Loyalty programs,
illusions of progress

Compare the following two grocery-store rewards programs: “Earn 10 points per dollar spent, get $6 off when you accumulate 1,000 points,” or “Earn 1 point per dollar spent, get $6 off when you accumulate 100 points.” Would consumers evaluate the two programs differently?

Rajesh Bagchi
Rajesh Bagchi studied the magnitude of steps in loyalty programs and how the rewards-per-dollar influences consumer perception of progress.

Though both programs require consumers to spend the same amount — $100 — to earn the $6 discount, they elicit strikingly different responses from consumers, says marketing assistant professor Rajesh Bagchi, whose study of consumer perceptions of rewards or loyalty programs, co-authored with recent master’s graduate Xingbo Li (M.S./MKTG ’10), will be published in the Journal of Consumer Research.

“Since American Airlines pioneered its frequent-flyer program 28 years ago, rewards or loyalty programs have grown in popularity,” says Bagchi, noting their use today by airlines, credit-card companies, hotels, retailers, and other businesses to promote customer allegiance. Despite their importance to businesses, he says, “little is known about how different facets of a loyalty program affect consumer perceptions of the program after they sign up. Membership does not guarantee loyalty.”

Studies have shown that 1.3 billion loyalty program memberships exist in the U.S., he says, but less than a quarter of enrolled members redeem rewards. Studies have also shown that consumers put more effort into a program as they get closer to the reward.

Findings from his research, he says, can help companies design more effective loyalty programs. Companies periodically make changes to their programs but may not realize the effects of these adjustments on consumers, he says. Many cards offer points that vary according to category of purchase — purchases from a particular retailer vs. all other purchases, for example, or, in the case of grocery cards, the types of groceries bought. Sometimes, more points are required to redeem rewards, sometimes fewer. Often, different tiers — elite, premium, platinum, gold — are created, with varying enhanced benefits for members, based on a specific number of points earned per period for that tier.

“All these factors may influence consumer perceptions of progress toward the reward, and these in turn can affect their loyalty.”

The programs comprise two key elements: the points earned per dollar, which Bagchi and Li call “step size,” and the total points needed to redeem the reward, or “reward distance.” How do these two pieces of information affect consumers’ perceptions of their progress, their loyalty, and the likelihood of their recommending the business? Do consumers always integrate both elements in their assessments? What is the role, if any, played by the overall “magnitude” of the program? (A higher magnitude program has large reward distances and large step sizes; a lower magnitude program has small reward distances and step sizes.)

While the role of distances in affecting general consumer behavior has been studied, the influence of step sizes has not been looked at, Bagchi says. “We introduce the concept of step sizes and show that small step sizes can make even a small distance appear large.”

How fast the rewards seem to pile up in consumers’ minds, he says, depends on whether they focus on the reward distance or the step size, or consider both at the same time. “Our study demonstrates that consumers tend to focus on reward-distance alone, when the step size is not precisely presented as a straightforward rate — 1 point per dollar — but as a more complicated range of points — 7-13, for example — depending on the product purchased.”

When the step size is not clear but ambiguous, he says, consumers ignore it and rely on the reward distance, whose influence on perceptions is then strengthened or weakened, depending on the program’s magnitude.

In a higher-magnitude program, the reward distance somehow feels very large to consumers, so that those close to getting the reward — those with 800 of the 1,000 required points, for example — feel that they have made much more progress than those with only 200 points. In a lower-magnitude program, however, the reverse is the case: consumers feel that the reward distance is small and that there is little difference between 80 and 20 points, so that those closer to the reward do not feel that they have made more progress than those farther away.

What happens when the step size is a single, unambiguous rate? “Consumers then integrate step size with reward distance in their thinking, but do so in a biased manner that again reflects the human inability to consider more than a small amount of information at a time in their decision making,” says Bagchi.

Thus, when the step size is straightforward, a large reward distance makes consumers feel that the goal is a long way off, but instead of calculating the redemption costs, they use the step size to form quick impressions. “When the reward distance is large, the step size is also large. The giant step size makes the reward appear more easily attainable, and so those close to the reward do not feel that they have made more progress relative to those farther away,” Bagchi says. “When the reward distance is small, the step size is also correspondingly small. These baby step sizes make the distances appear larger, and so those near the reward feel that they have made more progress relative to those farther away.”

Consumer perceptions about their rewards progress, he says, not only affect their loyalty but also how likely they are to recommend the reward program to others. It may thus benefit companies, he says, to design loyalty programs to favorably influence progress perceptions.

Bagchi says his findings have important implications in other contexts. These include weight loss and financial savings goals, where perceptions of progress influence the continued pursuit of the goal. “In weight loss, for instance, different number systems — kilograms vs. pounds — with different step-sizes and corresponding goal-distances may be evaluated differently by consumers, depending on whether attention is on the step-sizes, distances, or both.”

Bagchi and Li conducted two experimental studies involving 246 and 385 participants respectively. In one study, participants earned reward points in a grocery-store loyalty program that could be redeemed for a gas card, while in the other study, they accrued points in a restaurant loyalty program through dinner purchases that could be redeemed for a free dinner.

Their article, “Illusionary Progress in Loyalty Programs: Magnitudes, Reward Distances, and Step-Size Ambiguity,” will be published in the February 2011 Journal of Consumer Research.

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