Call Us: US - +1 845 478 5244 | UK - +44 20 7193 7850 | AUS - +61 2 8005 4826

The basics of supply and demand

In microeconomics, an interesting application of the price elasticity of demand is international price discrimination. For a number of goods, the domestic price charged for a good produced domestically is higher than the price charged in foreign markets. When markets can be separated (if reselling doesn’t occur due to such factors as information barriers or transportation costs) and markets are not competitive, firms can charge different prices in different markets for the same good.

In general, when the price elasticity of demand is lower, the price that can be charged will be higher because consumers do not significantly reduce their purchases when the price is increased. For many nations there is a home bias, in that domestic consumers, all else being equal, will prefer goods produced in their own market to those produced internationally. (The “buy American” sentiment is one example, as well as formal rules that require most U.S. states to buy locally even when foreign prices are cheaper.) This home bias means that the price elasticity of demand will be lower for a domestic good sold domestically than for the same domestic good sold in a foreign market. Thus, the price elasticity of demand for Ford trucks will be higher in Japan than in the U.S. The Ford Motor Company, consequently, can sell Ford trucks for a higher price in the U.S. than in Japan because of home bias (apart from transportation costs). The same analysis means that Japanese-produced goods will have a higher price in Japan than in the U.S