Psychological pricing (also price ending or charm pricing) is a pricing and marketing strategy based on the theory that certain prices have a psychological impact. In this pricing method, retail prices are often expressed as just-below numbers: numbers that are just a little less than a round number, e.g. $19.99 or £2.98. There is evidence that consumers tend to perceive just-below prices (also referred to as "odd prices") as being lower than they are, tending to round to the next lowest monetary unit. Thus, prices such as $1.99 may to some degree be associated with spending $1 rather than $2. The theory that drives this is that pricing practices such as this cause 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 11+1⁄2d (elevenpence halfpenny: just under a shilling, which was 12d); another example (before 1961) was £1/19/11+3⁄4d. (one pound, nineteen shillings, and elevenpence three farthings) which is one farthing under £2. This is still seen today in gasoline (petrol) 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 at US$0.009 (e.g. US$3.599).
In a traditional cash transaction, fractional pricing imposes tangible costs on the vendor (printing fractional prices), the cashier (producing awkward change) and the customer (stowing the change). These factors have become less relevant with the increased use of checks, credit and debit cards, and other forms of currency-free exchange; also, in some jurisdictions the addition of sales tax makes the advertised price irrelevant and the final digit of the real transaction price effectively random. The psychological pricing theory is based on one or more of the following hypotheses:
Thomas and Morwitz (2005) coined the term left-digit effect and suggested that this bias is caused by the use of an anchoring heuristic in multi-digit comparisons. Another rationale for just-below pricing is prospect theory. This theory holds 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. The theory also incorporates evidence that small deviations from a reference point tend to be over-valued. So, based on prospect theory, pricing something only a few cents under a whole dollar could be beneficial to the seller. This theory works well because of how the reference point is established by the consumer. The reference point for something that is $19.98 would be $20. This leads the just-below price to be seen as involving a gain, thus making it feel like a better deal. 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 (for example, $1999). 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 (such as an online real estate search), 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. Results from research using modern scanner data are mixed. Restaurants and high-end retailers often price in even numbers to increase their brand image.
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