Unexpectedly Intriguing!
February 13, 2008
John Palmer writes:

A month or two ago, I received a $10 gift certificate from LL Bean. It expires in a few days, and so during the past week, I browsed their on-line offerings to see if there was anything I might want to buy soon. There wasn't really anything, but I did see a hydration pack (a back pack designed to carry 2 litres of water, and which might come in handy for long hikes, except that this particular one is really small and has little room in it for much else). I wasn't sure whether I wanted it.

Then I checked the Mountain Equipment Co-op [MEC] website and saw the exact same thing for $11 less than the LL Bean sale price (I'm leaving out a discussion of taxes, duties, shipping costs, etc. here to simplify the story).

But because I had the gift certificate from LL Bean, I felt as if I ought to use it. I felt as if they'd be getting away with something if I didn't use it, even though the total price from MEC would have been lower. I didn't care about "sunk costs" and all that stuff, I just had this gut feeling that even though I knew the MEC price was better, I should order it from LL Bean.

I'm an economist. I am supposed to understand these things. It didn't matter, though; I still had these feelings and instincts.

In the end I decided against ordering the pack from either source. But the phenomenology of the experience was illuminating. No wonder we (or at least I) have trouble teaching these concepts in economics courses.

At the risk of treading on Tim Harford's "Dear Economist" territory, here we go with our best advice....

The company that gave you the gift card wants you to use it to maximize your utility in some fashion, otherwise they would not have given it to you. Actually, they're hoping that you'll spend far more than the value of the $10, which would maximize their utility, but that's a different concern.

The problem is that they would appear to have unfortunately constrained your ability to do so, in that their gift would, at first glance, only be able to fully realized through them. We say "unfortunately" because their likely intent was to simply get your business by creating an incentive for you to purchase an item from them at their regular prices. This much is evident in the difference of the price of the product you considered purchasing from them and the price for the same item from a competitor.

Then again, perhaps they gave you the gift card knowing that you would fall into this quandary and perhaps they are now deriving maximum utility from monitoring your evident discomfort. We think that's unlikely, as it would suggest evil intent on their part for which there are much more cost-effective means of deriving utility, such as toilet-papering your house.

As you've discovered through your search process, you can gain the most utility for yourself by purchasing the hydration pack from the other vendor while keeping the value represented by your gift cards intact. But now you are left with the problem of what to do with a gift card for which you cannot identify another product that you believe would make you better off to purchase with its stored value. Meanwhile, you recognize that the company is also not realizing the utility to themselves of giving you a gift from which they would recognize net gains. So what to do?

The preferred answer, as you know as an economist, involves turning to the markets where you might make gains through trade. In this case, you need to turn to those entrepreneurial businesses that have recognized this potential dilemma and have developed a market-based solution to your problem: gift card exchanges!

For a price, these companies can resolve the issue of what to do with a gift card for which you are unable to extract its full stored value by either selling it to them outright or by exchanging it for a gift card for which you can derive maximum utility by fully extracting its stored value. Gift card exchange companies include Cardavenue, Plastic Jungle and Swapagift, to name just three in alphabetical order. Then again, there's always e-Bay.

Your alternative, as you've noted, would be to recognize the gift card as a fully sunk cost from which neither you nor the company will ever recognize anything approaching its stored value.

What to do, we hope, now appears obvious. You should purchase the hydration pack from the Mountain Equipment Co-op and exchange your L.L. Bean gift card (remember, you need to act quickly!) either for cash or for a gift card for which you can fully realize its stored value. Perhaps from a large home improvement retailer where you might find a tool that you can use to remove reams of toilet paper suspended from the roof of your house. Just in case.


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