Final answer:
Raising prices in response to a lease increase is not advisable without understanding the price elasticity of demand. If the restaurant's customers are price sensitive, as is the case with elastic demand, they may choose to dine elsewhere, leading to reduced sales. The owner should evaluate other cost-saving measures and the restaurant's market positioning before altering prices.
Step-by-step explanation:
The decision to raise prices in response to increased costs is a complex one that should take into account the price elasticity of demand for the restaurant's food. In the scenario provided, the owner of an Italian restaurant is considering raising her menu prices by 20% to offset a 20% increase in her monthly rent. However, if the demand for her food is elastic, as the example with Pete's Pizza suggests, this could lead to a significant decrease in customers, as they may find alternative dining options that are more affordable. If an increase in the price of a good causes a substantial decrease in the quantity demanded, that good is said to have elastic demand.
The example of rent control also illustrates how changes in demand can affect market outcomes. Just as an increase in income or a change in tastes can lead to increased demand and higher prices in the housing market, similar factors can influence the demand for restaurant meals. If the restaurant enjoys a unique appeal that leads to relatively inelastic demand, a price increase may be absorbed by customers without a large decrease in the quantity demanded.
Before making a decision, the owner should analyze her customer base, competitive positioning, and the potential for cost adjustments elsewhere in her business. It may be beneficial to consider strategies such as portion control, reducing waste, or negotiating with suppliers for better rates as alternatives to raising prices. Most importantly, the owner should avoid making a decision based solely on the change in one cost component and should instead consider the overall financial health and competitive strategy of her restaurant.