Richard Thaer gets the credit of coining this term-mental accounting. Mental accounting is a psychological system in which the people or specifically the ‘customer’ is expected to prepare a mental note about the economic results of the decision they would make once they plan to purchase something. (Berk, 1995)
Mental Accounting is a concept whereby the approach of the customers towards their buying is calculated and monitored. It is assumed in mental accounting that a customer also takes into account not just the cost but the actual rewards or benefits he or she receives after purchasing that particular product. (Thaler, 2001) As Thaler propagated, there are basically three wings or three important steps involved in the whole concept of mental accounting. These three important legs of mental accounting include: (1) the awareness of the results which the customer will make before making that purchase (2) the act of giving or setting targets for different set of accounts (3) the calculation of the exact time gap or the time lag which is created while calculating or undergoing the system of mental accounting. (Hales, 2002)The process of mental accounting can be demonstrated by taking the example of a person who travelling with his child and the child is feeling extremely thirsty and the person wishes to purchase juice for the kid. Now he has two options for him. Either he can purchase juice worth $20 which is available in the departmental store or he can spend $25 for exactly the same bottle of juice from an up market restaurant which is on their way for the simple reason that he has taken the advantage of mental accounting and calculated that the benefit he is getting is much more in the second case and that too with just the difference of $5. This is actually mental accounting which takes into account a number of factors apart from just the cost. (Edwards, 1968)
Cognitive accounting uses the thought process of an individual which treats money differently in when coming from different sources. For instance a student earns $250 during his summer job and is not willing to spend it on the latest collection of video games while on the other hand his grandfather has sent him $250 as a reward for his interest in summer job which he or she is willing to part away with. The cost of the video game will remain the same, it is just that now he is taking into account the efforts put in procuring that $250.
One of the most common marketing strategies which aims at targeting the mental accounting that goes on in themed of the people is freebies. Freebies especially which are aimed at small kids and teenage group. For instance the amount spent on advertisement of MNC’s like Gems surprise include the freebie which is ‘Colour changing panda’. Now acquiring a colour changing panda will soon develop as an obsession among the children and they will purchase the product not for the sake of chocolate alone, but because of the freebie inside. (French, 1991)
The best manner in which a consumer can avoid the pitfalls laid out by companies is by keeping one golden rule of shopping in mind. That golden rule is whether or not they actually need the product at that point of time or are they buying to stock. Secondly it is very crucial that all the money, whether earned, received as some gift or cracked through a jackpot should be treated the same. (Thaler, 2001)Although in the last two options the person might not have put in lots of efforts to earn it, but the only thing which we need to understand is that a penny saved is actually a penny earned. So even if source of money is different in all the case, their treatment should be equal. (Edwards, 1968)
For instance, the Kaun Baega Crorepati, which has been one of the most popular prime time shows in India uses this approach of mental accounting for their advantage. When a contestant who has secured Rs 1 crore is about to take the decision whether or not to continue the game for a further R 10 crore, he or she should remember that however easy it may seem at this moment to earn that 9 crore, the amount which is in hand that is Rs 1 crore is still more safe and secure. And at times when people do not take into account the mental accounting procedure, they take the option of answering the question and reach to nothing but say Rs 30 lakh! (Hales, 2002)
In any business scenario, the marketing teams come up with newer ways, studies and approaches towards capturing the thought process of the customers so that they can maximize their profits. But the real game is when the customer is also aware that his thinking pattern is being targeted at. So what a customer needs to make sure is that, 1.) The money received from whichever source should be treated equally 2.) Before purchasing any product it should be seen whether or not it is urgent or can it be postponed, in case the buying can be postponed that means that it is not at all required to be purchased at that point of time taking into account the actual utility or benefit of that product for that moment 3.) In situations where people strike jackpots, they should not opt for instant buying. They should let that moment of happiness pass and should take an intelligent decision after a couple of days by that time he will be able to make a clear comparison of the price of what he intends to buy as compared to the actual utility of that thing. (Berk, 1995).
Berk, J. (1995) “A critique of size related anomalies”. Review of Financial Studies 8:275−286.
Bell, D. (1982) “Regret in decision making under uncertainty”. Operations Research 30:961−981
Benartzi, S., and R. Thaler (2001) “Na ÌˆÄ±ve diversification strategies in defined contribution savings plans”. American Economic Review 91:79−98.
Bloomfield, R. and Hales, J. (2002) “Predicting the next step of a random walk: experimental evidence of regime-shifting beliefs”. Journal of Financial Economics 65:397−414.
Camerer, C. (1995) “Individual decision making”, in: J. Kagel and A. Roth, eds. Handbook of Experimental Economics
Daniel, K. and Titman, S. (1997) “Evidence on the characteristics of cross-sectional variation in stock returns”. Journal of Finance 52:1−33
Edwards, W. (1968) “Conservatism in human information processing”: B. Kleinmutz, ed. Formal Representation of Human Judgment pp. 17–52
French, K. and J. Poterba (1991) “Investor diversification and international equity markets”. American Economic Review 81:222−226
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