The Veblen effect is an economic concept that explains counterintuitive consumer behaviors – why sometimes demand for a product increases as its price rises. Named after economist Thorstein Veblen, the effect states that the perceived value, desirability, and prestige of luxury goods increases if they have a higher price tag. For certain high-end, status products, pricing signals quality, exclusivity, or social status.
This has profound implications that product managers need to understand. Demand elasticity behaves differently than expected. Conspicuous consumption motivated by prestige plays a key role in purchase decisions. The functionality of a luxury product may take a back seat to its branding and pricing in shaping buyer perceptions of worth and value. By leveraging the Veblen effect strategically with optimal pricing, product positioning, and targeted sales, huge additional revenues can be captured without any change to the product itself.
What is the Veblen Effect?
The term “Veblen effect” was coined based on theories of consumer behavior put forward by Thorstein Veblen in his 1899 book The Theory of the Leisure Class. Veblen analyzed America’s emerging consumer culture and growing obsession with status symbols. He identified unusual preferences where, contrary to standard economic wisdom, demand for higher-priced luxury goods increases rather than decreases even if prices are raised. This conspicuous consumption of visible luxuries is driven by social motivations and perceptions of prestige.
The key characteristics of goods subject to the Veblen effect include:
- High-income elasticity of demand: percentage change in quantity demanded exceeds percentage change in price
- Perceived exclusivity due to pricing that restricts affordability
- Significant branding and marketing emphasis on status
- Limited supply/production enforced through pricing, not actual scarcity
A distinction should be made between Veblen goods and Giffen goods. Although both defy the law of demand, Giffen goods increase consumption because they become staple necessities for consumers as their prices rise. On the other hand, Veblen goods serve no practical or useful purpose. Demand increases purely as an indicator of prestige, social signaling, and conspicuous consumption patterns motivated by cultural perceptions of exclusivity and status symbol value.
Common examples that leverage Veblen effects include designer fashion brands, luxury sports cars, celebrities selling memorabilia, abstract art, yachts, expensive wines and champagnes, country club memberships, and bespoke tailored clothing. These goods which are sensitive to price changes and carry premium branding are bought not just for their functionality but more importantly for their ability to signal exclusivity, wealth, and status for the owner.
Key Aspects of the Veblen Effect
There are several key psychological and economic aspects of the Veblen effect that enable it to influence consumer behavior.
Conspicuous Consumption
The demand for Veblen products is driven by the desire for conspicuous consumption – the public display of economic power through overt consumption of high-priced goods. The utility value derived is not just owning an item, but letting others know it has been purchased. Even if two items are functionally identical, the more expensive one signals greater financial means.
Role of Branding
Brand names serve an essential function for Veblen goods in signaling exclusivity. They provide a shorthand for recognizing expensive items and conveying status. Branding enables firms to enhance products’ perceived value by commanding higher prices. Marketers leverage brands as symbols of prestige.
Price as Signal of Quality
For high-end goods, price is used as an indicator of quality, innovation, and exclusivity since most buyers lack sufficient expertise or access to objectively evaluate these attributes. When a lower price is set, it backfires by decreasing perceptions of worth and sophistication. Luxury brands highlight premium prices in marketing rather than discounting to maintain an aura of aspirational quality.
Contrast Effect
The expectation contrast between anticipated and actual prices also impacts buyer evaluations. If a buyer expects to pay $50 for a bottle of wine but sees it priced at $100, they will infer it is a superior vintage than initially assumed. The unexpected higher price positively shifts perceptions of the wine’s quality and rarity.
Social Motivations
Owning products with Veblen effects provides utility by bolstering the social capital, standing, or self-esteem of buyers among their peer circles. Purchasing decisions are driven by cultural norms of expected consumption patterns befitting their social class, a desire for commanding respect, or expressing identity through material display.
Income Elasticity of Demand
Unlike typical goods, Veblen products have an income elasticity of demand exceeding one. For a 10% price increase, quantity demanded rises more than 10%. At higher prices, Veblen goods are accessible only to the wealthy elite, boosting their perceived value.
Impacts on Consumer Behavior
The interplay of the above factors has profound impacts on buyer behavior for certain types of products.
Perceptions Are Shaped by Pricing
For Veblen goods, value perception depends significantly on pricing. Unlike necessities, conspicuous luxuries have a much more vague and subjective utility value. In the absence of complete information about true quality differences, buyers depend considerably on price to signal status and calibrate desirability.
Preference for High Prices
Contrary to normal assumptions, high prices have an allure for prestigious or exclusive products and directly drive preference. When purchasing luxury wine, art, vehicles, or accessories purely for display purposes, higher prices reinforce impressions of sophistication and boost public perceptions of the owner.
Willingness to Pay Premiums
For price-sensitive necessities, demand would collapse at inflated prices except for a small segment. In contrast, for Veblen goods heightened prices increase overall willingness to pay a premium across broader consumer segments. In some cases, exceptionally high prices boost demand due to the products’ inaccessibility signaling rare luxury status.
Desire for New and Innovative
Veblen goods are also characterized by consumer desire for the latest offerings with the most innovative designs, technology, or aesthetic form. Limited availability or production of the newest models further feeds impressions of exclusivity. Owners can signal that they are avant-garde trendsetters by being among the very first adopters even at premium prices.
Pricing Out Segments as Exclusive
For traditional goods, cutting off budget consumer segments reduces revenue potential. However, restricting access to only the most affluent segments via high prices makes Veblen goods more aspirational and exclusive for target demographics. The ability to successfully sell at inaccessible prices itself enhances perceptions of prestige.
Challenges for Setting Prices
The Veblen effect creates unique pricing challenges:
Gauging Maximum Price
It is difficult to predict the highest price the market can bear due to factors like branding strength, competitor dynamics, and impact on long-term demand. Small overestimations of optimal price points can drastically erode volumes. Underestimations leave money on the table.
Risks of Very High Prices
Extremely high prices, if unsupported by branding and messaging, can backfire by turning off buyers altogether. Perceptions of gouging or unfair “rip-off” pricing can weaken brand loyalty over the longer term across product lines.
High Prices Alone Don’t Guarantee Success
For luxury products, premium pricing must be backed by marketing on product performance, aesthetics, and exclusivity – not just empty status signaling. There must be a strong aspirational narrative built around the brand experience.
Competition from Affordable Substitutes
Mass market competitors can erode demand by offering products with similar core functions but positioned differently for value-conscious buyers. Many proprietary technology-based Veblen products also suffer from rapid loss of exclusivity.
Product Management Strategies and Tactics
Targeting Affluent Customer Segments
Product managers must rigorously evaluate demand across income bands and purchase drivers for high discretionary income segments willing to pay huge premiums solely for status enhancement.
Emphasizing Brand Prestige
Luxury brand equity and imagery connecting to elite class membership is carefully built up through consistent messaging on pedigree, bespoke craftsmanship, personal services, affiliation with celebrity creators or key influencers, and controlled distribution/production.
Signaling High-Quality Craftsmanship
Multi-sensory cues on extraordinary performance, aesthetics, exclusivity in sourcing rare production inputs, and meticulous design, engineering, or quality testing procedures signal high quality on both functional and symbolic levels.
Offering Customization and Personalization
Allowing some flexibility around custom-tailored or personalized configurations also boosts desirability while maintaining production control and consistency of core luxury offerings.
Bundled/Limited-Edition Offerings
Artificial supply constraints through numbered editions, seasonal availability, or bundled multi-product sets enhance perceptions of scarcity. Lotteries/auctions and tiered allocation systems provide public cues on strong demand from opinion leaders or affluent buyers competing for access.
Cultivating Exclusive Distribution
Limited physical retail availability via company-owned boutiques based on stringent location/design criteria offers an aura of privilege to shoppers as “insiders” with access. Many high-end brands maintain waiting lists and blacklists of unsuitable buyers to reinforce the message that most can never afford to purchase these goods.
Avoiding Promotions and Discounting
Regular price discounting, bulk offers, coupons, and price bundling strategies utilized for mass-market goods diminish prestige and should be avoided. However, VIP pre-sales, early bidding rights, and loyalty programs help balance control over pricing policies.
Examples in Practice
Successfully Leveraging Veblen Effects
Haute Couture Fashion Houses
Legendary fashion houses serve ultra-high net worth individuals with access to unique designer clothing endorsed by celebrities, protected under copyright, targeting international media visibility, and sold from very few company flagships under personalized customer vetting. Production is limited to maintain an aura of unmatched craftsmanship and prices are set extremely high.
Luxury Sports Vehicles
Brands like Ferrari and Lamborghini have waiting lists of over a year even at prices exceeding $250,000. Limited numbered sequence production of dazzling sports vehicles with cutting-edge engineering and extreme performance builds an aspirational reputation. Ownership signals membership in an elite club.
High-End Auction Houses
Auctioneers like Sotheby’s and Christie’s leverage expert assessments, competitive bidding, exhibition showcases, and selectivity of rare art/antiques to drive record multi-million dollar Hammer prices from wealthy collectors that boost future valuations across entire asset classes.
Failures to Account for Veblen Effects
Vertu Mobile Phones
Vertu tried to market gem-encrusted luxury phones with exotic materials like alligator skin and sapphire crystal displays priced from $5,000 to over $200,000 but failed to achieve broader aspirational status. After-sales peaked in 2012, its parent company lost confidence in growth potential despite 80% margins, eventually divesting the struggling firm.
Subscribe and never miss another post:
Conclusions
The Veblen effect runs counter to traditional economic wisdom but holds true for a specialized category of goods valued by wealthy buyers primarily for their high prices rather than just utilitarian benefits. While odd at first glance, this behavior is motivated by deep-rooted desires for status, social signaling, self-esteem, and projecting an affluent identity.
Product management strategies around optimal pricing, controlling production volume/accessibility, emphasizing branding over functionality, and targeting elite demographics can leverage Veblen effects to drive higher revenues. However, strategies require dexterity if consumer attitudes evolve from increasing sensibilities about ethical consumption, environmentalism, or greater price transparency. While price premiums seem irrational for normal goods, they make commercial sense for businesses catering to the conspicuous consumption of ultra-high-net-worth consumers.
