Profit-seeking companies targeting loyal, rich customers is an old tactic

Afew years ago I received a text message from my mobile phone network informing me of the good news that I was already on the cheapest possible tariff. They should have let sleeping dogs lie: I called their bluff, and within minutes they offered me a cheaper one.

Another time I quit, only to receive calls pleading for forgiveness and offering me an iPad if only I’d come back. It was like being in an emotionally abusive relationship with Santa Claus.

Nobody wants to feel that they are being taken for a fool. It is hardly surprising, then, that UK business secretary Greg Clark has made some noise about his plans to scrutinise how firms may use big data or other digital tools to produce “abusive outcomes” such as exploiting loyal customers.

Another review is under way, courtesy of the UK’s civil aviation authority, into how budget airlines “use algorithms” to seat families separately if they don’t pay extra for assigned seats. You and I don’t want to be on the sharp end of an exploitative algorithm, do we?

There seems no harm in having a good hard think about how well competition works in a data-rich age. Customers have new tools at their disposal to find the best deals; companies, in response, can pick off lucrative customers like stray wildebeest, offering hidden discounts to some, even targeting adverts and offers by sex or race.

Yet the striking thing about the concern of consumer champions is that this struggle is as old as haggling at the bazaar.

When companies take time to make their wares less attractive, we call this “product sabotage”. Printers may come in a high-cost professional version and a lower-cost home version with a chip to slow it down. “Value” supermarket pasta or rice is packaged to look like famine relief. In each case, the company is seeking a premium from premium customers while grasping for volume by offering low prices to the masses.

To achieve both goals, it may need to damage the mass-market offering. If the cheap product is insufficiently dreadful, the risk is that even wealthy customers may buy it.

The economist Jules-Emile Dupuit spotted an example in 19th-century France. “It is not because of the few thousand francs that would have to be spent to put a roof over the third-class carriage … that some company or other has open carriages,” he wrote of the railways. “What the company is trying to do is prevent the passengers who can pay the second-class fee from travelling third class; it hits the poor, not because it wants to hurt them, but to frighten the rich.”

The problem, then, is more than 150 years old, and it is not clear that the situation would be improved by insisting on equal treatment for all passengers. The railway company (or airline) might then offer only the firstclass service at the first-class prices, perhaps even higher.

This is aggravating, no doubt. However, the root of the problem is that the company has some market power, which allows it to squeeze customers and raise prices. The product sabotage is the symptom — and not necessarily a harmful one.

What of the idea that loyal customers are exploited rather than rewarded? Every time I shave I can praise King Camp Gillette for inventing the disposable razor blade, and curse him for embracing the pricing model of cheap razor, expensive blades. What is that, if not a penalty for loyalty?

In truth, the word “loyalty” leads us astray here. Any profitseeking company will want to exploit customers who never walk away, so considerable effort is devoted both to identifying those customers and to inducing them not to look elsewhere. “Loyalty cards”, whether an airline gold card or a rubberstamped bit of cardboard from your local espresso bar, are designed to persuade high-volume, high-value customers both to identify themselves and to stick around. The result is a less competitive market in which everyone pays a higher price.

It is possible that in the initial scramble to sign up new customers, companies reward them so lavishly as to compensate them in advance for years or decades of locked-in high prices. It’s not likely though. Who loses out from such behaviour? Understandably, we worry about “vulnerable” consumers. However, companies will try to price-gouge the customers most likely to pay. Often, those customers will be rich and busy, while the ones who enjoy the bargains will be poorer and have more time to shop around.

Regulators are right to be vigilant. Still, the very fact that such tricks are as old as commerce itself suggest we will not succeed in stamping them out. Buyer, beware. /©

IF THE CHEAP PRODUCT IS INSUFFICIENTLY DREADFUL … EVEN WEALTHY CUSTOMERS MAY BUY IT