Using Ads for Loss Leaders to Introduce Cross Elasticity of Demand

At the start of each school term, office supply stores tend to offer fantastic deals on school supplies. The following ad is a great example to show.

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Show this ad after you discuss how elasticity affects total revenue, and then ask "If school supplies are an inelastic good, why would stores discount them instead of raise prices to maximize total revenue?"

This is a good way to introduce the idea that office supply stores use these ads to draw customers into the store. Indeed, some customers will buy only the school supplies on sale, which would result in a loss for the store. But as long as one out of every 5 or 10 customers who comes in buys a printer, office chair, or other higher priced item, the store would more than make up for the loss leader. I then use this example to calculate the cross-elasticity of demand for substitutes and complements.

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Good example. It works for businesses when they are able to acquire large quantities of the good at low cost. This will depend on the location and number of stores in a region.

Thanks! I also like to show pictures of storefront signs, such as gas stations offering free fountain drinks or coffee to get customers into the store. In fact, I also use this example in class to calculate cross elasticity. I show a sign that says "50% off 2-Liter Bottles of Coke", and then have students calculate cross elasticity of demand between Coke and the following goods: Pepsi bottles, candy bars, and toilet paper (which I just make up numbers for the quantity changes). This helps to illustrate substitutes, complements, and goods without any strong relationship.

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‎12-16-2015 03:54 PM
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