Where Psych and Price Don’t Mix
Consider, for a moment, the following example: Mark is a hands-on, operationally minded person in the U.S. with a keen interest in real estate. In fact, he has joined a local real estate investment club. The club researches and “games out” which properties to buy, especially commercial properties. Which is more likely?
- Mark is a cashier, or
- Mark is a store manager at a self-storage facility.
If you answered option 2 as the more likely one, then you may well be the “victim” of what is known as “base rate bias” (also known as “base rate fallacy”, or “base rate neglect”). Based solely on the above information, Mark is probably more likely to be a cashier.
Which data to focus on?
Why? Let us look at what data we have, and don’t have. The U.S. Bureau of Labor Statistics indicates that there are more than 3.5 million cashiers in the U.S. By contrast, we see that, according to the Self-Storage Almanac, there are approximately 50,000 self-storage facilities in the U.S. If we assume that there is an average of 2 store managers working at each storage facility, that would suggest there are 100,000 store managers.
So, to summarize the occupational data:
- Number of cashiers: 3,500,000.
- Number of self-storage facility managers: 100,000.
In the absence of any information about Mark’s occupation, the data suggests that it is 35 times more likely that Mark is a cashier rather than a store manager.
What we cannot assume (or at least need to be very careful if we do), is Mark’s personality and interests. We know he is operationally minded, but that is equally suited for being a cashier or a self storage facility manager. Both require following procedures and processes, with a mind towards efficiency.
As to Mark’s interests, that can certainly be a factor determining occupation. So let’s consider a few comparisons:
- Assume for the moment, that 90% of self-storage managers have a “keen interest in real estate” (a high estimate, to be sure). That implies that there are 90,000 potential candidates from the self-storage manager population.
- Cashiers, of course, can also have an interest in real estate. Yet, if only 3% of all cashiers have a “keen interest in real estate,” that suggests the description applies to more than 105,000 cashiers, exceeding the total population of self-storage managers, let alone the number of such people that have a “keen interest in real estate.”
Base Rate Bias Impact on Pricing
Suppose we have base rate information (like general information on prevalence) and specific information (like narrow case data). Base rate bias happens when we tend to ignore the base rate and instead focus more on the individuating information. Rather, we should be correctly integrating the two.
As a self-storage operator, are you inadvertently paying too much attention to a narrow set of data, instead of the base data?
For example, consider the last time you increased the rents of your customers. You may distinctly recall several customers raising objections. In fact, maybe a few of them moved out. Perhaps some explicitly told you that their decision to move out was due to the rent increase. With that in mind, you might decide to be more cautious when you carry out your next set of rent increases.
However, did you consider that the vast majority of the customers whose rent you increased did not make any comments and are still renting? Look for our future blog where we will further discuss base rate bias, and ways to overcome such bias.