Tesco is trying to increase its market share against rivals Asda and Sainsbury’s. By reducing its prices on basic goods it is more likely to get a higher footfall, we would also expect the increase in quantity demanded to offset the money lost due to lowering the prices. This means we would expect the Total Revenue to drop slightly but not by much.

With more people visiting stores to buy these cheap goods they would also see other goods in store such as the electrical and technological goods which they are more likely to buy, again this would offset the money Tesco would loose from reducing their profit margin.

One reason why people would be interested in the price drop is because incomes are being squeezed at the moment. A lot of people are out of work (there is high unemployment) which means people have to live on a reduced budget, and so will shop around for bargains. Therefore the YED formula tells us that people would be more likely to buy inferior goods, which take up a lesser percentage of a consumer’s budget. Because people’s consumer income has been reduced (people that are in work have seen their wages fall).

From the XED formula, Tesco could increase the prices of some goods but not its substitutes. Therefore it would see an increase in QD of goods that have had their price reduced as well as its substitutes. So they would make up the money they lose on reducing prices on the products substitutes.

If they reduce the prices on elastic goods, then they would see a massive rise in demand. This is because these products are highly responsive to price changes. This might be because people buy a lot of them, it takes up a large proportion of the consumer budget, or there are a lot of substitutes. It is unlikely that Tesco will reduce the price on inelastic goods such as cigarettes, as people would be willing to buy them at any price. They might even increase the prices on inelastic goods, to recoup the money they lose on price reduction. Because they are inelastic customers won’t react to the price change and will continue to buy it, in the example of cigarettes this is because they are addicted to it and so would be willing to buy it even if there was a price increase.