What are Customer Loyalty Programs?

Leo Zimmermann

Customer loyalty programs are systems set up by retail and service businesses to retain customers. The centerpiece of most such programs is a plastic card which the customer swipes each time they purchase something from the business. The card provides the company with information about the consumer and may also reinforce the consumer's habit of doing business with that company. Sometimes the card also provides side benefits.

Some coffee shops use loyalty cards that give customers a free drink after buying a certain number.
Some coffee shops use loyalty cards that give customers a free drink after buying a certain number.

These programs have grown increasingly popular in the United States over the last decade. Almost every major supermarket or hotel chain has some sort of card that they issue to consumers. According to some reports, the average family is a member of 14 such programs! Partially to blame is a bandwagon effect; once one business in an industry creates a customer loyalty program, the incentive for others to do so becomes much greater.

For a business, one of the biggest benefits of a customer loyalty program is the information it provides about consumption habits. Usually, companies promise only to store and transmit aggregate information—that is, to keep individual shoppers anonymous. Even with this caveat they are able to collect large amounts of useful data. For example, supermarkets with customer loyalty programs can easily track what items people often buy together, then place those items closer in the store to encourage shoppers to buy that combination.

Actual customer loyalty may also sometimes result from customer loyalty programs. If a particular store requires a special card to make a purchase, shoppers may gravitate towards the stores with which they have existing relationships. It makes the barrier to entry for another business slightly higher. Actual rewards may also increase customer loyalty. People are more likely to buy coffee from the same place if their tenth cup is free. In general, smaller institutions use this type of system more often.

Customer loyalty programs can also serve as a form of price discrimination. Price discrimination is the process of charging two different prices for the same item. If possible, this technique is ideal for a business, since it can extract more money from those willing to pay it without freezing out those only willing to pay the lower price. By marking up certain items, then offering discounts stemming from a customer loyalty card, a supermarket can make people with the card feel like they saved money, while extracting extra money from consumers who don't care enough to get the card.

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