Why do so many prices end in .99?

by on December 25, 2010 at 4:08 pm in Economics | Permalink

Via Tim Harford, there is a new paper on this topic, by Franz Hackl, Michael E. Kummer, and Rudolf Winter-Ebmer:

Basu (2006) argues that the prevalence of 99 cent prices in shops can be explained with rational consumers who disregard the rightmost digits of the price. This bounded rational behaviour leads to a Bertrand equilibrium with positive markups. We use data from an Austrian price comparison site and  results highly compatible with Basu's theory. We can show that price points – in particular prices ending in 9 – are prevalent and have signicant impact on consumer demand. Moreover, these price points are sticky; neither the price-setter itself wants to change them neither the rivals do underbid these prices, if they represent the cheapest price on the market.

Tim's piece on the same question can be found here.

dearieme December 25, 2010 at 1:43 pm

In a recent General Election campaign, the Monster Raving Loony Party advocated the introduction of a 99 pence coin.

Jim Rose December 25, 2010 at 2:51 pm

what about an old fashion monitoring explanation!!!

with cash registers, the only way to open the till and get change for the customer was to ring up a sales number on the register.

the customer polices the correct number being entered because they want a receipt that promises the correct change.

if prices end with 99 cents, change is almost always required. staff theft is reduced because sales are know with accuracy and customers provide policing.

the old Coasian maxim applies – whenever an economist sees something they do not understand, they all too often seek a monopoly explanation.

prices have many purposes, one of which is to contribute to monitoring of employee slack and theft.

Nick L. December 25, 2010 at 5:08 pm

If the explanation is we ignore numbers to the right of the decimal point, then why is 29.99 more prevalent than 30.99?

Dick King December 25, 2010 at 8:11 pm

The monitoring explanation doesn't make sense, with most jurisdictions in the US imposing a sales tax that forces change for most purchases even if the prices were integral dollars.

Low-order digits can be used to code things about the item. For example, from time to time REI holds sales on certain classes of merchandise, and they code which items are covered by making those items' prices end in a certain pair of digits [sometimes they use $xx.78, for example].

-dk

Jim Rose December 25, 2010 at 8:49 pm

Dick King,

thanks for your comments.

99 cent pricing dates back to when 1 cent in change could buy your something.

every price is inclusive of GST where I live and 99 cent pricing persists. the use of 99 cent pricing encourages electronic transactions.

John Farragut December 25, 2010 at 9:17 pm

I think you people are giving consumers way too much credit. People are bad at consistently judging relative magnitudes. A reduction in price from 10.00 to 9.99 probably gives a much bigger sales boost than from 10.02 to 10.01 or from 9.98 to 9.97. So you end up with lots of 9.99's and less of the others. Whether you want to call this tendency "bounded rationality" or whatever, that's all I think is going on.

Alex December 25, 2010 at 10:20 pm

Isn't it possible most .99c pricing is just because everyone else does it? These thing's don't always have to make sense.

Six Ounces December 26, 2010 at 12:14 am

@Jim Rose:

Many stores have a policy that if you fail to get a cash register receipt, the good is free (up to a certain amount). This gives the customer an incentive to report a sale which is not rung up in the register. That is how managers control employee theft. But these stores have LOTS of 99 prices, so your argument doesn't appear to hold water.

There may very well be an historical basis to 99 pricing, but that doesn't mean it's sustainable. If the profit maximizing price is $1.00, then the firm loses money by pricing it at $0.99. At some point over many years, some firm or firms are going to attempt to price at $1.00. And when their profits go up, they will give up the fruitless 99 pricing forever. Their competitors will then follow.

Bottom line: 99 pricing remains because IT WORKS.

Things may not make sense in the short run, but in the long run I believe the market finds the most profitable way to do things.

Some bums ask for spare change. Some ask for a quarter or a dollar. Some say they need money to buy a hamburger or a beer or gas for their car. Some claim to be veterans. Some hold puppies or kittens. They choose different locations, different target audiences, and different begging prices. But they are all actively seeking the best way to elicit sympathy and separate people from their money.

I expect no less innovation and experimentation from salesmen and businesses. To claim that millions of vendors around the world price things in 99s just because everyone has always done it that way, it a weak explanation that defies any sense of market learning.

dirk December 26, 2010 at 1:29 am

"I forget the store but .98 meant it was clearance and .97 meant closeout, or something like that. Prices convey information explicitly!"

Ha! That assertion demonstrates my point about the illusion created by detail.

Karl December 26, 2010 at 3:46 am

My wife is notorious for looking only at the leftmost one or possibly two digits when conceptualizing prices. $29.99 can be twenty-something while $30.00 is thirty. Big difference.

I realized – or was educated about – this tactic some time in high school and tried to retrain my rationality to see $X.99 as $X+1 to inoculate myself from this manipulation. But, largely I failed unless I transcribe the prices.

No one has yet mentioned gasoline pricing as $x.x9 + 9/10? That nine-tenths of a cent is this tactic to a further degree. I suspect it flew under the radar of this bunch as within reasonable bounds the demand for gas is pretty inelastic- I barely look at the price except as a kind of sport, the tank is getting filled regardless. And since every station does the 9/10ths bit its lost any power as a differentiator.

Mario Rizzo December 26, 2010 at 6:16 am

"Basu (2006) argues that the prevalence of 99 cent prices in shops can be explained with rational consumers who disregard the rightmost digits of the price."

I have heard this theory before — as far back as the the early 1990s. I simply don't believe it. The *rational* consumer adds the penny and 3.99 becomes 4.00. If he did not I could buy the thing back from him for 3.00 and sell it for 4.00.

Dan Weber December 26, 2010 at 8:28 am

I worked with someone who hated the "99 cent" pricing, and sold everything in even dollar amounts, usually with only a few total significant digits. For ex, selling software for $1200. Even $1195 would get his dander up.

It's tough to say how well this worked; we dominated that industry for a while, but our competitors were complete morons who only chased our taillights.

Peter December 26, 2010 at 9:26 am

On a not-entirely-unrelated note, a curiously high percentage of the women on online dating sites are 29 or 39 years old.

Probable Picks December 26, 2010 at 1:46 pm

I don't understand why all consumers must be assumed to be homogenous. I think it's likely that some customers are fooled and ignore the digits to the right of the decimal even if most don't. Some round up, others round down. But this still makes it worth it to the retailer, who stands to make some extra sales at the margin due to *some* careless shoppers.

Six Ounces December 26, 2010 at 6:03 pm

No, Dirk, I was assuming for the sake of exposition that the profit-maximizing price was $1.00.

If businesses are pricing at 0.99 out of habit or tradition, then they're losing money. If 0.99 IS the profit maximizing price, then it's either an incredible coincidence or there is traction to the price-points argument. I accept the latter hypothesis.

Cournot December 27, 2010 at 1:53 am

One test of this is to see whether stores where nominal prices are lower would be more likely to use the 0.99 pricing. Unless you want to postulate a highly non-linear psychology of attention .99 pricing matters (in the sense of a markup) for low priced goods and is virtually irrelevant for goods over (let us say) a thousand dollars.

But what do we find? The most prominent low price stores in America (Dollar Stores and Under Five Stores) mostly price in round numbers ($1, $2, $3). Ditto for many small groceries run by Chinese or Korean immigrants.

bk December 27, 2010 at 6:43 pm

the next question is why don't you see others jumping on the .99 cent bandwagon. when is the last time your quoted estimate by the plumber or car repair shop ended in xx.99?

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