8. Substitutes, complements, or unrelated? You work for a marketing firm that ha

Question

8. Substitutes, complements, or unrelated? You work for a marketing firm that has just landed a contract with Run-of-the-Mills to help them promote three of their products: splishy splashies, raskels, and cannies. All of these products have been on the market for some time, but, to entice better sales, Run-of-the-Mills wants to try a new advertisement that will market two of the products that consumers will likely consume together. As a former economics student, you know that complements are typically consumed together while substitutes can take the place of other goods. Run-of-the-Mills provides your marketing firm with the following data: When the price of splishy splashies decreases by 4%, the quantity of raskels sold decreases by 4% and the quantity of cannies sold increases by 3%. Your job is to use the cross-price elasticity between splishy splashies and the other goods to determine which goods your marketing firm should advertise together.

Complete the first column of the following table by computing the cross-price elasticity between splishy splashies and raskels, and then between splishy splashies and cannies. In the second column, determine if splishy splashies are a complement to or a substitute for each of the goods listed. Finally, complete the final column by indicating which good you should recommend marketing with splishy splashies. Relative to Splishy Splashies Cross-Price Elasticity of Demand Complement or Substitute Recommend Marketing with Splishy Splashies Raskels Cannies

Explanation / Answer

Let X = splishy splashies

Y = raskels AND Z = cannies

Here, Cross price elascticity = % change in qty demand for Y or Z / % change in price for good X

1. raskels with splishy splashies

CPEoD = (-4%) / (-4%) = 1

Here CPEoD is > 0 that implies these two goods are substitutes

2. Cannies with splashies

CPEoD = (-4%) / (-3%) = -1.33

Here, CPEoD is < 0 that implies these two goods are complements

Goods CPEoD complement/ substitute Recommendation Raskel 1 substitute No Cannies -1.33 Complement Yes

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