The Economics of Loyalty Programmes

Why shops, airlines and apps reward repeat customers with points and perks, and what they gain in return, including your data.

Many businesses offer loyalty programmes: points, discounts or perks for repeat customers. Airlines have frequent flyer miles, supermarkets have points cards and coffee shops offer a free drink after a certain number of purchases. What do businesses gain?

Creating switching costs

Loyalty programmes create switching costs, reasons to stick with one seller rather than shop around. If you are close to earning a reward, you may choose the same airline or shop even if a competitor is cheaper today. Economists see this as a way for businesses to reduce price competition.

The first modern airline frequent flyer programme is generally credited to American Airlines, which launched AAdvantage in 1981. Other airlines quickly followed, and the programmes became extremely valuable.

Collecting data

Loyalty cards also give businesses detailed data about what customers buy, when and where. Supermarkets use this data to target offers, decide what to stock and set prices. The British supermarket Tesco’s Clubcard, launched in 1995, is often cited as a pioneer in using loyalty data this way.

Selling points

Airlines earn large sums by selling miles to banks and credit card companies, which give them to cardholders as rewards. During the COVID-19 pandemic, several U.S. airlines borrowed billions of dollars using their loyalty programmes as collateral, and the programmes were valued at more than the airlines themselves in some estimates.

The coffee card

A coffee shop offers a stamp card: buy nine coffees, get the tenth free. That is roughly a 10 percent discount for regular customers. But customers who are seven stamps in are much less likely to try the café across the street, even if it is slightly cheaper. The shop gives up a little per coffee in exchange for customers who keep coming back.

Are they good for consumers?

Loyalty programmes offer real rewards to frequent customers. But they can also lead people to pay more than necessary by discouraging comparison shopping. Points can lose value when programmes change rules or expire, and the data collected raises privacy questions.

Thinking loyalty rewards are free gifts

Rewards are funded from prices paid by all customers, and businesses offer them because they expect to gain more than they give. They are best seen as a small discount in exchange for your loyalty and your data.

Key takeaways

Loyalty programmes create switching costs that reduce price competition.
American Airlines launched the first modern frequent flyer programme in 1981.
Loyalty cards give businesses detailed customer data.
Rewards are real but can discourage comparison shopping and raise privacy concerns.