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IBDP Business & Management: Price Elasticity Demand

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Shehab Fawzy

on 14 February 2013

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Transcript of IBDP Business & Management: Price Elasticity Demand

The Relationship Between Elasticity and Product Life Cycle The price of the product is likely to differ between different stages, as market managers continuously monitor and oversee pricing strategy.

THE VALUE OF PED TENDS TO INCREASE AS THE PRODUCT MOVES THROUGH ITS LIFE CYCLE. Review of the Product Life Cycle PAGE 505
1. R&D
2. Launch
3. Growth
4. Maturity
5. Saturation
6. Decline The Relationship Between Price Elasticity of Demand and Total Revenue The Fawzinator with Guest Speaker: Kareem El-Azhary Relatively Price
Inelastic Demand Curve Relatively Price
Elastic Demand Curve (Review)
Elasticity of Demand PED: Price Elasticity
of Demand refers to the technique of measuring the degree of responsiveness of quantity demanded due to a change in a specific factor that affects demand. factor 1: price of the product ? ? ? Income Elasticity of Demand (YED): measures the degree of responsiveness of changes in demand due to a small change in consumer income levels
Formula (IN DATA BOOKLET):

Percentage change in quantity demanded
/
Percentage change in income Cross-price elasticity of demand (CED): measures the degree of responsiveness of changes in demand for one product due to a small change in the price of another product (be that a substitute or a complement)
Formula (IN DATA BOOKLET):

Percentage change in quantity demanded for Good A
/
Percentage change in price for Good B Advertising elasticity of demand (AED): measures the degree of responsiveness of changes in demand due to a change in a firm's advertising expenditure

Formula (IN DATA BOOKLET):

Percentage change in quantity demanded for Good A
/
Percentage change in price for Good B Income Time Durability Fashion, addictions,
habits and tastes Factors affecting price elasticity of demand (p545) Necessity Substitution Value of YED:
Less than 0
Type of Product: Inferior Good THREE POSSIBLE OUTCOMES FOR CALCULATION OF INCOME ELASTICITY Value of YED:
Between 0 and 1
Type of Product:
Normal Good:
Necessity Value of YED:
Greater than 1
Type of Product:
Normal Good:
Luxury most important determinant of price elasticity
the greater the number/availability of substitutes for a product, the greater the PED
the appropriateness of a substitute is relative to the consumer
relatively price inelastic products: oil, private education, medicines 100% increase in box of matches: almost no effect
(5$-10$)
50% increase in price of car: massive impact
(5,000$-7,500$)
the greater the proportion of income, the higher the value of PED
upper-income consumers are less sensitive to changes in price "Parents with children in private education are unlikely to withdraw their offspring from school, partly because this could be disruptive to their learning."
"Drivers of motor vehicles are unlikely, at least in the short to medium term, to get rid of their motor vehicles simply because of fuel price increases."
However given time, they may seek alternatives
Hence: the shorter the time period, the less price elastic demand tends to be the more durable a product is, the greater its price elasticity of demand tends to be
i.e.
perishable products are easy/likely to be replaced
upgrading consumer durables can be postponed habit forming products (e.g. cigarettes), and highly fashionable products, tend to be relatively price inelastic
i.e. consumers will be less responsive to changes in price
the more fashionable the inelastic it is 'vital' products (e.g. fuels, foods) tend to be relatively price inelastic
on the other hand luxury goods and services tend to be relatively price inelastic
the more you need something the more price inelastic it is
confusing book example different segment groups:
luxury vs. necessities is relative to the consumer
Time
the luxuries of today are likely to be the necessities of tomorrow YED can be affected by: predict sales:
based on cycle of booms and slumps (trade cycle)
price inelastic products will achieve high sales in recession
price elastic products will be less prosperous
plan marketing strategies:
price discrimination to make the most of elastic demand YED can be used to: Giffen good
type of inferior good
violates the law of demand:
demand increases as the price increases Graphs Page 548: demand for inferior goods falls as income level rises

e.g.
why supermarket cola if you can suddenly afford to buy Coca-Cola
why ride the metro if you can afford a ferrari demand for normal goods rises as income level rises

relatively income elastic demand for normal goods rises as income level rises

income elastic
demand will be highly responsive to changes in income Substitutes (positive CED Value):
are products in competitive demand
e.g. Coca-Cola vs. Pepsi
i.e. the demand for both products is similar, but will vary according to their respective prices
If the price of Pepsi goes down, the demand for Pepsi is likely to increase while the the demand for Coca-Cola will likely decrease as a result
implications to this argument
fall in price of A leads to fall in demand of B
Complements (negative CED):
are products in joint demand
e.g. PlayStation Console vs. Fifa13 Game
A fall in the price of a PS3 Console is likely to lead to an increase in the demand for PS3 CDs
fall in price of A leads to rise in demand of B CED = 0 when there is no relationship e.g. between the price of apples and helicopters (because they are neither substitutes nor complements) USE OF CED devising appropriate pricing strategies
forecasting impact on sales based on the rivals' change in price
businesses will seek to keep their CED low
probably by encouraging customer loyalty through branding
will allow it to charge higher prices AED Value of
Less than 0 Greater than 1 AED Value of
Between 0 and 1 ideal situation for businesses
suggests that customers are highly responsive to the changed spending on advertising
book calculation example
also indicates that high sales will compensate for any added advertising costs giving profits suggests that a rise in advertising expenditure would result in a fall in demand
the opposite: spending less on advertising could lead to more demand suggests that demand is not so responsive to changes in advertising expenditure Conclusion of the AED theory:

difficult to determine the exact cause of a change in demand
e.g. family branding
Marketers though generally believe that there is a positive correlation between advertising expenditure and the level of demand THANKS FOR LISTENING! minimum Price Elasticity: Changes in price have no effect no consumption levels
high Costs, High Prices
innovators will seek to buy the new limited number products, regardless of their prices R&D Growth demand will increase leading to higher production levels leading to economies of scale leading to lower prices
competitive 'me too' products will oblige business to lower prices to remain competitive
The value of PED will rise slightly: people will become slightly more responsive to price changes Launch available substitutes will raise the PED value
customers will be starting to pay attention to price differences
businesses will seek to keep the PED from rising too high, through branding/advertising, emphasis on customer loyalty, etc. Maturity high PED value
brand loyalty will play an important role
late adopters and laggards will come in who are prepared only to pay lower prices Saturation product will reach max PED
prices are continuously falling
customers will be extremely sensitive to prices Decline
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