What is the relationship between advertising and elasticity of demand?

Advertising elasticity of demand

Advertising elasticity of demand is a measure of how much advertising expenditure affects the demand for a good or service.

Advertising elasticity of demand (AED) is a useful measure of advertising effectiveness. It measures the percentage change in demand for the product or service compared to the percentage change in the level of advertising expenditure.

Formula:

The value that is derived as a result for the advertising elasticity will vary from zero to infinity. As before, the now familiar descriptions are used:

If the value for AED that is calculated is below one, then the product is said to be inelastic in response to advertising expenditure. This means that an increase in advertising expenditure of, say 20%, has led to a growth in demand for the product of less than 20%. The lower the value of the AED, the less effective advertising expenditure has been at boosting demand.

A value of greater than 1 indicates that the demand for the product is highly responsive to changes in advertising expenditure. This means that an increase in advertising expenditure will generate a greater increase in demand for the product.

Limitations of the AED value

However, while the AED value may be very useful, a simple numerical interpretation of the value may not be entirely appropriate for a number of reasons. These might include:

• The purpose of a lot of advertising may not be to directly boost demand, but to help with building a brand image or brand loyalty - the AED value cannot show the effectiveness of this strategy
• If dealing with a family of brands, it may be difficult to isolate the effect of the advertising spending on a single product or service and this may distort the apparent effectiveness of the expenditure
• It may be difficult to isolate the impact of advertising expenditure to a specific time period - some campaigns are ongoing over a considerable period and other factors may also influence demand over an extended period

As in all things economics, the assumption of ceteris paribus applies - that is, all else remains equal. In other words the assumption is that demand can only be affected by one variable at a time. In reality, of course, demand may be affected by price, income and adverting all at the same time, and consequently it may prove difficult to isolate the exact variables affecting demand and the strength of each variable.

From WikiEducator

Promotional / Advertising Elasticity of Demand

Introduction

In today’s competitive, globalized world, promotions of products and services have become very important. We wonder how much do companies spend on such aggressive marketing and whether it is worth it. Do they get returns on such advertising expenditure?

To understand this, the concept of advertising elasticitywhich is also known as promotional elasticity of demand is useful. This concept was popularized by a noted Economist – John Hicks.

	Learning Objectives
After reading this chapter, you are expected to learn about: 1.Comprehend the concept of promotional elasticity of demand. 2.Calculate the coefficient of advertising elasticity of demand. 3.Learn the applicability of this concept in decision making of firms.

Meaning of Promotional Elasticity of Demand or Advertisng Elasticity Of Demand

AED measures degree of change in demand brought about by change in advertising expenditure.

Definition: Proportionate change in demand brought about by a unit change in advertising expenditure.

AED can be expressed as

AED = ( Δ Dx)/( Δ AE) x AE/Dx

Where Dx = Original (initial) Demand for commodity x ΔDx = Change in demand for x AE = Original Advertising Expenditure Δ AE = change in Advertising Expenditure It can also be expressed as

AED = (% change in Dx)/(% change in AE)

Relatively Elastic Demand

If AED > 1, it is relatively elastic demand. It means that demand is more sensitive to the advertising expenditure and proportionately giving more than proportionate increase in demand.

Promotional expenditure is exerting more than proportionate effect on demand e.g. When this soft drink company ‘ Cool ‘ has raised its promotional expenditure by 25%, demand may rise by 50%

AED = % change in Dx% change in AE

= 50 %25 % = 2

AED = 2 (> 1, Relatively Elastic Demand)

Relatively Inelastic Demand If AED < 1, it is relatively inelastic demand.

It means that change in advertising expenditure brings about less than proportionate change in demand. E.g. when this soft drink company ‘Cool’ spends 25% additional expenditure on promoting its new product, demand rises only by 5%

AED = % change in Dx% change in AE = 5 %25 % = 0.2

AED = 2 (< 1, Relatively Inelastic Demand)

Perfectly Inelastic Demand If AED = 0 it is Perfectly Inelastic demand.

It means that increase in advertising expenditure has no effect at all on demand e.g. When the company ‘ Cool ‘ spends 25% additional expenditure on advertising, its new product demand remains rigid or constant. In such a case, advertising strategy is ineffective.

AED = % change in Dx% change in AE = 0 %25 % = 0

AED = 0 (Perfectly Inelastic Demand)

Factors Influencing AED

1.Type of product i.e. whether the product is already existing or new product 2.Brand name. 3.Number of competitors and substitutes in the market. 4.Strategies of competitors 5.Frequency of advertisements. 6.Mode of advertisements. 7.Time of advertisements.

8.Other factors influencing demand like tastes, professions, income etc.

Applications / Uses of AED

1.Helps in evaluating success of adverting campaign. 2.Helps the firms in deciding advertising expenditure or budget. 3.Helps in choosing more effective media for promotion. 4.Helps in withdrawing ineffective promotional campaigns. 5.Helps in strategic management to respond to competitor’s promotional policies. 6.Helps in building brands.

Limitations of AED

1.Value of AED does not help in analyzing effect of advertising a single product. 2.Difficult to analyze the effectiveness of promotional strategies at a particular period of time, especially when the campaigns are over a long period of time 3.The Purpose of campaigns may be to create brands, rather than only influencing size of demand. 4AED does not take into account effect of other factors influencing demand.

Values of Advertising Elasticity of Demand and their significance

Numerical Values of Advertising Elasticity of Demand will vary from zero to infinity.It would mean that if AED is zero,advertisng expenditure has no effect on demand at all.

Unit Elastic Demand

If AED = 1, it is unit elastic demand.

It would mean that advertising expenditure is giving just exactly proportionate returns in terms of demand e.g. This means that if a soft drink company has increased its advertising expenditure by 25%, the demand will also rise exactly by 25%.

AED = (% change in Dx)/(% change in AE) = (25 %)/(25 %) = 1

AED = 1 (Unit Elastic Demand) }}

Quiz on the Topic

Activity

1. Observe different advertisements on TV. 2. Listen to advertisements on radio. 3. Try to recollect an effective advertisement in the newspaper or magazine. 4. Collect information about cost of advertising campaign and its returns in terms of demand or revenue. E.g. • Cost of changing Airtel logo and increase in sales after it. • A soft drink company sponsoring the college festival and increase in sales of that soft drink in the college canteen. • Cost of inviting a brand ambassador for the event. • Number of times (frequency) and the time interval if advertising on TV. (For sports items during international cricket matches). • Brands / Products associated and marketed in the films. • Promotional expenditure of popular films and revenue earned. • Expenditure increased by the youth channel on the talk shows and increase in TRP. • Expenditure on commercial hoardings in public places. • Expenditure increased by the popular newspapers on events/competitions and increase.

Self-Assessment Questions (SAQs)

1.Promotional elasticity of demand measures the sensitivity of income to changes in advertising expenditures 2.Unit Advertising elasticity of Demand brings more than proportionate change in demand in response to advertising expenditure 3.When AED >1; 1, the advertising campaign is effective 4.If AED < 1, the campaign is not successfully utilizing its promotional expenditure. 5. AED does not give us precise effect of advertisements on sales of the specific product at the specific time. Calculate AED for the following situation The ‘Big Style company selling T shirts increased its advertising expenditure from Rs 5 Lakhs to Rs 10 Lakhs per annum. Sales of shirts increased from 20 Lakhs shirts per annum to 30 Lakhs shirts annum. 1. Comment on the effectiveness of the advertising situation of the above company. 2. Could there have been any other factors besides advertising influencing demand for shirts? List such other factors.

Lets Sum Up

● AED is the degree of responsiveness of demand to changes in advertising expenditure or promotional expenditure. ● Value of AED ranges between zero and infinity ● AED = % change in Dx% change in AΔ Value of AED Type of elasticity Effectiveness of Advertising campaign 1 Unit Neutral >1 Relatively Elastic Effective Advertising <1 Relatively Inelastic Ineffective Advertising =0 Perfectly Inelastic No effect on demand or sales ● D depends not only on promotions but also on other factors which are assumed to remain constant

	Key Terms
● AED ● Relatively Elastic AED ● Relatively Inelastic AED ● Unit Elastic AED ● Perfectly Elastic AED ● Perfectly Inelastic AED

http://vle.south.du.ac.in//mod/quiz/index.php?id=320

Bibiliography

1. Dominick Salvatore, Principles of Microeconomics, Fifth Edition, Oxford International Student Edition. 2. Paul G Kent, Phillip K. Y. Young, Sreejata Banerjee, Managerial Economics – Economic Tools for Today’s Decision Makers, Fifth Edition, Pearson Education. 3. George E. Belch & Micheal A. Belch, Advertising and Promotion- An Integrated Marketing Communications Perspective, Sixth Edition, Tata McGraw Hill.

	Further Reading
● Kenneth E. Clow, Donald E. Baack, Integrated Advertising Promotion and Marketing Communications Third Edition, Pearson Education. ● Kanugi Sreenath (Edited) Advertising Trends and Cases ICFAI University.