Retailers Underestimate the Power of a Penny in Pricing

Retailers have long set prices ending in 99 cents, knowing that buyers view $4.99, for example, as significantly less expensive than $5. But many companies underestimate consumers’ left-digit bias and should be using these prices more than they do now, according to research by Chicago Booth’s Avner Strulov-Shlain.

Strulov-Shlain analyzed price data from 1,710 popular products in 248 stores of a single US retailer, as well as data on 12 products carried by more than 60 chains and in 11,000 of their stores. He finds that one-quarter to one-third of all prices ended in 99 cents. To learn how much companies should charge, Strulov-Shlain built a model that combines previously established left-digit bias models with a profit-maximizing formula that takes left-digit bias into account. Using the model and retailers’ pricing data, he estimates what price sensitivity and left-digit bias the companies had in mind when setting prices. Many items would have been better priced with a 99-cent ending, because demand dropped when the dollar digit changed, he finds.