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The text talks about price elasticity. This is a pretty complex subject, but one that
is very important to understand when determining how to set, or adjust the price structure
of a product. Price elasticity, basically, measures how much total revenue changes when
a price is increased or decreased for a product. The higher the percentage of change for total
revenue, the more elastic the demand. For example, if the percentage of revenue received
from the sale of a product whose price has been decreased by 10% increases by more than
10%, then the price is considered elastic. If the revenue increased by less than 10%,
it would be considered inelastic. What causes this sensitivity? The sensitivity of such
pricing is based on several factors: First of all, there is the perceived availability
of substitutes in the market for the product. The greater the number of available substitutes,
the higher the elasticity of the pricing. In today's world, the existence of mobile
apps makes the discovery of substitutes for products we find in retail stores even more
likely than ever before. This has increased the price sensitivity for many products sold
in retail. Can marketing do anything to counter this? Well, we can use effective marketing
makes it seem like there are no, or few, substitutes for our products. This means adding value
in any way possible to differentiate our products from these perceived substitutes. The next
factor is the proportion of the bill paid by "purchaser". The higher the percentage
of the price paid by the purchaser, the greater the price elasticity. For instance, this graph
shows the approximate breakdown of how much of tuition is paid by students in the Cal
State system. As you can see, about 21% of the tuition is paid by students, on average.
At Mount St. Mary's College, where I also teach, a much lower percentage is paid by
the students on average. Thus, if both had a 10% tuition hike, more students in the Cal
State system would stop going to then school than would stop at Mount St. Mary's College.
In other words, the price elasticity in the Cal State system is much higher than in private
colleges. A little more obvious is the effect that the proportion of income can have on
price elasticity. The greater the proportion of a consumer's income, the greater the price
elasticity. This is why leases are so popular with auto dealers. Cars, obviously, make up
a large proportion of a consumer's income. By lowering the amount of the down payment
and the monthly charges, the consumer is more likely to make the purchase -- not knowing
the lease will probably cost them much more than purchasing the car outright! The significance
of the benefits obtained from the purchase of a product effects the price sensitivity
as well. The higher the perceived benefits from the purchase of a product, the lower
the price elasticity. Once again, effective marketing can decrease elasticity again, here
by making the benefits seem important to a potential customer. Finally, there are sunk
costs. This is a bit harder to understand. The higher the sunk costs associated with
the purchase of a product, the lower the price elasticity for products associated with that
product. Here is a good example: The cost of toner for a copier is inelastic since the
copier is a high sunk cost. So, the manufacturers of printers reduce the price of the copier
to get the initial sale and then make up the loss on the sale of the toner. Price sensitivity
for the toner is low since it is so much less than the price of the printer that uses it!