by the fruit plate,” says Duke University behavioral econom-
ics professor Dan Ariely, who wrote Predictably Irrational:
The Hidden Forces That Shape Our Decisions. “What is dif-
ficult is to compare an apple and 5 0 cents, or $1.20.”
Companies exploit these brain-scrambling effects to get
us to buy things we don’t need. The good news: If you see
them coming, you can use the same tricks to save money—
and make money. Be aware of the following five traps:
You sit down to eat at
a restaurant. The most
expensive steak on the
menu costs $50. But
there’s another one for
$25. “Ah,” you think.
“Just right.” Deciding
on the $25 steak feels rational. You weighed the
options; you made your
choice. But your selection was swayed by the mere existence of the $50 steak.
Economists call this effect anchoring. That $50 steak
anchors our expectations of what a steak could cost. By
comparison, a $25 steak looks cheap. Anchoring is ram-
pant on wine lists, says Richard Thaler, an economist at
the University of Chicago Booth School of Business and
coauthor of Nudge: Improving Decisions About Health,
Wealth, and Happiness. “Suppose the most expensive bottle
on the list is $100 and nobody wants to buy it,” he says. To
boost sales, the restaurant adds a $200 bottle. “They could
keep just one of them around. Nobody will order it.”
Eric Johnson, codirector of the Center for Decision
Sciences at Columbia University, has done experiments
with actual bottles of wine. Students are told a random
number, then asked to put a price on the bottle. The stu-
dents who were told higher numbers—even though they
know this number has nothing to do with the wine—picked
higher prices. “It is really quite shocking,” Johnson says.
“The more you do this, the more you realize we are really
imperfect decision makers.”
The Effect
SHAKING AN ANCHOR IS DIFFICULT. Put a
number in our heads and it tends to stick.
Even telling people to ignore it rarely helps.
“It’s like saying, ‘Don’t think about an ele-
phant,’ ” says Poundstone. “You can’t do it.”
One solution: Establish personal anchors in your mind,
says Duke’s Ariely. Pick something and set its value. Maybe
$25 is the price of a theater ticket. Before ordering a $25
wine, ask yourself if it’s worth a show.
If you’re eating out, stick to the menu’s more affordable
neighborhoods. Self-described “menu engineer” Gregg
Rapp, who has advised major restaurant chains, recommends finding deals at the bottom or the back of the menu,
where cheaper items tend to hide. And if you’re wondering
whether a menu has been “engineered,” see if it uses dollar
signs—they make us think about money. “I’ve been taking
dollar signs off menus for 29 years,” Rapp says.
Eric Johnson often
conducts an experiment
in his Columbia Business
School class. He divides
the class into two groups
and asks one group how
much they would pay for
a mug. The typical response is $4. He gives
the other group a mug
for free, then asks, “How
much would I have to pay you to part with it?” It’s basically
the same question—how much is the mug worth to you?
Except this group gives an average response of $8.
Researchers call this the endowment effect. Johnson
still finds it amazing—two randomly selected groups
disagree dramatically over the value of a mug they hadn’t
seen moments before. “It’s one of the most telling demon-
strations in behavioral economics,” he says. “Simply own-
ing something increases its value.”
Why? Because we really don’t like losing something once
we have it: The pain of losing outweighs the joy of winning.
It’s called loss aversion, and one consequence, says Richard
Thaler, is that we tend to prefer “flat-rate” plans, in which,
for instance, we pay a fixed amount for a cell phone plan,
rather than being billed by the minute. “Nobody likes to
hear the meter running,” he says.
That principle can make us buy more than we need. Take
cars: Many two-car households don’t need the second car—
they’d save money by owning one and renting a car or taking
a taxi when needed. But if we own the second car, we feel as
if each trip is free, even though it isn’t. We forget about the
vehicle’s purchase price and its ongoing expenses.
Buying a house is also a kind of flat-rate plan, given that
paying rent feels like tossing money out the window every
month. Sometimes it is. But it might make sense to rent
your home, especially if you don’t plan on living there for
a long time. (To see if you’d save money by renting, use
AARP’s online calculator at aarp.org/money/budgeting-saving/rent_buy_home_calculator/.)
The Effect
ONCE YOU UNDERSTAND LOSS AVERSION,
you’ll see it everywhere. In the stock market it affects how we feel about a stock we
own. We tend to hold losers too long and sell
winners too early. When a stock tanks, we don’t want to
sell for a loss, so we hang on, hoping it will recover. And
when a stock is rising, we try to lock in the wins, often
too early. Thaler’s advice? Pick a sensible strategy—and
stick with it. (Consider an automatic investment plan
that results in dollar-cost averaging: You invest a fixed
