Many consumers recovering from the worst inflation in 40 years continue to closely watch their spending—they want to know that every expense is worth it. Now companies must confront a major challenge: gauging how much, if any, of their own higher costs customers are willing to bear.
More than ever, businesses today will need to lean hard on psychological pricing strategies to convince customers to overcome their reluctance to spend, according to recent research by Elie Ofek, the Malcolm P. McNair Professor of Marketing at Harvard Business School.
These approaches tap into consumers’ subconscious biases and attempt to get them to view certain prices as attractive and fair. The tactics range from offering tiered pricing options to old standby sales techniques, such as buy one, get one free.
“Perceptions matter, so businesses have to be careful about how and what they charge.”
“Using psychological pricing to your advantage is key during times like these,” Ofek says. “When you raise prices, demand often falls—and sometimes consumer perceptions cause the fall to be so big that you’re better off absorbing at least some of the price increase yourself. Perceptions matter, so businesses have to be careful about how and what they charge.”
Amid fierce online competition among companies that know consumers can compare prices with a few clicks, the ultimate goal of psychological pricing is to help customers better appreciate the value of their purchases. “That’s the notion behind psychological pricing: How do we structure price offerings such that customers walk away feeling they made the right decision?” Ofek says.
It’s all about enticing customers to make purchases at price points they find acceptable, says Ofek, who outlines some psychological pricing techniques that are considered especially effective today—as well as those that are losing luster.
Tiered pricing guides consumers to make the ‘right’ choice
An increasing number of firms are starting to use tiered pricing, a strategy that provides customers with several product or service options at different price levels. Think Netflix’s tiers for its streaming services, ranging from the cheapest standard-with-ads option to its premium pricing plan, which offers unlimited movie viewing and the highest picture quality without commercials.
“Tiered pricing is often a way to pull people in and steer them to an option that is the most appealing and at the same time the most profitable for the company,” Ofek says.
Companies can also use tiered pricing to attract different groups of customers, in which case they need to clearly differentiate the offerings in each category and develop price points that will resonate with each segment, he says.
Buy one, get one free distracts from the full price
Buy one, get one free is an old sales tactic, but it’s an effective one that’s recently regained popularity among businesses trying to encourage cost-conscious consumers to make purchases. Companies often use variations of this discount tactic, such as buy one, get the second 50 percent off.
“I’m seeing a little bit more of this lately. People forget they’re paying full price for one of the items,” Ofek says. “They focus on the 50, 60, or 70 percent off of the second item and feel like they scored a great deal.”
Discounts on base prices look like a bargain
Companies often develop a price anchor to establish a base price in the minds of customers, such as an original price of $50, and then offer various discounts to entice consumers to make purchases, such as slashing that base price to $30 and touting a 40 percent off bargain.
Online retail giants, such as Temu and Shein, are known for regularly using this tactic, displaying crossed-out anchor prices along with deeply discounted sale prices.
“Transparency goes a long way with customers.”
While some businesses may want to offer their own discounts to compete with players like Temu and Shein, others may want to distinguish themselves by emphasizing the quality of their products and services, thus justifying their higher prices, Ofek says.
In fact, being transparent with customers about the reason prices are higher is often an effective way to counter steep discounts offered by rivals.
“There’s value in communicating and explaining what parts of your inputs, such as labor or material costs, have gone up in an effort to maintain high quality, and that’s why you’re raising these prices,” he says. “Transparency goes a long way with customers.”
Charm pricing is everywhere—because it still works
Charm pricing is one of the most familiar pricing techniques out there: setting prices ending in 99, whether it’s a supermarket advertising fruit at $2.99 a pound or a streaming service charging $9.99 per month.
The psychological principle behind charm pricing is to take advantage of the so-called “left digit bias” that subconsciously makes $1.99 appear closer to $1 to some consumers. Most retailers today apply charm pricing to some degree, so it’s not providing much of an advantage to any particular companies, yet businesses still feel the need to use it, Ofek says.
“It’s not delivering a major benefit at this point,” he says. “However, it’s kind of like a negative differentiator. If you don’t do it, you start standing out, and then that creates a separate problem with customers.”
Hello subscriptions, goodbye full prices
Some companies are turning away from up-front full price models, fearing that higher one-time prices deter customers from making purchases, says Ofek.
“It’s about the pain of [a bigger] payment [all at once],” Ofek says.
Instead, as Ofek outlined in a prior industry and background note, companies are increasingly switching to subscription models as a way to entice consumers to purchase streaming content, meal deliveries, software, and other products and services.
The thinking behind subscriptions: Break large up-front or annual prices into smaller monthly payments, so they’re considered more affordable, even if the total at the end of the year is higher.
The price is part of a product’s value
In the end, Ofek says, businesses need to understand that customers expect to see value in their purchases.
“You want consumers to feel like they got this great deal at a great price—and that the price is part of the value,” Ofek says.
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