James Gillan “Dynamic Pricing, Attention, and Automation: Evidence from a Field Experiment in Electricity Consumption” (November 2017) | WP-284

Dynamic pricing models typically assume that consumers respond to marginal incentives. But how attentive are consumers to these incentives? I use a field experiment to assess the impact of dynamic pricing on residential electricity consumption and and find strong evidence of inattention. I propose a model to interpret the results which suggests that the benefits of dynamic pricing may be substantively undermined by inattention. I also explore the role of automation in dynamic pricing, which holds the promise of reducing the cognitive choice frictions that cause inattention and lowering the effort cost of responding to price changes. I report three primary findings. First, households – both with and without automation – significantly respond to a short term price increase by reducing consumption. Second, responses are very insensitive to the size of the price change. A price increase of 31 percent causes consumption to fall by 11 percent on average, whereas a price increase of 1,875 percent causes an average reduction of 13 percent. Third, automation causes responses that are five times larger than the average effect, but are still insensitive to the price level. The results suggest that households use simplifying heuristics when facing dynamic prices and that automation reduces effort costs, but does not resolve inattention. I apply the model to recover bounds on the price elasticity of demand and shed light on the potential attention costs of dynamic pricing.