A two-year field experiment was conducted with drip irrigation and plastic mulch to investigate an appropriate irrigation management strategy for chili pepper (Capsicum annuum L.). Five treatments, with the soil matric potential (SMP) threshold range of −10 to −50kPa at intervals of 10kPa, were applied in this study and are correspondingly referred to as T1 to T5. Leaf area index, plant height, soil water content, yield, and total soluble solids (TSS) were measured, and seasonal crop evapotranspiration (ET), water productivity (WP), and irrigation water productivity (IWP) were computed regularly. Results showed that the differences in leaf area index, plant height, above-ground biomass, and crop yield in treatments T1 though T4 were similar (P>0.05), but higher (P<0.05) than those of treatment T5. Irrigation amount and crop ET generally decreased with decreasing SMP threshold. Threshold values with SMPs from −10kPa to −30kPa caused a reduction of irrigation amount by 22–43% and crop ET reduction by 11–25%. Higher TSS, larger percentage of marketable fruits, and higher WP and IWP were found for treatments T3 and T4 in both growing seasons. The highest SMP threshold (−10kPa) and lowest SMP threshold (−50kPa) greatly reduced the WP and IWP. Therefore, a SMP threshold range of −30kPa to −40kPa at 20cm depth was recommended for irrigation management of chili pepper under mulched-drip irrigation conditions in the arid region of Northwest China.