You own a small bookstore. You have hired a marketing firm to calculate your own price elasticity of demand and your advertising elasticity of demand. The firm has provided you with the relevant numbers regardless of minor adjustments in price or advertising budget. Your own price elasticity of demand is around -1.7, and your advertising elasticity of demand is around 0.05. What should your approximate advertising-to-sales ratio be?
A) $\frac{1}{2}$ of 1 percent.
B) 1 percent.
C) 3 percent.
D) 34 percent.

Question

Quizplus · Accepted Answer

The advertising elasticity of demand measures the responsiveness of sales to changes in advertising. A value of 0.05 means that for every 1% increase in advertising spending, sales will increase by 0.05%.

To determine the optimal advertising-to-sales ratio, we need to consider the price elasticity of demand. A value of -1.7 means that for every 1% increase in price, sales will go down by 1.7%. We want to find the advertising-to-sales ratio that will offset this reduction in sales due to price increases.

If we assume that the store has a profit margin of 10%, then a 1% increase in advertising spending would lead to a 0.055% increase in profits (0.05% * 110%), while a 1% increase in price would lead to a 1.7% decrease in profits.

To offset the profit loss from a price increase, we need to find the advertising-to-sales ratio that would generate a 1.7% increase in sales for every 1% increase in price. Using the advertising elasticity value of 0.05, we can calculate that the advertising-to-sales ratio should be approximately 3%.

Therefore, the best choice is C) 3 percent.

You Own a Small Bookstore 12\frac{1}{2}21​ Of 1 Percent

You Own a Small Bookstore $\frac{1}{2}$ Of 1 Percent