Price-endings when prices signal quality

This paper provides a theoretical explanation for why firms behave as though they use round prices to signal quality. By replacing the linear demand curve in Bagwell and Riordan's (1991) price as a signal of quality model with a kinked demand curve, and analyzing what price endings firms are most likely to use, the following observations can be made: (1) Firms that are using high prices to signal quality are more likely to set those prices at round numbers, and (2) price-endings themselves are not necessarily signals of quality. A simulation was conducted to demonstrate that these findings generally hold true even in the presence of demand spikes at 9-ending prices (e.g., Schindler and Kibarian 1996). Finally, empirical evidence is provided to demonstrate that firms tend to use more round prices for higher-quality products, and that this relationship is even stronger for product categories where consumers are less able to detect the true level of quality prior to purchase.