Microtransactions and the Psychology of Spending

Research finds that consumers spend more in total when they are able to spend in smaller individual amounts rather than single larger amounts.  This psychological fact about spending is a key reason why Buy Now, Pay Later (BNPL) services have flourished in recent years.  Typically offered by credit card companies or third-party online companies, BNPL services let users divide a large purchase into four to eight divided transactions, usually monthly, for zero interest.  So, why do consumers spend more in total when they are able to break up large purchases into smaller microtransactions over a period of time?

Economics and Psychology Behind Microtransactions

Lower Prices Creates More Inelastic Demand

When prices are low, consumers are more likely to continue with the purchase even if the price rises.  Also, consumers are more likely to continue with a purchase, even if price rises, if the price is a small percent of their total income or wealth.  Goods that are less expensive tend to have more inelastic demand, meaning that quantity purchased changes proportionally less than price.  For example, if the price rises by 10 percent, consumers will purchase only 5 percent less of the product.  Goods that are more expensive, some of which are considered luxury goods, tend to have elastic demand and be abandoned quickly in the event of a price increase.

If microtransactions are allowed, such as through BNPL services, consumers will have more inelastic demand for that good since they are likely only considering the divided initial price, rather than the total price, in comparison to their budget.  A consumer purchasing a $400 video game console will be more likely to forgo the purchase if the price rises 10 percent, to $440, than if the microtransaction initial cost of $100 rises to $110.  The buyer will see the $10 increase in price as more manageable compared to his or her budget than a $40 increase, even though he or she will have to pay the entire $40 increase over time.

Credit Cards Create “Emotional Distance”

Most microtransactions are conducted digitally, through credit cards or online payment accounts.  These digital transactions, as opposed to paying in currency, have long been known to have more “emotional distance” for shoppers.  Essentially, shoppers do not “feel” the effects of their spending as much when they are not having to handle cash.  Microtransactions further this emotional distance by reducing the total cost to a divided cost, making it relatively painless for consumers to make more purchases.  Relatively few consumers have the awareness and discipline to fully appreciate that they will have to pay the entire cost over time.

“Fuzzy” Future Budgeting

Even consumers who are aware that they will have to pay the entire cost of the product, not just the initial microtransaction, may not be fully aware.  Most people do not engage in formal budgeting, thus making their financial future more “fuzzy” and ambiguous than it ought to be.  Due to lack of budgeting, it is easy for microtransactions to be mentally discounted, or rationalized as relatively unimportant, and allow for continued spending.  Psychologically, many consumers are not good at understanding the full costs of their spending, which allows microtransactions to take up larger and larger amounts of their discretionary income.  

Diminishing Marginal Utility Promotes Instant Gratification

An important concept in demand is utility, or satisfaction.  The Law of Diminishing Marginal Utility states that we receive less additional satisfaction from each additional unit of product consumed, and thus will not continue to pay the same price for each subsequent unit.  The first unit we consume provides us with the greatest satisfaction, and is also the one for which we are willing to pay the highest price.  As shoppers, we see this relationship play out when buying in bulk: we demand lower per-unit prices when we buy in larger sizes, knowing we will likely be tired of the product when we reach the end of the super mega pack.  

Because we value the first unit of product the most, this promotes the similar concept of instant gratification.  We know we want the good now, but not whether we will want it as much in the future.  Therefore, if we can purchase the good now, using microtransactions for BNPL, our satisfaction is guaranteed.  If we wait until we can afford to pay the entire cost in full, our satisfaction is not guaranteed - our desires may have changed.  Many consumers may default to instant gratification out of a desire to maximize utility, not realizing that it could cause them financial hardships (and negative utility) in the long run.

Inflation Encourages Present Value Over Future Value

Consumers may feel that instant gratification maximizes utility, but also purchasing power.  This is the fault of inflation, or increase in the general level of prices.  Just as shoppers may worry that delaying the purchase will result in it being less satisfying later, shoppers may worry that the product’s price will rise faster than they can save for it.  Therefore, they mentally justify making the purchase now, especially if microtransactions are allowed.  

During times of supply chain instability, it may make economic sense to purchase goods in the present.  This is compounded if there are also fears of potential loss of income, such as a looming economic recession.  Getting a product now, even if paying only a portion through a microtransaction, may be preferable to never being able to get the product due to supply chain disruptions or loss of income.  In a more dire consideration, debt from microtransactions may be preferable to lack of access to the product.

Gamification of Spending (via Gamification Marketing)

Finally, consumers may be incentivized to make regular small purchases from firms as part of gamification of spending through gamification marketing.  These transactions are less likely to be BNPL transactions, but may be considered microtransactions due to their small amounts.  Companies that use gamification marketing, where consumers are attracted to spend more by achieving additional statuses and awards on the companies’ apps or websites, tend to sell small consumable items, especially fast food.  In order to achieve the next higher status or reward, granting them greater utility, consumers may make additional weekly purchases.  The sellers’ goal is for these routine purchases to become a habit, “locking in” consumers even after regular status increases and rewards are no longer bestowed.

Summary:  Consumers Need to be Aware of the Psychological Lure of Microtransactions

We are mentally wired to make many small transactions more easily than a single larger transaction, especially online or via credit card, even though the end result on our budget tends to be the same.  It is also easy for us to lose track of how many microtransactions we have made and must still pay on, allowing us to break our monthly budgets.  This is why it is important for all consumers to have a working knowledge of personal financial literacy and the use of budgeting techniques.  

In the United States, almost half of all adults admit to spending more than their income, resulting in accumulating debt.  Much of this high spending is due to psychological impulses and social pressure rather than necessity.  Controversially, some people spend money on things they do not need out of a desire to feel in control, which is why shopping is sometimes referred to as “retail therapy.”  Unfortunately, these excessive purchases can cause more emotional anguish later when they translate into debt, upon which interest must be paid.  Today, more and more employers use credit checks when deciding whether to hire a job applicant, meaning excess spending that results in debt can actually keep people from landing desirable jobs.