WHAT ARE RELATIVE PRICES? (WITH EXAMPLES) - ECONOMY - 2024

The relative prices refer to costs with the goods or services in relation to others. That is, it is the relationship between two different prices. A relative price can be expressed in terms of the difference between the prices of either of two products, or the difference between the price of a good and the average of a basket of products available in the market.

The relative price is an opportunity cost. It is studied by microeconomics, which as a branch of economic theory, is defined as the study of the behavior of individual economic agents. These agents are divided into producers or companies, and consumers.

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Therefore, microeconomics is the study of how these economic agents react to changes in relative prices and how these relative prices are affected by the behavior of these producers.

In any market economy, relative prices act as signals about the surplus or shortage that may exist in each particular area, thus guiding the allocation of resources to make better use of them.

What is the relative price?

If it were said that a bag of potato chips cost $ 1.50, could it be said that that is a good price or not? Is the price too high or too low? Without other information at hand, you can't really answer those questions.

You would need to know the cost of other goods, the salary you earn, and even the price of other potato chips from different brands.

This is how relative prices work. They study the price of a product with respect to another good or another measure. In its most basic form, it is a ratio.

Example cases

For example, French fries cost $ 1.50, but if the wage earned is $ 3.00 per hour, then the relative price is 0.5, since half the salary would have to be spent on French fries.

Therefore, to obtain the relative price of a product, that price is divided by another. Another example can be used: the price of a regular coffee is $ 2.00.

On the other hand, the price of a double coffee with extra soy milk without foam is $ 6.00. The relative price for this case will have a ratio of: $ 6.00 / $ 2.00, or 3 to 1.

Every time this luxury drink is purchased, three regular coffees will be lost as an opportunity cost.

Inflation

Inflation often makes it difficult for economic agents to immediately distinguish increases in the price of a product caused by changes in relative prices due to cost inflation in general.

This situation can lead to an inefficient allocation, this being one of the negative effects of inflation.

International comparisons

Relative prices are important for making international comparisons. For example, it is known that in the early 1990s a typical salary in China for a factory worker was 200 to 300 yuan per month, working ten hours a day and with only two days off weekly.

That's a pretty rigid work schedule. Also, when it is discovered that that salary was equivalent to $ 25- $ 35, it seems that no person could survive on that income, much less a family.

However, the crucial issue is the price level in China. The dollar equivalent prices of food and other essentials are so low that 200 to 300 yuan provides an austere but acceptable standard of living for a family.

Japanese case

In contrast, the dollar equivalent of Japanese wages may seem high, but product costs in Japan are even higher. The price of rice is approximately six times the international price.

The price of a melon can be the equivalent of $ 50, and that of an apple $ 5. Therefore, the standard of living of Japanese consumers is significantly lower than one would expect based on the dollar equivalent of income. This leads to the saying "Japan: rich country, poor people."

Consumer's price index

Relative prices are often expressed in terms of the consumer price index.

A consumer price index is constructed by establishing what basket of market goods and services the average individual bought in some base year. This is usually done by means of a survey.

The cost of that market basket of goods and services is calculated using the prices of the base year and the prices of another, such as the current year.

The relationship between the cost in current year prices and the cost in base prices is the current period consumer price index relative to the base year.

The price index is generally expressed as a percentage, which means that the actual ratio is multiplied by 100. This means that if the cost ratio is 1.25, the index is reported as 125.

Both figures indicate that the average prices in the current year is 125% more than it was in the base year.

Examples

According to totally logical criteria, purchasing decisions will be made when considering the relative prices of the existing options. The following are illustrative examples.

Gasoline

If the price of gasoline is $ 0.25 per gallon and the wage rate is $ 1.00 per hour, then the relative price of gasoline is 0.25 hours of work per gallon.

If at another time the price of gasoline is $ 2.00 per gallon and the wage rate is $ 10.00 per hour, then the relative price of gasoline will be 0.2 hours of work per gallon.

Therefore, the relative price of gasoline will have decreased, even though the money price has increased from $ 0.25 to $ 2.00 per gallon.

If earnings were to increase in proportion to the wage rate, then consumers are expected to buy more gasoline at $ 2.00 per gallon than they buy at $ 0.25 per gallon.

The prices with a more important reference are relative. For this reason, these are sometimes called real prices.

products

In apple season, these fruits cost half the price of oranges. In contrast, in the season of the latter, oranges cost half the price of apples.

Services

A local carpenter with high qualifications and excellent recommendations costs 35% more than a carpenter with mediocre qualifications and who has also received some complaints. This price increase is justified by its reputation.

References

1. Wikipedia, the free encyclopedia (2019). Relative Price. Taken from: en.wikipedia.org.
2. John Spacey (2017). 4 Examples of Relative Price. Taken from: simplicable.com.
3. Study (2019). What is Relative Price? - Definition & Formula. Taken from: study.com.
4. Thayer Watkins (2019). Relative Prices. San José State University. Taken from: sjsu.edu.
5. The Library of Economics and Liberty (2019). Real, Relative, and Nominal Prices. Taken from: econlib.org.