How do people value extended warranties?: Evidence from two field surveys

Extended warranties are popular but expensive. This paper examines how consumers value these warranties, and asks whether economic considerations alone can account for their popularity. Results from two field surveys show that consumers greatly overestimate both the likelihood and the cost of product breakdown. However, these biases alone do not explain their willingness to buy them. In fact, we find evidence of probability neglect, in which warranty purchase decision depends on the magnitude of the possible consequences of not having insurance and not on the probability of having to suffer these consequences. The expected emotional benefits ("peace of mind") from having a warranty was the best predictor of purchase decision and willingness to pay. We also found that people with higher numeracy and cognitive skills are less likely to overestimate the economic determinants of warranty value, yet are still highly influenced by emotional considerations when deciding whether to purchase a warranty. We conclude by arguing that consumer welfare could be improved by increasing the competitive intensity in the market for warranties.