Psychological pricing is a pricing/marketing strategy based on the
theory that certain prices have a psychological impact. Retail prices are
often expressed as "odd prices": a little less than a round number, e.g.
$19.99 or £2.98. Consumers tend to perceive “odd prices” as being
significantly lower than they actually are, tending to round to the next lowest
monetary unit. Thus, prices such as $1.99 are associated with spending $1
rather than $2. The theory that drives this is that lower pricing such as this
institutes greater demand than if consumers were perfectly rational.
Psychological pricing is one cause of price points.
Overview According to a 1997 study published in
the Marketing Bulletin, approximately 60% of prices in advertising material
ended in the digit 9, 30% ended in the digit 5, 7% ended in the digit 0 and the
remaining seven digits combined accounted for only slightly over 3% of
prices evaluated. In the UK, before the withdrawal of the halfpenny coin in
1969, prices often ended in 111⁄2d. This is still seen today in gasoline pricing
ending in 9⁄10 of the local currency's smallest denomination; for example in
the US the price of a gallon of gasoline almost always ends in US$0.009.
In a traditional cash transaction, fractional pricing imposes tangible
costs on the vendor, the cashier and the customer. These factors have become less
relevant with the increased use of checks, credit and debit cards and other
forms of currency-free exchange; also, the addition of sales tax makes the
pre-tax price less relevant to the amount of change.
The psychological pricing theory is based on one or more of the following
hypotheses: The first theory that explains the
rationale for odd pricing is prospect theory. This theory says that "consumers
facing uncertainty in decision making, base the value of an alternative on
gains or losses offered by the alternative, relative to some reference
point, rather than on final absolute states of wealth or welfare". This
theory is based on the fact that losses mean more than gains. So based on that
criteria, one would think that something only a few cents under a whole dollar
would actually be beneficial to the price. This theory works so well because
of how the "reference price" is established by the consumer. The
reference price for something that is $19.98 would be $20. This establishes
the odd pricing as a better deal. Judgments of numerical differences are
anchored on left-most digits, a behavioral phenomenon referred to as the
left-digit anchoring effect. This hypothesis suggests that people perceive
the difference between 1.99 and 3.00 to be closer to 2.01 than to 1.01 because
their judgments are anchored on the left-most digit.
Consumers ignore the least significant digits rather than do the proper
rounding. Even though the cents are seen and not totally ignored, they may
subconsciously be partially ignored. Keith Coulter, Associate Professor of
Marketing at the Graduate School of Management, Clark University suggests
that this effect may be enhanced when the cents are printed smaller.
Fractional prices suggest to consumers that goods are marked at the lowest
possible price. When items are listed in a way that is
segregated into price bands, price ending is used to keep an item in a
lower band, to be seen by more potential purchasers.
The theory of psychological pricing is controversial. Some studies show that
buyers, even young children, have a very sophisticated understanding of true cost
and relative value and that, to the limits of the accuracy of the test, they
behave rationally. Other researchers claim that this ignores the non-rational
nature of the phenomenon and that acceptance of the theory requires belief
in a subconscious level of thought processes, a belief that economic models
tend to deny or ignore. Research using results from modern scanner data is
mixed. Now that many customers are used to odd
pricing, some restaurants and high-end retailers psychologically-price in even
numbers in an attempt to reinforce their brand image of quality and
sophistication. Research
Kaushik Basu used game theory in 1997 to argue that rational consumers value
their own time and effort at calculation. Such consumers process the
price from left to right and tend to mentally replace the last two digits of
the price with an estimate of the mean "cent component" of all goods in the
marketplace. In a sufficiently large marketplace, this implies that any
individual seller can charge the largest possible "cent component" without
significantly affecting the average of cent components and without changing
customer behavior. Ruffle and Shtudiner's laboratory test shows
considerable support for Basu's 99-cent pricing equilibrium, particularly when
other sellers' prices are observable. The euro introduction in 2002, with its
various exchange rates, distorted existing nominal price patterns while at
the same time retaining real prices. A European wide study investigated
consumer price digits before and after the euro introduction for price
adjustments. The research showed a clear trend towards psychological pricing
after the transition. Further, Benford's Law as a benchmark for the investigation
of price digits was successfully introduced into the context of pricing.
The importance of this benchmark for detecting irregularities in prices was
demonstrated and with it a clear trend towards psychological pricing after the
nominal shock of the euro introduction. Another phenomenon noted by economists
is that a price point for a product remains stable for a long period of
time, with companies slowly reducing the quantity of product in the package until
consumers begin to notice. At this time the price will increase marginally and
then within an exceptionally short time will increase to the next price point.
Benford’s law says that this should be the opposite due to the relative
frequency of a specific digit a in the first place of a number is Fa = log10[(a
+ 1)/a] The digit 1 occurs with a relative frequency of about .30, the
digit 2 with a relative frequency of about .18, and the digit 9 finally with
about .05. Research has also found psychological
pricing relevant for the study of politics and public policy. For
instance, a study of Danish municipal income taxes found evidence of "odd
taxation" as tax rates with a nine-ending were found to be
over-represented compared to other end-decimals.
Several studies have shown that when prices are presented to a prospect in
descending order positive effects result, mainly a willingness to pay a
higher price, higher perceptions of value, and higher probability of
purchase. The reason for this is that when presented in the former, the higher
price serves as a reference point, and the lower prices are perceived higher as
a result. Historical comments
Exactly how psychological pricing came into common use is not clear, though it
is known the practice arose during the late 19th century. One source speculates
it originated in a newspaper pricing competition. Melville E. Stone founded
the Chicago Daily News in 1875, intending to price it at one cent to
compete with the nickel papers of the day. The story claims that pennies were
not common currency at the time, and so Stone colluded with advertisers to set
whole dollar prices a cent lower—thus guaranteeing that customers would
receive ample pennies in change. Others have suggested that fractional
pricing was first adopted as a control on employee theft. For cash transactions
with a round price, there is a chance that a dishonest cashier will pocket the
bill rather than record the sale. For cash transactions with an odd price, the
cashier must make change for the customer. This generally means opening
the cash register which creates a record of the sale in the register and reduces
the risk of the cashier stealing from the store owner.
In the former Czechoslovakia, people called this pricing "baťovská cena",
referring to Tomáš Baťa, a Czech manufacturer of footwear. He began to
widely use this practice in 1920. Price ending has also been used by
retailers to highlight sale or clearance items for administrative purposes. A
retailer might end all regular prices in 95 and all sale price in 50. This makes
it easy for a buyer to identify which items are discounted when looking at a
report. In its 2005 United Kingdom general
election manifesto, the Official Monster Raving Loony Party proposed the
introduction of a 99-pence coin to "save on change".
A recent trend in some monetary systems is to eliminate the smallest
denomination coin. The total cost of purchased items is then rounded up/down
to, for example, the nearest 0.05. This may have an effect on future
"odd-number" pricing to maximize the rounding advantage for vendors by
favoring 98 and 99 endings over 96 and 97 ending especially at small retail
outlets where single item purchases are more common. Australia is a good example
of this practice where 5 cents has been the smallest denomination coin since
1992, but pricing at .98/.99 on items under several hundred dollars is still
almost universally applied while goods on sale often price at .94 and its
variations. It is also the case in Finland and The Netherlands, the only
countries using the euro currency which do not use the 1 and 2 cent coins.
See also Infomercial
Pricing Price point
Marketing mix Mental accounting
Microeconomics Take a penny, leave a penny
Numerical cognition References
Boyes, W. J.; Lynch, A. K.; Mounts, S.. "Why odd pricing?". Journal of Applied
Social Psychology 37: 1130–1140. doi:10.1111/j.1559-1816.2007.00203.x.
External links The Left-Digit Effect in Price Cognition
Heuristics in Numerical Cognition 99-cent pricing hooks shoppers
Nine-ending Price and Consumer Behavior: An Evaluation in a New Context
Get smart for just $9.99 The Psychology of Online Pricing'