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According to new research from NYU Stern, when tourists pay with foreign currencies, they will overspend or underspend, depending on the exchange rate. In a recent study, Priya Raghubir, Research Professor of Marketing, and Vicki Morwitz, Harvey Golub Professor of Business Leadership, along with PhD student Shelle Santana, examine how tourists convert foreign currencies to make spending decisions.

Across six studies, the research team finds that:

• Tourists suffer from the "money-illusion" effect. For example, when an American travels to Japan where the exchange is $1 = 78 Yen, they tend to underspend. A price of 800 yen can be off-putting when in reality, it’s just a little more than $10. The reverse happens when the foreign currency is a fraction of the home currency.
• Consumers succumb to the "money-illusion" effect because they use the face value of the product price as a starting anchor to make their purchase decision and inadequately adjust for the exchange rate.
• When exchange rates make conversation difficult (e.g., 1 US dollar = 42.50 Indian Rupees), people naturally tend to round (e.g., $1 = Rs 40.00). Using this sample conversion rate, an American tourist in India is likely to overspend as a result of rounding down.
• Tourist spending in continental Euro countries was higher than in non-Euro countries after the changeover to the Euro. The researchers attribute this to the change in face values of prices following the changeover and refer to this as the "Europoly Effect."

"With Labor Day travel around the corner, families are deploying their vacation budgets around the world," explains Raghubir. According to the World Tourism Organization, tourism expenditures are the world's largest exported product. In 2010, nearly 1 billion people traveled to a foreign country, and their total expenditures and transportation costs totaled more than $900 billion.

"Tourism expenditures have important implications for the economies of visited nations, domestic prices, wage rates and consumer welfare," the authors write. "So this research is of interest not only to academics, but also to business owners and marketers catering to foreign clientele." The authors advise travelers to be aware of their natural biases and exert extra care when evaluating prices in unfamiliar currencies. They point to calculators and apps on mobile devices as helpful tools to accurately compute currency conversions. "For example, if American travelers are visiting London to take advantage of post-Olympic discounts, they should be careful to not overspend, since the face value will make those bargains seem even more enticing," explains Professor Morwitz.

To read the full paper entitled, "Europoly Money: How Do Tourists Convert Foreign Currencies to Make Spending Decisions?" which was published in the Journal of Retailing, visit: http://www.sciencedirect.com/science/article/pii/S0022435911000911

For more information, please contact Professor Priya Raghubir, 212-998-0727, raghubir@stern.nyu.edu; Professor Vicki Morwitz, vmorwitz@stern.nyu.edu, 212-998-0518, or Carolyn Ritter in NYU Stern’s Office of Public Affairs, 212-998-0624, critter@stern.nyu.edu.