Vox.com recently released a video (below) that outlines how app publishers make money using behavioral intelligence, virtual currencies or micro transactions, and in-app purchases.

Behavioral psychology is not new to games, and has been used in commerce, games, retail, search, sales and almost every highly competitive field.

Here's a summary of what the video covers, along with some of my own notes.

Summary

Behavioral psychology principles are a key way to successfully monetize free-to-play games using in-app purchases. Virtual currency creates an indirection from real currency. Users do not mind spending virtual currency as opposed to direct in-app purchases.

In-game or virtual currency can be purchased in bulk quantities. These can be used toward extra playing time, or for the purchase of rare virtual goods.

Some games add a secondary layer. Players pay for goods they need in a game using a secondary virtual item that can either be bought easily using in-app purchases, or earned painfully (e.g. waiting for turns etc).

The exchange rate between virtual good consumed in the game and real currency is not straight forward and built-in volume discounts tend to encourage larger purchases.

Games developers embed inconvenience into the games, which can be removed with convenient in-app purchases.

Data is collected to:

• improve the game for it’s users,
• improve monetization based on behavioral patterns, for example, where players get stuck or close the game
• understand which features are most popular

Some app publishers tweak the prices of virtual goods based on individual profiles and behavior.

• If the users are losing interest, give them an incentive to keep playing.
• If the user has been identified as a big spender, or “whales,” do not offer discounts, or even bump up the prices.

Players tend to experience unexpected losses more intensely than comparable gains. App publishers use this behavioral research pattern for purchase prompts.

Here the video and transcript in its entirety (Source).

How free games are designed to make money

Transcipt

After Pokemon Go was released in the US, it took less than a day before it was making more money than all the other apps in both Apple’s and Google’s app stores.

“It’s already earned $14 million in revenue since launching last Wednesday — not even a full week.” But users didn’t have to pay a cent for the game. All that money was coming from optional purchases people were making as they played.

This is the world of Freemium apps — a business model that, in the past few years, has largely wiped out the market for paid games. Now game designers have to monetize the gameplay and one way to do that is by applying some fundamental lessons of behavioral psychology.

The first thing these games do is set up a virtual currency so that it doesn’t feel like you’re spending real currency, even though you are. This is a variation on something we’ve known for decades – which is that people find it harder to spend money when they’re paying in cash than if they’re using a card.

“So when you pay cash for something, you see it leave your hands and you get a very immediate sense of how much your cash reserves have dropped, how much your wealth has dropped.”

Games add yet another layer. You pay for lollipop boosters with gold bars and you pay for gold bars with your credit card, which is already distanced from actual payment.

And then on top of that, they don’t make the exchange rate simple. It’s not 50 gems for 50 cents. “They’re always something weird like 1 dollar will get you 12 purple diamonds, and that sort of off kilter exchange rate is the same thing you see with people spending — tourists spending money that they’re not familiar with in foreign countries.” If incense costs 80 pokecoins and a batch of 550 pokecoins costs $4.99, how much real money does incense cost? Yeah i don’t know either. So you’re spending money that doesn’t seem real and it only takes a second because the app store already has your credit card.

The whole payment process is designed to be painless. Other parts of the game, however, are designed to be painful. A key finding of behavioral research is that people tend to experience unexpected losses more intensely than comparable gains. That can inform the timing of purchase prompts.

In Puzzle & Dragons, players progress through a dungeon before facing a boss, and if they die, they stand to lose all the rewards they just earned. That’s when they’re presented with the option to save their coins and their points by spending magic stones, which you can by in the store with real money. Other developers actively embed inconvenience into the games, so that you can purchase convenience. In Clash of Clans and Game of War, everything you try to build has wait times that get progressively longer but are skippable, for a price. “So they build incentives to remove pain points into the games and then if they want that, then they have the incentives to insert pain points into the game.”

Ultimately though, only a tiny percentage of players actually become payers. And a small percentage of payers are those so-called “whales” — people who will pay hundreds, sometimes thousands of dollars in the app. The marketing firm Swrve estimates that about half of the revenue for mobile games is coming from less than a half of a percent of all players. Which means that for some of these games, non-paying users, which is most people, are essentially pouring time into a game designed to hit the pain points of a small, susceptible group of players. If you’re really having fun, that’s fine. But it might be worth rewarding games that find another way. As of now, the monetization in Pokemon Go is unobtrusive, it’s kind of tucked away. And that lack of manipulation is a pretty good reason to buy some lure modules and some incense.

One argument in favor of free-to-play games and in-app purchases is that they give developers a reason to keep updating the games. And they’re collecting tons of data in order to inform those updates — things like where you get stuck, where you close the game, which features are most popular. All that data can help them keep making a game that you want to keep playing. But it also means that they can tweak the prices based on individual profiles and behavior.

If it seems like you’re about to quit, hey here’s a discount. Or if you’re the type of person who will spend a lot of money, maybe they bump up the prices a bit. They can even look at how fancy your phone is and what country you live in and set the prices accordingly.

According to one survey, 40% of game developers said they were setting different prices for different players. But the survey was anonymous and it’s pretty hard to tell which games those are.