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Start high, end high? Not so in auctions such as eBay

New research suggests lower starting prices can result in higher final sales; findings also explain how and why 'anchor' price dictates sale

8/8/2006 -  Update  August 8, 2006 — Adam Galinsky interview for First Business Morning News in New York City is available on Google Video. He was interviewed on August 30 about his research on eBay selling tips. 

Most people hold the belief that if they ask for more, they will get more. As a result, people expect that as sellers, setting a high starting price will bring them a higher final price, which has been confirmed by research in buyer-seller negotiations—sellers reap financial benefits when they ask for more.

However, the same is not necessarily true in auctions such as eBay. A new study published in the July issue of the Journal of Personality and Social Psychology by Professors Adam Galinsky and Keith Murnighan of the Kellogg School of Management at Northwestern University and lead author Professor Gillian Ku of the London Business School find evidence to counter this “start high, end high” mantra. Using a variety of consumer items auctioned on eBay, such as Nikon cameras and Michael Jordan shirts, along with laboratory experiments, they found that in the social setting of auctions, lower starting prices can result in higher final prices.

“Our research has shown that in buyer-seller negotiations, the starting price acts as an ‘anchor' that psychologically limits and constrains counteroffers,” said the Kellogg School's Galinsky. “Auctions, on the other hand, are social settings with different dynamics. Unlike buyer-seller negotiations, in which the number of parties is fixed, the number of potential bidders in auctions is basically unlimited and influenced by the starting price.”

Economically, low starting prices allow more interested bidders to make initial bids in a seemingly low cost environment. With more bidders, the probability of higher prices goes up. More importantly, low starting prices also start two different psychological processes.

The people who enter into the auction early start to invest time and energy, creating “sunk cost,” and the research shows that people try to recover their sunk cost by bidding more, in essence trying to justify their past bids. Second, the research shows that more bids and more bidders imply the item is valuable and is worth bidding on. Thus, bidding activity causes even more bidding activity .

Although the research found many reasons why starting low will help the seller get more in the end, there are instances when it is not always better to set lower starting prices in auctions. Whenever there is a barrier to entry or few interested buyers, low starting prices will lead to lower final prices.

“In the Bay Area of California, houses routinely sold for higher than the list price in the past 10 years because there are so many interested buyers,” said the London Business School 's Ku. “ However, houses in less desirable locations will have fewer prospective buyers and will be less likely to generate traffic, suggesting that low starting prices in these low-traffic auctions will produce low final prices.”

The research suggests the following for sellers: In a one-on-one negotiation, set high starting prices. However, in an auction with a large set of potential buyers, set low starting prices, and in an auction with few interested buyers, set a high starting price and possibly negotiate with prospective buyers.

About the Kellogg School of Management at Northwestern University

The Kellogg School of Management at Northwestern University was founded in 1908 and is home to a renowned research-based faculty and MBA students from around the globe. The Kellogg School includes the Full-time, Part-time and Executive MBA programs and the non-degreed Executive Education Program. The school offers three joint degree programs: the JD-MBA, MD-MBA and MEM-MBA. Additionally, the Kellogg School of Management has alliances with business schools in Europe, Asia and Canada. In 2004, BusinessWeek magazine ranked the Kellogg School the number one graduate school of business in the United States, an honor it has achieved a record five times since the biennial survey began in 1988.