Complete Guide to Psychological Pricing
Have you ever been to a store and wondered why that batch of your favourite chocolate costs $5.99 or the nice sweater costs $398? Did you ever ask why a hotel room costs $199.99 a night and not $200? Did you ever feel that most of the price tags around you are somewhat odd?
If you felt there’s something at play here, you would be perfectly right! Those one cent or one dollar “discounts” play a very special role in marketing. These odd prices actually give the illusion that you are paying drastically less than you actually are. So, to the conventional human mind, $199.99 seems closer to $100 than to $200, just because it starts with “1”. Odd pricing is a part of something that experts call psychological pricing.
In this article, you will learn about 1) an introduction to the psychology of pricing and 2) leading pricing strategies based on psychology.
INTRODUCTION INTO PSYCHOLOGICAL PRICING
What is psychological pricing?
Psychological pricing is a pricing tactic that takes advantage of a customer’s emotional response to certain price points in order to enhance sales prospects. Psychological pricing uses unusual pricing conventions to make products or services look significantly cheaper than they actually are. Psychological pricing is designed to appeal to a customer’s emotional side and not his rational side.
Psychological pricing endeavours to keep products within stipulated “mental barriers” of the conventional customer, with marginal reduction in prices.
For example, consider the two price tags, $100 and $99. The first price tag is a three-digit figure and breaks the customer’s mental barrier of favouring a two-digit price. The second price tag gets within that barrier by just discounting one dollar. This little difference often goes a long way into convincing the customer that the product is reasonably priced and makes the difference between a sale and a “no sale”.
Although rational thinking should make it comprehensible to the customer that the price difference between a round figure and a psychological price is meagre, often times, he is compelled to act irrationally. That’s because the human mind processes prices from the left-most digit first. Since psychological pricing brings price tags to the next lower tens (or hundreds, or thousands, and so on) when processed from the left, it creates an illusion that the value is closer to the left-most digit, when it is actually exactly the opposite.
The concept of psychological pricing is not new – in fact, it is more than a century old. It started as a price war between newspapers during the late 1800s, and by the early 1900s, Bata, a former Czechoslovakian shoe-maker introduced it famous “decimal 99” prices. The concept caught on and today, psychological pricing is omnipresent, right from fuel prices to real estate.
Rationale of odd pricing
A study of the psyche of a conventional customer, and of the human mind, in general, reveals certain traits that are almost universal. These traits have been demonstrated time and again in fairly regular patterns by customers, so much that certain rationales can safely be established with respect to odd pricing.
- Rationale 1 – Customers round off to the lowest figure. A product tagged at $7.99 will most likely be rounded off to the lower figure, i.e. $7, although it is much closer to $8. Since people have a limited capacity to process or store numbers mentally, they lay much more emphasis to the left-most digit and lose track as they move to the right.
- Rationale 2 – Odd pricing creates an illusion that the product is tagged at the lowest possible price. Odd prices appeal to the customer psyche as being specific and thus, honest. On the other hand, rounded-off price tags look manipulated and thus, somewhat dishonest.
- Rationale 3 – Customers are attracted to the digit “9”. The power of 9 in marketing can never be overstated. Right since the 1800s, prices ending in 9 (or 0.99) have conveyed to the customer that they are getting change back in the form of a cent or a dollar or more, which is always welcome.
Common end digits of prices
By the middle of the twentieth century, statistics showed that two-thirds of all sampled price tags ended in an odd digit. Prices ending in “9” were always the most popular, followed by those ending in “5”. In fact, four out of every five items in retail stores had prices that either ended in a “9” or a “5”.
A study conducted in 1995 on 1188 sampled price tags throws some interesting results. Below, we illustrate the results for all prices ending in digits 0 through 9.
- Ending in “0” – 89 items (7.5%)
- Ending in “1” – 3 items (0.26%)
- Ending in “2” – 3 items (0.26%)
- Ending in “3” – 9 items (0.76%)
- Ending in “4” – 3 items (0.26%)
- Ending in “5” – 340 items (28.6%)
- Ending in “6” – 3 items (0.26%)
- Ending in “7” – 5 items (0.4%)
- Ending in “8” – 119 items (1.0%)
- Ending in “9” – 721 items (60.7%)
From the above study, it was observed that almost 90% of all sampled prices ended in either “9” or “5”. Round figure price tags commanded only a 7.5% share, while prices ending in either of the rest of the numbers were more or less insignificant. The enormous value of odd numbers in pricing can thus safely be established.
Another study conducted in New York postulated that women are more susceptible to be attracted to odd pricing than men.
Advantages & Disadvantages of Psychological Pricing
Psychological pricing has its own set of merits and demerits.
Advantages of psychological pricing:
- Psychological pricing puts products into specific price segments or bands. Segmenting odd prices always puts them into the lower price bands, thus instantly presenting themselves as being of higher “value” to the customer. For example, the rounded-off price of $100 falls within the price band “$100 – $199”, while the psychological price of $99 falls in the next lower band, i.e. “$1 – $99”.
- Psychological pricing introduces the illusion of incremental discounts, thus pushing sales to an extent. However, the efficacy of this argument is uncertain.
- Psychological pricing establishes control and accountability in the cashier. Since whole dollars are much easier to steal than loose change, it is, hypothetically, very difficult to steal money obtained by selling oddly priced products. For example, when a cashier gets a 100-dollar note for a $100 item he just sold, it is easy for him to steal the note. But when he sells a $99 item, he is either getting several banknotes (tens, ones, etc.) from the customer, or is returning change from the cash register. This makes it difficult for him to steal.
- Psychological pricing can help segregate discounted products from regular-priced ones. Discounted products can always be oddly priced for easy identification.
Disadvantages of psychological pricing:
- Since psychological pricing uses fractional or decimal prices, it makes it difficult for cashiers to calculate the amount due or change due to the customer when compared to rounded-off prices.
- Many customers employ rationale rather than emotion while buying, and this is increasingly becoming the case. Rational customers cannot be manipulated by psychological pricing and will not be attracted by odd prices, since they will tend to round off prices to the next higher amount. For example, a rational customer will see $7.99 as “$8” and not as “$7”.
THE ANATOMY OF PSYCHOLOGICAL PRICING & ITS BEST STRATEGIES
How to use Psychological Pricing to charm the customer & Methods and Strategies you should follow to attain that irresistible price
The list of psychological pricing strategies is huge. We will explain a step-by-step procedure into using psychological pricing to your advantage.
Strategy #1: Define your price
It is an exhaustive process to determine the correct price for your product. A lot of research goes into understanding the human psyche in its response to psychological prices. The goal is to either find that pricing sweet spot or to continually make adjustments to your price so that it becomes the most effective.
- Charm Pricing: We have established before that a human mind is naturally attracted to odd prices. This attraction has given rise to the concept of charm pricing. Charm prices typically end in “9”, “99” or “95”. The “charm” is not just in the 9s or the 5s in the price tag, but also in the left-most digit in the price.
- Appropriate Rounding: Appropriately rounded prices also go a long way into attracting more customers. Many customers would find it difficult to process prices that have fractions and are not rounded, say $99.84. However, they are easily able to process the next rounded number, which is $100. A price that is easily processed strikes the right chords with the customer. However, there’s a contradiction with rounded prices. A lot of people perceive rounded-off price tags like $100, $3000, etc. as manipulated and stay away. So, the best bet is to do the following – when you are targeting an emotional purchase, you can resort to appropriate rounding; and when you are to make a rational sale, it’s best to have a price with fractions.
Strategy #2: Comparing and Optimizing Pricing
Comparison and optimization are two psychological pricing strategies that marketers have been increasingly resorting to.
- Comparing pricing: The primary strategy most of them follow is to price their products in direct comparison to their competitor’s products. This way, by keeping their prices slightly lower than their competitors, marketers build a case for themselves with their prospective customers. Although this strategy works with many products, in certain scenarios, it doesn’t. In fact, there are many products (e.g. medicines) that do not fit into this price war. As a matter of fact, providing comparative discounts on these products will create a negative impression that the products are of inferior quality, and customers will associate heightened risk with buying these products. An interesting phenomenon is the effect of “useless prices” or decoy products. According to Dan Ariely, a professor of psychology and behavioural economics, price points play a very pivotal role in subliminally affecting a customer’s perceived value of a product. Dan experimented with three price points – (1) A web-only subscription, valued at $59, (2) A print-only version valued at $125 and (3) A complete package of web and print versions at $125. In this case, the second price point is obviously a useless price, since for the exact same price, a customer would be able to buy the complete web + print package. However, when the second price point is discarded, the entire perspective changes. It becomes apparent that the second price point was there just to provide an illusion that option (3) was an excellent bargain in comparison. But without option (2), option (3) suddenly looked far-fetched and unreasonable. Thus, Dan concluded that certain useless price points help change customers’ perspective from looking for a bargain to looking for good value.
- Optimizing pricing: An important observation made by marketing experts is that it is most often a better proposition to sell time over money. Customers always form a personal connection with a product that they deem good and cherish the time they spent using it. Thus, from a business perspective, referring to time instead of money will be seen as more favourable by such customers, and this will lead to better sales prospects. According to Jennifer Aaker, the General Atlantic Professor of Marketing at Stanford Graduate School of Business, almost half of all advertisements she studied made references to time instead of money. In an experiment conducted by Aaker and her co-author, Cassie Mogilner, three stands selling lemonade were set up with prices ranging from $1 to $3. These stands were manned by two six-year-old children. The catch was that the three stands used three different advertising slogans to woo customers. While one of the signs was neutral and only advertised the product, another sign coaxed would-be customers to spend some time and enjoy the lemonade. The third wheedled customers to spend a little money and enjoy the drink. The results were dramatic – the stand that coaxed customers to spend some time attracted double the number of customers who were willing to spend twice as much for the drink.
Strategy #3: Influence the perception of your price
How your price is perceived goes a long way into determining whether or not your product has a sales potential.
- The psychology of “9” and the “Decimal 99”: Look around any market or store and you will find that a majority of the prices end in “9”. The reason why this happens is obvious – it works! An experiment jointly conducted by MIT and the University of Chicago had the same item of women’s clothing priced differently at $34, $39 and $44. While common logic dictates that the ones priced at $34 should have been the best sellers, clearly this wasn’t the case. Actually, the items priced at $39 sold the most. Now, moving on to prices that end in “.99”, the logic is pretty similar. However, prices that end in 99 cents also, albeit hypothetically, force the cashier to open the cash register and pay back a cent in change, making it difficult for them to pocket whole dollar bills. But, of course, this is an old theory that doesn’t make much sense nowadays, since most bills are paid by cards.
- The power of context: Context plays a very important role in pricing. The same article will seem to be of better value when another identical article is introduced at a higher price. For example, a bag of peanuts costs around 30 cents in the grocery store. But the same bag costs up to a dollar at the airport. Once you are at the airport browsing the price of a bag of peanuts, it would immediately strike you as unfair that you have to pay more than three times for the same article. Suddenly, the 30 cent price at the grocery store seems very high value in the context of the airport. In a similar fashion, it is much easier to sell a briefcase priced at $100 when it is placed next to another one priced at $300.
- Split pricing: The underlying logic behind split pricing is this: People always tend to be attracted to a price that seems visually lower. While customers still end up paying the same amount, split pricing manages to catch the fancy of their subconscious mind. This is the reason why many stores only emphasize on their base price for commodities. Whether it is a slice of pizza or an article of clothing or a car at a dealership, the displayed price is most often the base price, without adding taxes, handling charges and shipping charges. This is done to have a more positive effect on the customer, to force them to perceive that they are paying less when they are actually not. Another way to achieve this end is to offer to receive payment through instalments. A television set that is advertised at a flat rate of $500 will look less appealing compared to one which is advertised as “5 instalments of $100”. Clearly, the subconscious mind of the customer compares $500 with $100. Similar results can be obtained by displaying the daily price equivalence instead of the monthly instalment. So, “$3.33 / day” sounds a lot cheaper than “$100 / month”, when both of them are essentially the same rate.
- Size and position of the price: Size and position of prices also play an important role in deciding price perception. It has been established that the physical size of the price tag and its position can affect a buyer’s perception. Typically, displaying the price in a smaller font will convey the perception that the price is smaller, more so when it is displayed next to another reference price in a larger font. Also, placing the price tag at the bottom left creates a perception of a smaller price. Punctuation plays another important role in price perception. It has been noticed that avoiding commas in prices decreases the number of syllables in the price, thus creating the perception of a smaller price.
- Using Anchoring: Anchoring is a process in auctions where negotiations are started at a higher price. This higher price is called the anchor point. It is possible to generate higher revenue at an auction by setting high reserve prices or anchor points. Also, it is best to have a non-rounded price as the anchor price in order to establish credibility. For an article to be auctioned at a starting bid of $50, it is best to have the anchor point at say, $76.55 instead of $70 or $80.
Strategy #5: Changing the price
Increasing prices of your products is inevitable in the current state of the economy. However, it is a tough job to convince customers about the rationale behind a price rise. In that scenario, it is best to follow the following strategies:
- Small increase but more frequently: There is a postulate known as Just Noticeable Difference (or, JND). This is the process of increasing prices by very small, barely noticeable margins in a frequent manner. Regular, marginal price increases will ensure that the customer is not too alarmed and will also help the company in coping with inflation on a regular basis. For example, a product that is originally priced at $40.99 can be marginally increased to $41.99 in the second month and then to $42.99 in the third month and so on, instead of directly shooting the price up from $40.99 to $45.99 after five months.
- Less features but the same price: The Just Noticeable Difference postulate can also be used to marginally reduce features of a product without changing the price. Many companies resort to marginally reducing the dimensions of a product in a proportionate manner in order to lower production costs and to maintain profit margins without increasing prices or alarming the customer.
What do you need when you want to start your own business? An idea and enough money! That’s …