Question

why are relative prices extremely important to the business manager

Answer 1

Through relative prices business managers try to find the price elasticity of demand which is

a measure of change in quantity demanded of a product relative to a variation in its price. If the demand is inelastic, an increase in price results in increased revenue for the firm. If the price rise results in decreased revenue, the demand is elastic.

Knowing the relative price, a manager can decide on an optimum price level of their product to reach their revenue targets. Relative price information can help them decide how much price reduction is necessary to increase revenue to a certain target, or what level of price increase will be optimal (since extra revenue from a price increase may be wiped out by decreased demand if the competitive firms has low price ).

The knowledge of relative price also helps managers in devising their marketing strategies and targeting niche segments. An example is rich individuals whose demand for luxury is inelastic and hence car company advertise luxury cars and try to differentiate their products for them. On the other hand, for middle class people have an elastic demand and hence are targeted for Budget cars which is price sensitive segment.