8. Kodak currently sells its camera at $90 and sells 200 cameras per month. A cl

Question

8. Kodak currently sells its camera at $90 and sells 200 cameras per month. A close competitor, Olympic, has cut the price of a similar camera it makes from $100 to $80. Suppose the cross elasticity of demand between the two cameras is 0.4. (a) What impact, if any, will the action by Olympic have on total revenue generated by Kodak, if Kodak leaves its current price unchanged? (Round your answer). (b) Now suppose that Kodak decided to sell the same quantity as it used to sell at $90. What would be the new price if price elasticity of demand between $90 and the new price is -2? (Round your answer). (c) Is the new price better for Kodak if its goal is to increase revenue? What if it wants to increase profits?

Explanation / Answer

A) Note that cross price elasticity here would imply

ed = % change in Qd by Kodak / % change in price by Olympic

0.4 = % change in Qd by Kodak / (80 - 100)*100/100

-0.4*20% = % change in Qd by Kodak = -8%

This gives new quantity of Kodak to be 200 - 8% * 200 = 184 cameras. Its revenue falls from 90*200 = 18000 to 90*184 = 16560. Hence revenues are lost when rivals undercut

b) ed now is -2. This is interpreted as

ed = % change in Qd by Kodak / % change in price by Kodak

-2 = (200 - 184)*100/184 / % change in price by Kodak

-2 = 8.96%/% change in price by Kodak

% change in price by Kodak = -4.348%

Hence prices should be reduced by -4.348% to become $86.09

c) New price gives its a revenue $86.09*200 = 17218. Yes the price reduction strategy has increased the revenues from part a). To increase profits it would have to compare marginal revenue and find a sales output at which MR = MC.

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