Question

When lettuce prices doubled, from about \(\$ 1.50\) per head to about \(\$ 3.00,\) the reaction of one consumer was quoted in a newspaper article: "I will not buy [lettuce] when it's \(\$ 3\) a head," she said, adding that other green vegetables can fill in for lettuce. "If bread were \(\$ 5\) a loaf we'd still have to buy it. But lettuce is not that important in our family." a. For this consumer's household, which product has the higher price elasticity of demand: bread or lettuce? Briefly explain. b. Is the cross-price elasticity of demand between lettuce and other green vegetables positive or negative for this consumer? Briefly explain.

Short answer

a. The price elasticity of demand is higher for lettuce as the consumer would stop buying it upon a significant price increase compared to bread, which they would continue buying regardless of its price going up. This indicates that the demand for lettuce is elastic, while the demand for bread is inelastic. b. The cross-price elasticity of demand between lettuce and other green vegetables for this consumer is positive since the consumer substitutes lettuce with other green vegetables when the price of lettuce increases.

Step-by-step solution

Identify the consumer's response to price changes

According to the consumer's quote, if the price of lettuce doubles, she would stop buying it and substitute it with other green vegetables. Meanwhile, if the price of bread increases significantly, she stated that her family would still buy it.

Determine the price elasticity of demand for bread and lettuce

The price elasticity of demand is determined by how much the quantity demanded changes with respect to the change in price. When the price of lettuce doubles and the consumer decides not to buy it anymore, it shows a high price elasticity of demand. This means the demand for lettuce is elastic. However, for bread, the consumer stated that they'd still buy it even if its price increases significantly, indicating that the quantity demanded of bread doesn't change much with a change in its price, showing a low price elasticity or inelastic demand.

Determine the cross-price elasticity of demand between lettuce and other green vegetables

When the price of lettuce increases, according to the consumer's statement, she would increase the purchase of other green vegetables. This implies a positive cross-price elasticity of demand between lettuce and other green vegetables, meaning that the consumer views these products as substitutes. If the products were complements, an increase in price of one would decrease the quantity demanded of the other, resulting in a negative cross-price elasticity of demand.

Key concepts

Cross-Price Elasticity of Demand

Understanding cross-price elasticity of demand is crucial when analyzing the market for two different products that are related in some way. It measures the responsiveness of demand for one good in response to a price change of another good. A positive cross-price elasticity of demand indicates that the two goods are substitutes. When the price of one good goes up, consumers will buy more of the other good, as seen in the case of lettuce and other green vegetables from our textbook example. If, however, the cross-price elasticity of demand had been negative, it would suggest that the two products are complements, meaning that if the price of one increases, demand for the other decreases.

Imagine a scenario where the price of tea increases. If people start buying more coffee as a result, the cross-price elasticity of demand between tea and coffee is positive, revealing that they serve as substitutes for one another. For students grappling with exercises that involve cross-price elasticity, keep in mind that substitute goods have a positive correlation, while complementary goods have a negative one.

Inelastic Demand

Now, let's delve into the concept of inelastic demand. When a product exhibits inelastic demand, its quantity demanded does not significantly change with price fluctuations. This generally indicates that the good is a necessity or lacks close substitutes. Our textbook case reflected this with bread: even with a price hike, the consumer would continue to purchase bread. This resistance to price changes makes the demand for bread inelastic.

In real life, goods such as gasoline, medication, or electricity often have inelastic demand. No matter the price, consumers still need these products, hence the lesser sensitivity to price changes. For students, remember that goods with inelastic demand will have a price elasticity coefficient less than 1 in absolute value, symbolizing that percentage changes in quantity demanded are smaller than percentage changes in price.

Substitute Goods

Substitute goods play a pivotal role in consumer choice and competition in markets. They are products or services that can be used in place of each other, as their functions or utilities are similar enough to be interchangeable in the eyes of consumers. The textbook example of lettuce being replaced by other green vegetables perfectly exemplifies substitute goods. The presence of substitutes gives consumers options and influences market dynamics.

Such considerations are important when assessing the potential impact of business decisions or economic policies. For example, if a tax is introduced on sugary drinks, consumers might switch to less taxed sugar-free beverages. Businesses, therefore, must understand substitute relationships to make informed pricing, marketing, and production decisions. In classrooms and homework exercises, focus on identifying whether products can serve similar needs or wants and consider the conditions under which one product might be preferred over another.