Math Goes Awry When Consumers Have to Deal with Percentages

May 22, 2007

Buyer beware. Akshay Rao of the University of Minnesota and Haipeng Chen of the University of Miami report that consumers save less than they imagine when confronted with percentage changes rather than whole numbers in transactions involving discounts. Even people who ought to know better—journalists and lawmakers, for example—make mistakes when trying to do multiple percentage calculations on the fly.

As an example, the researchers cite the case of a store offering a 25 percent discount on a particular item, then an additional 25 percent off the reduced price. Most consumers, the researchers found, figure that they're getting a bargain, that is, 50 percent off the item. In fact, the arithmetic works out to about 43 percent.

The impact of consumer miscalculation can be particularly striking when percentages go up, then down. For example, a stock portfolio may go up in value 40 percent in one quarter and down 30 percent in the next quarter. Many people would claim to be better off by 10 percent. In fact, they face a loss of about 2 percent.

The marketing and public policy implications of such miscalculations are broad. For example, revenues and profits tend to be greater for merchandisers when they offer double (or multiple) discounts instead of a single discounted price to customers.

"At some point," said Rao, "even if you and I don't make this error, if somebody else—such as Congress—does make the error, it affects all of us."

Source: University of Minnesota, May 15