Zero price effect

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Definition

The zero price effect is a phenomenon whereby the demand for a good, service, or commodity is significantly greater at a price of exactly zero compared to a price even slightly greater than zero. Graphically, a zero price effect appears as a discontinuity in the demand curve at a price of zero.

The zero price effect can be viewed as a special case of the law of demand, but it also has explanations based on cognitive, psychological, and behavioral biases.

Explanations

Very low marginal utility

A purely rational explanation for the zero price effect is if the marginal utility of additional units of consumption is positive but very low, less than any nonzero unit of currency that can feasibly be charged.

Transaction costs

Another related explanation is that if the purchase of a good or service involves the exchange of money, the exchange of money itself imposes transaction costs that have a minimum value. For instance, when buying something online, a person may need to give credit card information or log in through a payment service. When buying something in person, an exchange of coins or bank notes may be necessary. These direct and indirect costs put a positive floor on the effective price in case of any nonzero price, and hence an actual price drop to zero may represent a significant drop in the effective price.

This problem of transaction costs can be alleviated in many ways -- for instance, by using cards or accounts where bulk payments are made once and then an account balance is maintained that keeps track of small purchases. This is the way electricity, phone usage, and other utilities are billed for.

Psychic costs

Dealing with and thinking about money can be stressful. Thinking about whether a small item is worth a small amount of money may itself impose psychic costs which may make people avoid thinking about and making purchases.