Paying a steeper price for a subscription service can trigger a familiar impulse: You want to get your money’s worth.
For companies selling AI tools, cloud computing and other digital services, that can complicate a basic pricing strategy. Raising prices may keep some customers from signing up, but those who do pay may be motivated to use the service more.
New research from Texas A&M University examines what those competing effects mean for companies trying to manage demand through pricing, particularly for digital services where additional usage carries real costs.
“These high prices can actually have a double-edged sword effect, where people say, ‘We paid a lot, so let’s just get our money’s worth and use it more,’” said Dr. Rajiv Mukherjee, a professor at Texas A&M’s Mays Business School.
People are also reading…
The study, published in Production and Operations Management, was conducted with Sreekumar Bhaskaran of Southern Methodist University and Sanjiv Erat of the University of California San Diego.
The other side of demand
Companies have traditionally used price as one way to manage congestion. When demand for a service strains capacity, raising the price can reduce the number of customers willing to buy access and, in turn, reduce the number entering the system.
But Mukherjee and his colleagues argue that this view can overlook what happens after someone pays. For prepaid and subscription services, customers do not just decide whether to buy access. They also decide how much to use the service once they are in.
The researchers developed an analytical model to examine both sides of demand: how many consumers purchase access to a service and how much each of those consumers subsequently uses it. A higher price can reduce the first while increasing the second.
The reason lies in a behavioral economics concept known as mental accounting. People tend to mentally track what they have spent against what they receive in return. Paying more upfront can create a greater incentive to consume enough of a service to feel the purchase was worthwhile.
“When people pay for something, they expect certain value out of it,” Mukherjee said. “As soon as you pay for a service, you create a mental account deficit.”
The researchers refer to the resulting tendency to consume more as “consumption bias.” When that bias is strong enough, heavier usage among paying customers can work against the reduction in the number of subscribers and potentially worsen congestion.
Why AI changes the equation
The issue is particularly relevant for AI and cloud computing services, where additional usage carries real costs for providers. AI queries require computing power, while cloud services carry infrastructure costs.
“Every query you make, that has a significant amount of cost that the firm has to bear,” Mukherjee said of AI services. “Once the customer subscribes, they don’t really care. They are just getting things done using the service and trying to get the money’s worth in the process.”
The paper cites reports involving ChatGPT and Amazon Web Services as real-world examples that helped motivate the research. After price increases, ChatGPT subscribers reportedly explored more features and increased their usage, while AWS customers used more of their precommitted cloud spending before the billing period ended.
“Unlike traditional digital goods where the marginal cost was negligible, modern firms in the post-AI and cloud-computing era have a high marginal cost of service, and they haven’t quite figured out how to incorporate that into a good pricing strategy,” Mukherjee said.
When charging less could make sense
The findings do not mean every subscription service should lower its prices.
When consumption bias is low, raising prices to reduce the number of customers can still make sense. But when customers are strongly motivated to get their money’s worth, lowering the upfront price can sometimes reduce how much they use the service.
The researchers also found that when usage is costly to provide, a pricing model that charges customers partly based on how much they use the service can become more attractive than relying solely on a subscription fee.
The larger lesson is that subscription companies need to consider not only how price affects the number of customers, but what those customers do after they subscribe.
“The initial demand through the people who are coming into the system is not the end of the story,” he said. “That’s pretty much the beginning of the story when the marginal cost of service is high.”
