THE RED AND THE BLACK - MENTAL ACCOUNTING OF SAVINGS AND DEBT

In the standard economic account of consumer behavior the cost of a pu rchase takes the form of a reduction in future utility when expenditur es that otherwise could have been made are forgone. The reality of con sumer hedonics is different. When people make purchases, they often ex perience an immediate pain of paying, which can undermine the pleasure derived from consumption. The ticking of the taxi meter, for example, reduces one's pleasure from the ride. We propose a ''double-entry'' m ental accounting theory that describes the nature of these reciprocal interactions between the pleasure of consumption and the pain of parin g and draws out their implications for consumer behavior and hedonics. A central assumption of the model, which we call prospective accounti ng, is that consumption that has already been paid for can be enjoyed as if it were free and that the pain associated with payments made pri or to consumption (but not after) is buffered by thoughts of the benef its that the payments will finance. Another important concept is coupl ing, which refers to the degree to which consumption calls to mind tho ughts of payment, and vice versa. Some financing methods, such as cred it cards, tend to weaken coupling, whereas others, such as cash paymen t, produce tight coupling. Our model makes a variety of predictions th at are at variance with economic formulations. Contrary to the standar d prediction that people will finance purchases to minimize the presen t value of payments, our model predicts strong debt aversion-that they should prefer to prepay for consumption or to get paid for work after it is performed. Such pay-before sequences confer hedonic benefits be cause consumption can be enjoyed without thinking about the need to pa y for it in the future. Likewise, when paring beforehand, the pain of paying is mitigated by thoughts of future consumption benefits. Contra ry to the economic prediction that consumers should prefer to pay, at the margin, for what they consume, our model predicts that consumers w ill find it less painful to pay for, and hence will prefer, flat-rate pricing schemes such as unlimited Internet access at a fixed monthly p rice, even if it involves paying more for the same usage. Other predic tions concern spending patterns with cash, charge, or credit cards, an d preferences for the earmarking of purchases. We test these predictio ns in a series of surveys and in a conjoint-like analysis that pitted our double-entry mental accounting model against a standard discountin g formulation and another benchmark that did not incorporate hedonic i nteractions between consumption and payments. Our model provides a bet ter fit of the data for 60% of the subjects; the discounting formulati on provides a better fit for only 29% of the subjects (even when allow ing for positive and negative discount rates). The pain of paying, we argue, plays an important role in consumer self-regulation, but is hed onically costly. From a hedonic perspective the ideal situation is one in which payments are tightly coupled to consumption (so that paying evokes thoughts about the benefits being financed) but consumption is decoupled from payments (so that consumption does not evoke thoughts a bout payment). From an efficiency perspective, however, it is importan t for consumers to be aware of what they are paying for consumption. T his creates a tension between hedonic efficiency and what we call deci sion efficiency. Various institutional arrangements, such as financing of public parks through taxes or usage fees, play into this tradeoff. A producer developing a pricing structure for their product or sen ie e should be aware of these two conflicting objectives, and should try to devise a structure that reconciles them.