How Free Shipping Fulfills the Centuries-Old Promise of Capitalism

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By the end of the year, more than half of US households will have Amazon Prime memberships, but the thirst for safe, fast, affordable shipping is nothing new. Shipping has always been a necessary, expensive thing that doesn’t really add tangible value to a purchase, making it difficult to embrace. In fact, dissatisfaction with shipping is baked right into the development of capitalism and has inspired a whole field of academic research that grew up alongside e-commerce.

During the Italian Renaissance, Genoese merchants protected their cargos by creating shipping insurance contracts that would cover losses from ships that sank or pirates making off with their stuff. Piracy was practiced pretty much anywhere there was water and good things to be captured in early modern Europe, including the Mediterranean. Shipwrecks near trading centers such as Amsterdam were so numerous that even now, downed ships sometimes appear from under the sand after a storm, like ghosts looking to tell their secrets.

Even Florence’s powerful Medici family experienced headaches due to shipping. The Grand Ducal Medici — a later, junior branch of the family that followed godfathers of the Renaissance Cosimo and Lorenzo — filled their letters with woes at the logistics, cost, and safety of shipping everything from gold fabric to marble columns and paintings.

Shipping troubles continued in the New World as planters sought to move their goods to market where they could be exchanged for cash and European luxuries. No less a personage than George Washington exploded in letters over the cost of moving crops harvested at Mount Vernon to England for sale. The future US president was furious that he paid more for each of his regular shipments than occasional customers, complained about his stock being ruined by captains who didn’t protect it from the elements, and then threatened to return items that didn’t match his requests. The 19th-century development of mail-order businesses resulted in sewing machines, Tiffany jewelry, and prefabricated houses moving across the country, but shipping headaches remained because rural customers often needed to pay additional charges for delivery from the nearest post office to their homes. In the early days of shopping from home, “free delivery” merely meant that the charge for getting the item from the post office to one’s house was included in the shipping fee.

By the time e-commerce took off, free shipping was still not yet the norm. A blast-from-the-past 2002 CNN Money article’s subtitle reads “Amazon and Buy.com offer free shipping. Can either company survive the promotion?” As the article notes, free shipping was often offered as a promotion in the late 1990s, particularly to attract new customers, but e-tailers pulled back after the dot-com bubble burst. In 2002, Amazon experimented with free shipping for carts $49 and up, while Buy.com granted free shipping on everything, a move experts found very risky at the time. In 2017, Amazon is making a play to unlock your house to deliver packages, while Buy.com was long ago swallowed whole by Japanese e-commerce company Rakuten after falling woefully behind. Their respective trajectories are more complicated than a free shipping war, but getting shipping right often means the difference between smooth sailing and going down with a rich cargo.

The early days of e-commerce shipping research involved trying to figure out how much and which shipping and handling fees influenced purchase decisions. A 2006 article found that free shipping “greatly increase[d]” the number of times people would order, but the size of the orders would be smaller — not the ideal situation for the retailer offering free shipping. The authors concluded, “while shipping promotions can increase demand, the increased merchandise revenues are unlikely to offset the corresponding lost shipping revenues.” So how do so many online retailers offer free shipping — while remaining successful?

Retailers have gotten more sophisticated in how they offer free shipping. Rather than just keeping prices the same and then popping up with free shipping promotions periodically, there are whole models showing how to adjust the prices we see on product pages in order to offer free shipping without sacrificing profits.

At the same time, customers have grown savvier in how they understand online pricing. When e-commerce shipping research started, researchers looked at partitioned pricing — separating the base product price from mandatory shipping and handling fees — and found that products with lower base prices were more attractive, even if they ended up costing more once shipping and handling charges were tacked on. But we did a lot of regrettable things in the early days of the internet, and researchers found that by the mid-2000s, experienced customers could do the sort of mental shopping calculations on the fly that leveled the playing field for products with higher base prices and lower or more transparent shipping fees.

Whether we prefer less expensive combined prices or lower shipping costs seems to vary depending on the situation. For example, people who shop for hedonistic reasons buy more when sellers use partitioned pricing that separates out the shipping cost. Some people are just shipping-charge skeptics and believe that shipping is always a rip-off that shops use to pad their profit margins.

As customers have become more sophisticated in some ways, the sway of the free-shipping god seems to grow all the time, and it results in more indulgent shopping. Researchers are finding that customers return more products after free shipping promotions — and not just due to having no return costs. Edlira Shehu, Dominik Papies, and Scott Neslin studied the aftereffects of free shipping promotions and found that a higher rate of returns was due to customers buying “more product categories than usual” and “spending more per category than usual.” Shoppers bought and returned so much random stuff that it actually resulted in a 56 percent decrease in the profits earned during the eight free shipping promotions they studied.

Free shipping is so powerful that customers in the study actually spent much more liberally with free shipping rather than with a coupon that would have discounted their carts as much as the cost of shipping (€1.57 in extra purchases for the discount coupon versus €14.85 for free shipping). The authors theorize that it’s because we segregate sudden, unexpected gains such as a free shipping offer into mental “windfall accounts” that are more persuasive than our usual shopping mental gain and loss accounts; when we find a windfall promotion, we’re vastly more likely to buy something we otherwise wouldn’t purchase.

Amazon has understood and then reprogrammed how people think about shipping, as a 2014 Forbes article argued. Prime is what scholars call Membership Free Shipping (MFS), where customers pay a fee ($99 per year for Prime) to get free shipping on purchases for a set period. Other examples include ShopRunner ($79.00 per year, covering a number of retailers) and Sephora Flash ($10 per year).

Now that so many households have Amazon Prime memberships, free two-day shipping is members’ point of reference even at other stores, making it incredibly difficult for other retailers to compete. Zhong Wen and Lihui Lin found this year that MFS programs like Amazon Prime result in more relaxed competition. As in, Amazon can charge more for Prime stuff because their members want to use their shipping membership. In fact, one study argued that customers who pay a fee to join a membership program like Prime will spend more and like it more than if they enrolled in a free loyalty program. That’s due to commitment-consistency: “consumers who have made a greater commitment to a loyalty program... have more favorable attitudes toward a loyalty program,” according to authors Christy Ashley, Erin A. Gillespie, and Stephanie M. Noble.

Another reason is the sunk cost fallacy, which in the case of Prime means that shoppers like getting something back for their past investment and end up shopping loyally in order to maximize the value of their membership. Although retailers that offer MFS end up subsidizing rocketing shipping costs, they make the money back thanks to the membership fee they collect from customers, the volume of sales they make, and, potentially, the higher prices they can charge. Interestingly, MFS is most profitable when the shipping service offered to members is faster than standard shipping, according to a 2015 study. Price isn’t the only concern shoppers have; speed matters a whole lot, too.

At one point, new businesses seemed to provide the answer to shipping woes: Railroads moved those sewing machines and Tiffany rings at a speed once unthinkable. But perceived unfairly high freight charges associated with railroad monopolies created enough unrest that the government stepped in. Time will tell if nascent retail monopolies raking in money by understanding our enduring desire for fast, cheap, secure shipping will meet the same fate.