Download cross elasticity of demand

Unit 4
Cross-elasticity of demand
Extending the 4Ps to 7Ps
Table of business matrix tools
Forecasting
Price elasticity of demand
When you raise the price of most items, people will buy less of them. For example,
when one airline raises its price, air passengers may switch to a rival airline.
When you reduce the price of most items, people will buy more of them. For example,
when supermarkets make special offers with reduced prices, they expect a sharp
increase in corresponding sales.
Common sense tells us that when prices change, so too will the quantities bought.
However, businesses need to have more precise information than this - they need
to have a clear measure of how the quantity demanded will change as a result of a
price change.
The relationship between price and quantity demanded is measured by 'price
elasticity of demand' (PED). This is calculated as: change in sales/% change in price
Read more: http://businesscasestudies.co.uk/businesstheory/marketing/elasticity-of-demand.html#ixzz1jK71hLYu
Income elasticity of demand (YED)
• Income elasticity of demand measures the
relationship between a change in quantity
demanded and a change in consumer’s
income. The basic formula for calculating the
coefficient of income elasticity is:
• Percentage change in quantity demanded of
good X divided by the percentage change in
real consumers' income
• Normal goods have a positive income elasticity of demand so as
income rise more is demand at each price level. We make a
distinction between normal necessities and normal luxuries.
• Necessities have an income elasticity of demand of between 0 and
+1. Demand rises with income, but less than proportionately. Often
this is because we have a limited need to consume additional
quantities of necessary goods as our real living standards rise. The
class examples of this would be the demand for fresh vegetables,
toothpaste and newspapers. Demand is not very sensitive at all to
fluctuations in income in this sense total market demand is
relatively stable following changes in the wider economic (business)
cycle.
• Luxuries on the other hand are said to have an income elasticity of
demand > +1. (Demand rises more than proportionate to a change in
income). Luxuries are items we can (and often do) manage to do without
during periods of below average income and falling consumer confidence.
When incomes are rising strongly and consumers have the confidence to
go ahead with “big-ticket” items of spending, so the demand for luxury
goods will grow. Conversely in a recession or economic slowdown, these
items of discretionary spending might be the first victims of decisions by
consumers to rein in their spending and rebuild savings and household
financial balance sheets.
• Many luxury goods also can be called “positional goods”. These are
products where the consumer derives satisfaction (and utility) not just
from consuming the good or service itself, but also from being seen to be
a consumer by others.
• Inferior Goods
Inferior goods have a negative income elasticity of demand. Demand falls
as income rises. In a recession the demand for inferior products might
actually grow (depending on the severity of any change in income and also
the absolute co-efficient of income elasticity of demand). For example if
we find that the income elasticity of demand for cigarettes is -0.3, then a
5% fall in the average real incomes of consumers might lead to a 1.5% fall
in the total demand for cigarettes (ceteris paribus).
Cross-elasticity of demand (XED)
Very often, a change in the price of one product leads to
a change in the demand for another.
Cross price elasticity measures the responsiveness of
demand for good X following a change in the price of
good Y (a related good). We are mainly concerned here
with the effect that changes in relative prices within a
market have on the pattern of demand.
With cross price elasticity we make an important
distinction between substitute products and
complementary goods and services.
What products do you think would be relative examples
here?
Unit 4 Revision Table
Forecasting
• You need to investigate two types:
– Extrapolation
– Moving Averages
• We will cover as a class next week as the last
task of Unit 4 and Marketing.