26 Aug Effective Negotiations – Who Should Make the First Offer?

Many negotiators (including lawyers) believe that the party who makes the first offer, loses the negotiation.  What does the psychological research and negotiation theory say?

A fundamental question in any negotiation is who should make the first offer – and why.  The question arises in many different contexts – buying or selling a car, seeking compensation for loss of a job, dividing up the family assets after separation, or bartering with children about pocket money and chores.

In single issue negotiations, research has shown that the ultimate agreement in any negotiation is more strongly influenced by the first offer than by any subsequent concessionary behaviour of the parties. (1)  High opening demands lead on average to more favourable outcomes than moderate opening demands.(2)  The initial offer is an anchor around which the subsequent negotiations pivot.  The other party tends to respond to the anchor by suggesting an adjustment to it and thereby giving the anchor some creditability.  Why is this so?

The research literature describes many fascinating experiments which illustrate the anchoring effect, and how it can be used (and resisted).

The Nobel Prize winning economist Daniel Kahneman(3) conducted an experiment in which he spun a “wheel of fortune” marked 0 to 100 (but which had been rigged to stop at either 10 or 65) before different groups of participants.  After the wheel had been spun and had stopped at either number, the participants were asked to write the number down.  They were then asked two questions.  First, whether the percentage of African countries in the UN was more or less than the number.  Second, what is the actual percentage of African countries in the UN.  The average of the answers to the second question by groups who saw the wheel stop at 10, was 25%.  The average of the answers of the group who saw the wheel stop at 65 was 45%.

Kahneman(4) describes another experiment involving asking participants about Gandhi’s age at his death.  One group was asked if he was 114 years at death and another group if he was 35.  Members of both groups correctly indicated he was neither age.  They were then asked how old he actually was when he died.  The group who were first asked if he was 114 gave higher estimates of his actual age than the second group.(5)

Jonah Lehry(6) says these experiments show that even a meaningless anchor (such as a random number) can have a strong effect on subsequent decisions.  Marked prices have an even stronger effect.  A shopper for a new car knows that the marked price is not the actual selling price.  The shopper will still however calculate their offer by using the marked price as starting point from which they will move away – but normally not far enough.  Our brain will consider how far off the anchor is the true price (rather than just considering what is the true price or value).  Lehry describes a US experiment in which the participants were first asked to write down the last two digits of their social security numbers.  They were then shown a number of consumer goods and asked if they would pay more or less than the last two digits of the social security number to buy the goods.  Almost all said no.  They were then asked what they would pay for the goods.  Those with the higher social security number gave higher prices than those with lower numbers.  Lehry argues this is due to our brains only being able to hold a finite amount of information.  The irrelevant social security number takes up valuable space in the brain’s short term memory and prefrontal cortex, and becomes the starting point for considering the price in the experiment.

Dan Ariely argues that we cannot know the intrinsic value of something.(7)  Instead we focus on the relative advantage of one thing over another and estimate accordingly.  Thinking is difficult and sometimes unpleasant.  The human brain is lazy (especially when stressed during negotiations) and uses the most immediately available information and points of reference (such as the number painted on the windscreen) to make decisions.

Some suggestions for dealing with the anchoring effect

Firstly, consider if it is a single issue or multi issue negotiation or dispute.  Secondly, consider how much information you have about the issues and their values.

In single issue negotiations, making the first offer and anchoring the negotiation is very powerful.  A negotiator can utilize the anchoring effect by making the first offer.  They should repeat the offer as many times as possible to implant it in the mind of the other party as a reasonable starting point.  Care needs to be taken to not make the first offer too high or low so as to be in the “insult zone” causing the other person to not respond.  The tendency of the other person to walk away will partially depend on what alternatives they may have.  The less acceptable their alternatives, the more aggressively you can pitch the first offer.

Making the first anchoring offer however can be a mistake when you lack information as the real value of the subject of the negotiation.  You may find the other person readily accepts it, suggesting you actually could have got a better deal.  This is the reason why in family law negotiations parties often try to have the other side make the first offer – leading to the first offer dance.

A party responding to a first offer has a number of options to avoid the anchoring effect.  Resist your immediate (possibly emotional) reaction to the first offer.  Do not legitimize an unacceptable first offer by making a similarly extreme counter offer – indeed do not make a counter offer at all.  Instead, without accepting or rejecting the first offer, enquire about the reasoning and information on which it was based.  You might be able to point out alternative information or factors to cause the other side to adjust their anchor before you even need to make a counter-offer.  Another approach would be to make a number of simultaneous alternative offers.

First offers and anchoring in multi issue disputes

It is harder to construct a single anchoring price where there are many issues to be resolved (such as in family law).  One of the tricks in a multi issue dispute is to work out beforehand what the relative value of each issue is to each party.  This allows you to determine if you can trade off one issue (of lesser value to you but greater value to the other party) for an issue of greater value to you.

The making of alternative multiple offers can also be useful.  Multiple offers can utilize the anchoring effect whilst also seeming to be flexible.  The different reaction of the other party to each alternative can be useful information in ascertaining how they prioritise the different issues.

Anchoring and mediation

A good mediator will soften the anchoring effect by having parties identify and discuss issues, and consider all options, before making offers.  This allows each party to have a good idea of the value each places on the different issues and to form a preliminary view of the likely range of agreement they might each find acceptable.  This avoids the first offer dance and results in initial offers being closer together, and therefore minimise the risk of impasse.

A variation on the first offer dilemma that arises in mediation is deciding which party should be asked to make the first opening statement (which is generally a response to a question from the mediator about what the party hopes to achieve out of the mediation).  The first opening statement can frame the rest of the mediation.  To overcome this, mediators should ask the second party to not respond to the first opening statement but instead speak as if they were going first.  Often the mediator will ask the parties to decide who might commence first with their opening statement.  Parties commonly (out of courtesy or nervousness) respond by letting the other go first.  The above research suggests they should do the opposite.