Thaler (1999); “Mental Accounting Matters”. J. Behav. Dec. Making, 12: 183-206. (link)
  • Thaler, Richard (1985), “Mental Accounting and Consumer Choice,” Marketing Science, 4 (3), 199–214. (link)
  • Prelec, Drazen and George Loewenstein (1998), “The Red and the Black: Mental Accounting of Savings and Debt,” Marketing Science, 17 (1), 4–28. (link)
  • Shane Frederick et. al. (2009); “Opportunity Cost Neglect”. Journal of Consumer Research, Vol. 36, 553-561. (link)
  • Amos Tversky; Daniel Kahneman (1981); “The Framing of Decisions and the Psychology of Choice”. Science, New Series, Vol. 211, No. 4481, pp. 453-458. (link)