August 5, 2009


Safe or Sorry?: Extended warranties are a cash cow for retailers. Why do we buy in? (Greg Beato, 8/04/09, Smart Set)

Warranty Week estimates that while consumers spend $15 billion a year on ESCs, ESC administrators pay out only $3 billion a year in claims. In part, this is because ESCs are pre-paid repair contracts rather than insurance products.

While the latter are monitored by government regulators to ensure that the rates they charge are fairly tied to the benefits they may return, ESC administrators are free to charge whatever they like. According to research compiled by Warranty Week, this ranges from 1.2 to 43 percent of a product's retail price!

But it’s not just high prices that make ESCs attractive to retailers, manufacturers, and third-party administrators. Another factor is the reliability of most products these days. As this graphic from the Cleveland Plain Dealer illustrates, a 36-inch plasma TV has only a 7 percent chance of needing repairs during its first three years of operation. A camcorder has an 8 percent chance of breaking down; a refrigerator has a 17 percent chance. Or to put it another way: As long as you avoid improperly ventilated war zones in freezing countries God hates, your digital camera is unlikely to need service.

Even though ESCs may only be protecting you from break-downs that are unlikely to happen, even though they’re often overpriced (given the value they are likely to return), millions of people are willing to pay for them. These people may complain that ESCs cost too much, or that ESC administrators do everything they can to avoid paying repair costs they should be covering. But where is the Michael Moore documentary passionately advocating for our right to free extended repair service? How come Barack Obama never highlighted his desire to overhaul the costly and inefficient laptop insurance industry on the 2008 campaign trail? And why do millions of people keep paying for a service most consumer advocates characterize as unnecessary?

Two professors and one Ph.D. candidate at Carnegie Mellon’s Tepper School of Business recently published a paper (PDF) in the Journal of Consumer Research that may shed some light on this mystery.

Posted by Orrin Judd at August 5, 2009 3:06 PM
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