What is price sensitivity, and how can you measure it?

Price sensitivity, also known as price elasticity of demand, is how much the cost of an item or service alters the demand. It measures the direct correlation between price and demand.

On the other hand, price insensitivity is where there is no difference in demand as pricing changes for a product or service. It is the opposite of price sensitivity. 

An example of a price-insensitive item is electricity. People still use power even with price increases.

Let’s learn more about price sensitivity, why it matters, and how you can measure it.

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When a user stops buying a product or service if it starts to cost more than others, that’s high price sensitivity. 

Consumers in this range have a firm view of what these products should cost.

Products with high price sensitivity are usually non-essential or discretionary items with many available substitutes or alternatives. 

For example, some people will not pay a few more cents per gallon of gas at the pump when a cheaper gas station is nearby. 

High-ticket items in saturated markets have greater price sensitivity as they have many substitutes and are not generally considered essential. This can include things like consumer electronics, plane tickets, or clothing.

Knowing the price sensitivity of a product or service can help you set a price.

Setting your price too low can reduce the item's perceived value, whereas a high price may stagnate sales. 

Understanding the factors which impact price sensitivity can help you create a strategy that allows you to price adjust and test marketing for it. It’ll ensure you set pricing at a level that attracts new customers and maintains existing customers.

Many things influence price sensitivity, including: 

• The type of service or product

• The reference price

• Market availability

• Any hidden costs

• Brand loyalty

• The quality of the item

Considering the type of service or product, there can be a low or high sensitivity to demand.

For example, clothing is high-availability and discretionary, so it’s a high-sensitivity item. On the other hand, prescription medication is a personalized product. Plus, it’s non-discretionary, making it a low-sensitivity item.

The reference price is the first price your consumer will come in contact with for the product. It’s what they’ll compare your price to. 

Market availability affects pricing in the form of supply and demand: If there’s less of a product with high demand, the price will be higher. We see this with some popular products, like game consoles. Prices can easily reach two to three times the usual market price. 

We also need to consider hidden costs. These can be anything that isn't considered in the upfront cost. For example, when buying a car, there’s the initial price. On top of that, you need to consider registration, insurance, and maintenance costs which can impact sensitivity around the headline price. 

Existing brand loyalty can reduce overall price sensitivity. Loyal customers may focus more on their relationship with the brand than the item's price. 

We can’t forget the subjective value of items. Products perceived as higher quality will likely command higher prices than those perceived as lower quality. 

Subjective views vary from consumer to consumer, and the higher the perceived quality or personal value, the less price sensitive the products.

Here are several ways to measure your users' price sensitivity to your goods.

Van Westendorp's price sensitivity meter

Peter Van Westendorp introduced his price sensitivity meter (PSM) in 1976. It’s one of the easiest ways to conduct research into pricing. 

It consists of four questions to determine if an item is: 

• Too cheap

• Too expensive

• Cheap with good value

• Expensive and on the high side

It shows the ideal price point between too expensive and too cheap.

The Gabor-Granger method

Like Van Westendorp's price meter, Andre Gabor and Clive Granger founded the Gabor-Granger Study in the 1960s. It researches the maximum price customers would pay. 

This method provides respondents with a starting price and a product or service description. Researchers ask them if they’d purchase it. If so, they gradually increase the price until the answer is no. 

Buyer intelligence surveys

Knowing what’s important to your customers means you understand what they’re thinking when they purchase your product or service. 

With buyer intelligence surveys, you discover pain points and how your product can solve them. You can get valuable data to refine your marketing and identify whether your item appeals to a quality- or price-focused buyer.

Monitor online reviews

Reviews are a great way to find pricing information and users' thoughts on value. 

Whether you’re checking out reviews for your product or competitors’, it can give you a starting point on pricing and the mindset of your potential buyers. 

Comparing your item to your competitors’ delivers bonus intelligence and guidance on differentiating your product.

Listen to sales calls

If your company employs many sales calls, listening to them occasionally can be a game-changer. 

Hearing when the sale is won or lost gives you solid insight into your buyer's habits and whether they are price-focused or value-focused. 

This research helps you understand the user's pain points and whether you’re addressing them fully. Regularly scheduling this research can give you market trends and data on competition and pricing. 

These four tips can help your pricing strategy hit the mark:

Understand your business goals

Your business goals heavily influence your pricing strategy. Wanting to increase revenue will use a different strategy than breaking into a new market. 

Broadening your product reach may require a more competitive pricing strategy to start. This can boost sales and grow a customer base before you increase the price at a later date for profitability.

Define your audience

Many businesses need to define their target market more: Marketing to Millennials who drive a Prius is not precise enough to truly dig into what they want and need from your product. 

You need a buyer persona that tells you what motivates them, their pain points, and where their buying hesitation lies. Finding out all you can about your target market makes pricing and marketing much easier.

Create a new product category

Is your product innovative? Does it enhance the user experience in a way that others do not? 

Defining a new category in the marketplace allows you to set yourself as a leader and a trendsetter. Innovators in new markets create an anchor price that others follow. 

An example was when Apple created the iPhone before there were true smartphones. As the innovator, they set the market price that others adapted to when they released their products into this new market.

Know your competitors

Only start a pricing strategy after checking out your competition. You want to know: 

• Who they are

• What products are in your market

• How the products are similar and different from yours

• How your competitors market them

Once you understand the market and how your product fits into the mix, pricing, and marketing will become clearer. 

Setting a Google Alert is a quick, simple way to stay on top of what your competitors are doing. 

A simple formula for calculating price sensitivity is to divide the percentage change in quantity demanded by the percentage change in price. 

Price sensitivity = % change in quantity / % change in price 

For example, if the price of a bag of chips jumping to 30% leads to -10% purchases, we can conclude that the item has a price sensitivity of -0.33%. 

So for every 1% price increase, we can expect a 0.33% decline in sales.

While you can’t eliminate sensitivity, you can lower it by focusing on these factors:

Develop your brand

Creating a strong brand and loyal customers means price increases are sustainable.

Focus on how the product or service addresses the client's pain points and develop a solid business-consumer relationship. 

Ensure your company is:

• User-friendly

• Delivering a great user experience

• Addressing all the client's pain points

• Helping customers achieve what they want 

These facets are priceless, so the value of your brand can easily outweigh price increases.

Show the product's value

Whether you are saving a company time or money, increasing their return on investment, or helping them with lead generation, ensure they know the product or service's value. Highlighting its features and value can make cost less of a factor. 

Reviews also support the value of your product or service. Positive reviews and rankings show the world how you stack up against the competition and excel.

Emphasize the differentiators

Always ensure that your product or service stands out from the competitors. Showing your item’s unique benefits or features lowers price sensitivity and increases brand loyalty. 

Several companies use a simple side-by-side comparison between their item and their top competitor’s.

Bundle products together

A great way to ease price sensitivity immediately after an increase is bundling products or services together for a short period. 

During this time, you deliver an extra item along with their existing purchase. This demonstrates to the customer that they’re getting a better deal, even with a higher price. 

Promotional activities like this are typically short-term. They can increase sales at the end of a quarter by converting consumers to products in the temporary bundle package.

Low price sensitivity is where there is little effect on a customer's buying decision when the price of the product or service changes.

Price sensitivity is also known as price elasticity of demand. It’s where the product or service's demand may change with price changes.

Price-sensitive users heavily factor the cost of the item in their decision to purchase. This can apply at both ends of the spectrum: Some customers may feel a price is too low for the product to have value, and some will see a price too high to be viable. 

People purchase price-insensitive goods, whether the price is low or high, including housing, water, and food. Price-insensitive items are generally necessities and non-discretionary.

A price sensitivity curve is a curve based on demand. It‘s the percentage of users willing to buy at each price point.