The Endowment Effect: Owning Something Makes It More Valuable?
Plus, revisiting a picture book for grownups thanks to a nudge by Veo 3
Issue No. 44
If I were to sell an old smartphone, I might price it at $300. It seems like a reasonable price given the phone’s going market rate. If I were to buy the same phone, I would probably also pay $300 for it because, again, that seems like a reasonable price.
Imagine my surprise when I read up on a phenomenon called the endowment effect and learned that in studies done on groups, people didn’t always behave like that. In fact, what people were willing to accept to part with something they owned was higher than what they were willing to pay to buy the same thing from someone else.
So in my phone example, the experiments essentially showed that people would sell their phone for $300, but would only ever pay, say, $250 if they were to buy an identical one.
It’s as though ownership influences how we value something. Here’s a definition of the phenomenon.
The endowment effect is a cognitive bias where people place a higher value on an item they own versus an identical item they do not own, leading to reluctance to sell it at the price they would have paid to buy it.1
How much would you pay for a mug?
In an early study on the endowment effect,2 44 undergraduate students were separated into two equal groups. One group was handed a coffee mug that sold at the university bookstore for $6, the other got nothing. Those with mugs were then asked how much they would accept to sell their mug, and those without mugs were asked how much they’d pay to buy one.
For sellers, the median reservation price they set was $5.25, so pretty close to the mug’s retail price of $6. For buyers, the median reservation bid they set was around $2.25, so substantially lower than the mug’s retail price.
In a sense, people were more averse to giving up a mug they owned than acquiring a mug they didn’t own.
The same pattern held when researchers used pens, chocolate bars, and sports tickets, and when they used approaches that eliminated the incentive for participants to game the system. Still, ownership alone made people overvalue their item.
Does effort contribute to value?
There are a few other ideas related to ownership and valuations. One is called the IKEA effect, named after the furniture store, and is defined as follows.
The IKEA effect is a cognitive bias where people place a higher value on products they have partly created or assembled themselves, even if the final product isn’t objectively superior to pre-made alternatives.3
In one set of experiments,4 people were asked to assemble simple IKEA boxes or LEGO models, then estimate how much they were worth. Participants valued the items they had built themselves substantially more than identical items built by someone else.
In the LEGO study, participants were willing to pay an average of $0.54 for their own creations versus $0.33 for one somebody else had made, so about 64% higher.
In the IKEA storage box study, participants who assembled the boxes themselves indicated that they were willing to pay more for their boxes ($0.78) than participants who were given fully assembled boxes ($0.48), so about 63% higher.
In these cases, the sweat equity of assembly inflated people’s attachment, making their creations feel disproportionately valuable.
Some of you might have heard of a similar phenomenon to the IKEA effect called the not-invented-here (NIH). I learned about it early in my career. It’s the tendency to overvalue products created by a team or an organization and to undervalue off-the-shelf or open-source ones created outside the team, even when those other products are objectively better.
The earliest study of the bias looked at research groups within NASA and concluded that the performance of groups that exhibit NIH declines after around five years.5 It leads to projects taking longer, employees burning out, higher project costs (both actual and opportunity), and potentially slower innovation cycles as work is duplicated across siloes.
Takeaways
Ownership can make us irrational. We might think we’re good at valuing an item, but the endowment effect shows that ownership can potentially cloud our judgment. So take a pause anytime you’re trying to price an item.
Ownership can sell products. Are you more likely to pay for a product you were ambivalent about if you’re offered to try it out for 30 days at no cost? If you’re offered to keep a car you know is above your budget for the weekend to drive around? Companies can use the endowment effect to their advantage to sell products. So be wary of this trap inherent in trial runs.
Ownership can be a motivator. At the office, we’re more likely to put in the effort on a project if we feel ownership of it. In the kitchen, we’re more likely to be proud of something if we feel like we’ve made it ourselves (even if it involves cracking two eggs into an instant cake mix). So look for ways to create ownership if you want to spark pride and effort.
Turning photos into videos
Veo 3 takes a text prompt and outputs an eight-second video for you. They recently added a feature that allows you to include reference photos with your prompt. The feature made me want to go back to an unfinished project from six years ago where I’d hit a creative roadblock from not being able to visualize the scene fast enough to see the project through.
But with this newfound spark, I spent some time revisiting that project. It’s a picture book for grownups and now ends on an animated version of the main scene.
What do people use ChatGPT for?
It’s been a while since we covered data visualization, a discipline I spent over a decade of my career in. (We used to have one per issue in this newsletter’s early days.) I still redo visualizations I came across for fun. Here’s one from the paper published this past Monday about how people use ChatGPT.
The changes I made: Sorted the bars across the x-axis, sorted the segments within each bar, coded color correctly to size, nominalized all verb phrases, switched title-case to sentence-case to fix inconsistencies.
Sometimes it is the people no one can imagine anything of who do the things no one can imagine.
—Alan Turing (Alan Turing: The Enigma)
Until next time.
Be well,
Ali
P.S. Some past issues to read through in case you missed them.
https://pmc.ncbi.nlm.nih.gov/articles/PMC7983076/#:~:text=Abstract,for%20beliefs%20about%20the%20markets.
https://web.mit.edu/curhan/www/docs/Articles/15341_Readings/Behavioral_Decision_Theory/Kahneman_et_al_1990_Experimental_tests.pdf
https://www.hbs.edu/ris/Publication%20Files/11-091.pdf
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1777100
https://onlinelibrary.wiley.com/doi/abs/10.1111/j.1467-9310.1982.tb00478.x (only the abstract is public)
Perhaps this is one reason people list items on eBay with outrageous prices that nobody would pay!
Wow, the endowment effect really shows how we overvalue our own stuff! I mean, I’d still probably take a DIY project over a pre-made one, even if I end up with a lopsided shelf—hey, at least I built it, right? Speaking of creation, check out this nifty platform that simplifies video production with AI; it might just kick your projects up a notch! [this nifty platform that simplifies video production with AI](https://asmrvideo.ai)