Sticky price theory suggests that firms may be less likely to adjust their product prices in response to changes in market conditions or competition. The presumption is that, by adjusting the price of a product, a firm is creating a negative signal to the consumer; this may then have a long-lasting effect on future demand.
A sticky price currency analysis examines the relationship between exchange rates and products being sold in different currency markets. This type of analysis is particularly useful when projected foreign exchange rate changes are expected to have a significant impact on a companys ability to remain competitive.
The purpose of a sticky price currency analysis is to gain a better understanding of how prices are determined and to evaluate the impact of exchange rate movements on price and demand. The analysis is conducted by having a look at the cost and sales price of a product in different currencies, before and after any changes made to foreign exchange rates.
From this information the analyst can extrapolate how prices of a product would be affected by various scenarios and levels of exchange rate changes. This helps firms to make more informed decisions on what pricing strategies to adopt in different foreign markets.
The sticky price currency analysis also helps a company to identify price elasticity of products sold in foreign markets. This is done by calculating the percentage change in quantity of a product that would be required for a given percentage change in price. For example – a 5% price decrease in a product denominated in the US dollars would require a 2% quantity increase, if the demand is price elastic. This can be an indication of how much consumers are willing and able to pay, and if they will respond to price reductions.
The sticky price currency analysis can also be used to calculate how much of a given currency a company must hold in order to cover its sales in foreign currency markets. This is important when there is no effective hedging solution available, and an understanding of how foreign exchange fluctuations will affect a business’s ability to remain competitive.
In conclusion, the sticky price currency analysis is a useful tool that can help firms to make more informed decisions regarding pricing and demand in different foreign markets. It can help identify the level of price elasticity of a product and will allow a company to create pricing strategies that will remain competitive, even when facing increasing exchange rate risks. Furthermore, the analysis can help a company to manage its foreign currency exposure in order to minimize the risk associated with exchange rate fluctuations.
