Laura Gatz: Hello and welcome to a new episode of Economics in Business. Today, we will be talking about one of the fastest growing economic disciplines, Behavioural Economics.
Behavioural Economics, or also short BE, studies the effect of social, emotional, and cognitive biases on how decisions are made and also how decisions can be shaped to improve outcomes. Recently, the field has gained a lot of momentum. For example, the latest Nobel Prize in Economics was awarded to Richard Thaler, one of the founding fathers of Behavioural Economics. But BE has also been growing rapidly outside of academia, particularly in the past year, where we’ve also seen a surge in companies applying behavioural economic techniques to improve business outcomes.
I am joined today by Suresh Natarajan, who leads our Behavioural Economics practice in the UK and Europe. Suresh, could you tell us a little bit about how Behavioural Economics has evolved recently, and what sort of problems it’s being used to address in the business world?
Suresh Natarajan: Sure, happy to. I suspect many of the listeners are already quite familiar with Behavioural Economics, probably mostly from some of the work that’s been done in the academic sphere that’s had a huge pop culture impact. I suspect many have already read ‘Nudge’, or have read ‘Thinking Fast and Slow’, or perhaps are familiar with some of the great work that the Behavioural Insights team has been doing in the governmental sphere.
But one thing we’ve really seen of late is a real explosion of where Behavioural Economics is being applied outside of that. So, you might have once thought that Behavioural Economics belongs in the lab, and then we start to consider the importance of Behavioural Economics in policy decisions and sort of major governmental strategies.
What we are now seeing is that’s impacting every single form of how we conduct business or commercial decisions as well. So, I think it’s a really exciting time, because the scope of Behavioural Economics is probably broader than even most practitioners would have originally expected.
So it’s unsurprising that the Googles, and the Amazons, and the tech giants of the world were the first to employ this to great effect, and particularly around behavioural microtargeting. In instances, when you have unlimited amounts of information, the way that Google and Amazon do, it’s really important how we apply behavioural insights, so that they can have a meaningful impact on the way that people hear that information and interpret it.
Outside of the business sphere, what’s really been fascinating has been some of the applications we’ve seen in the political sphere, for example. Regardless, of your political stance, I think most will have been surprised by the impact that behavioural microtargeting has had in the major national campaigns, such as the Brexit referendum or the US Presidential elections. So, a lot have been done in terms of behavioural profiling, and what nudges and motivators can influence what the decisions that people make, and that’s really reflected itself in major changes to the political landscape, in large part, because of these kinds of insights.
Laura: Well, from politics, academia, and the tech giants, there really is a breadth of applications for behavioural economics. What sort of problems do companies typically tackle using BE?
Suresh: The main applications of behavioural economics, and behavioural insights more broadly, have been around customers and shaping customer decisions. This can be around purchasing or other types of behaviours and choices that customers make, but within that kind of field.
It’s obvious why, for most companies, customers provide the clearest sample base, so they can start testing things on. And testing is a really important part that goes with behavioural insights. Customers also move quickly enough in terms of transaction volumes that allows the behavioural testing to really come to the fore as something that can be used a tool, and it’s a tool that actually complements the existing standard improvement processes that organisations will have. So, it plays well with the current day jobs that companies have.
Laura: Can you give us an example of how you’ve used behavioural economics with a client?
Suresh: One example is the water industry. It’s not an industry that’s known for being particularly forward thinking or commercially agile, and I think even people in the industry will admit that quite readily, but that’s really been changing over the last few years. So, the regulator has applied a lot of pressure on companies, in saying ‘you have to use behavioural insights to transform the way that you deliver services, because we think there’s a real application here’.
We were working with one client to help them do that. So, this client, much like every other company in the industry, has had major problems with customer debt. What they found was that they had over 10% of customers not even paying their water bills. Year on year that adds up to a very large amount, and they write-off multimillion pounds of debts every single year. So, if we can make even a small improvement to that, there is a real big return on that kind of focus.
Laura: Wow, that sounds like a huge problem. How did you go about using BE to tackle that?
Suresh: We did quite a few things. The first of which, I would say, is trying to understand why people don’t pay, and what we found is that different types of customer groups don’t pay for different reasons.
So, the kind of customer group that is financially vulnerable and actually has problems paying all of the bills, not just their water bill, the really important thing there is about engaging with them to help them get out of the debts that they have built up. How can they help reduce their consumption or reduce their bill, without necessarily harming their credit score and getting themselves in a pickle that’s even worse with other organisations.
The nudges that we would help put into place there are very different from when we would try to target to the customers, who we think are actively evading paying their water bill. So, people who we think have the financial means, but not the inclination to be paying - so we need to have different types of nudges to change their behaviour. Because, for them, it’s more about the threats and the tools that we have on the debt collection side to actually make them realise the importance of paying quickly, promptly, and on time.
So, once we had a better understanding of the different types of customers and different nudges that will affect them, we then ran a series of experimentally and statistically robust trials with thousands of real customers and said, ‘here is what happens when we put this nudge in place’ and, you are varying things in terms of content, format, and the timing of the sequence as well. And then, what the results showed was a dramatic improvement in the likelihood of people paying off the back of some these techniques.
Laura: What type of results were they?
Suresh: We saw some really substantial results. Probably some of the biggest that we’dveseen in the industry, or in fact anyone has seen in the industry. We managed to reduce non-payment by over 50%, which when we are talking of the scales that we are, that’s a multimillion pound improvement to their bottom line. For this particular client it was an 8-figure sum, and the way I was trying to talk about, is their return on the investments they are making. It was over 200 times the return on the investment they made about client behavioural insights, and all returned over the course of a few months.
Laura: Well, that’s a really great achievement and fantastic results. Did you just stop there?
Suresh: No, we continued on. From there, we started looking at the other kinds of problems that customers are posing for the organisation. So, how can we help reduce costs, because they had a large call centre dealing with confused customers, because the messaging was unclear, and customers didn’t know how to interact with different types of content that has already been pushed out.
The behaviour change there is about trying to make things clearer for customers, but at the same time changing their consumption; not just in terms of water usage, but also in terms of how do you get them online and reduce costs of call centres as well.
We also started looking at things around the employee side, to how we improve productivity of employees with different sort of incentive mechanisms and other behavioural nudges that we can apply internally. We also continued on in the customer payment space as well. So, after we did the first series of experiments, we started going towards microtargeting. What we know about customers is quite a lot. We need to reflect that in all the ways that we interact with them. So, instead of having standard processes, we started having tailored collection strategies, which effectively changed the messaging in terms of content, format, and tone, and as well as when people get different types of messaging based on certain characteristics that we know about them.
So, internally they already had a good picture of where they lived, who they were. We started layering on other sources of external data on top of that: we took credit reports to understand how rich they were and what their credit scores would imply.
We then started saying we should have different messages for these different types of groups. So, if someone is a poor student, they need to have a different set of messages, because what will motivate them is very different to someone who is employed with a house, because for them we know they have a stable income stream, and the point is about trying to show the impact of their credit score if they don’t pay.
For students it might be more about trying to help them understand when and how to pay, because these are people who are going through paying their water bill for the very first time. Therefore, they need a different type of guidance and advice that the company can offer.
Laura: There seems to be a lot of applications within this customer and payments area of Behavioural Economics. Is this also where you see the scope for BE in the next couple of years?
Suresh: I think there is still a lot to be done in that space. I think there is a big return that has been scientifically quite well proven for most organisations in the customer sphere. But over the next few years, I think the scope is a lot broader and there have been a few major areas that have been relatively untapped due to complexity and time for the last few years.
Some of those might be something that clients are constantly coming up to us with. They say: ‘great - individual customers are one thing, groups of customers are very different’. By that I mean, B2B markets, because how you would send the message to groups or an organisation needs to have a very different kind of thinking than when you are dealing with individuals. Unlike where most of the academic research has supported the existing work in the behavioural economics and psychology space, organisations will behave in a way that really doesn’t translate well from a lab environment.
In fact, most of the research in that space has been done by business schools, and organisational design specialists. I think over the next few years it’s going to be really important that we marry those two very fundamentally different concepts and schools of thought together, because that’s what we find that organisations are really having a major problem with. And I think it will become a major source of academic research about how do we apply behavioural insights to groups.
Outside of that, there’s also lots of untapped opportunities internally. Customers, we’ve seen lot of work there, but employees are just as human as customers are, and therefore just as prone to these behavioural biases that we find affecting customer decisions.
Again, applying some of these techniques to improve employee behaviour around productivity, decision making, culture change, engagement, those are all applications I think in the next few years will really take off.
Potentially, a last one is about how do organisations structure their capabilities internally. So, I think the jury is still out about what is the best model for every type of organisation. Is it toward something like a centre of excellence, where each major organisation has a small team that effectively acts as an internal agency providing behavioural insights and advice to other parts of that organisation - or will behavioural insights just become the language of business? Will every part of the organisation start saying, ‘we need to consider how people interpreted this and this is how humans will interact rather than the way that we might think they would’ - will that become the new norm?
I think, in the short and medium term, the organisations still need to figure out where they see behavioural insight is being placed as well. Regardless of how they structure their capabilities, what do they want their capability to do, what problems they want them to solve, and I suspect in that interim, consultancies will continue to help organisations work through those until they start developing their own behavioural capabilities.
Laura: Well, who knows what the future holds for behavioural economics, but thanks for giving us a glimpse, Suresh. It’s been really great to talk about such a fast moving area in both business and economics. So, thanks very much for your time, Suresh.
Suresh: Thank you for having me.
Laura: If you’d like to find out more about our behavioural work, we have included a link in our description. Also, don’t forget to subscribe to the podcast to stay up to date with our latest episodes. And if you want to find out more on any other topic we have discussed in this series then please just head to pwc.co.uk/economics. Thanks very much for listening.