Price Elasticity Flashcards
what is price elasticity?
A measure of the effect of a price change or a change in the quantity supplied on the demand for a product or service.
what effects price elasticity?
Price
One factor that can affect demand elasticity of a good or service is its price level. For example, the change in the price level for a luxury car can cause a substantial change in the quantity demanded.. If the luxury car maker has a surplus of cars, it may decrease prices to increase the quantity demanded, and therefore reduce inventory and increase the company’s total revenue.
Substitute Availability If there is a readily available substitute for a good or service, the substitute affects the elasticity of demand of that good or service. The availability of a substitute makes demand for a good or service sensitive to price changes. For example, suppose the price level of Florida oranges increases due to a cold front that passes through the state. A close substitute for Florida oranges is California oranges. A rise in the price of Florida oranges encourages consumers to buy California oranges. This links to competitors of your business
Another things that influences the price elasticity of your product is how differentiated your product is to your competitors as this will mean that there isn’t any or very little products like yours so the price of the product wouldn’t effect demand much/at all so make it inelastic .
loyalty of a customer also effects it
what is income elasticity?
The amount that demand is affected by consumer income.
calculated using:
YED=change in demand/change in household income
Income elasticity of demand refers to the sensitivity of the quantity demanded for a certain good to a change in real income of consumers who buy this good, keeping all other things constant. The formula for calculating income elasticity of demand is the percent change in quantity demanded divided by the percent change in income. With income elasticity of demand, you can tell if a particular good represents a necessity or a luxury.
what effects income elasticity?
Depending on the values of the income elasticity of demand, goods can be broadly categorized as inferior goods and normal goods. Normal goods have a positive income elasticity of demand; as incomes rise, more goods are demanded at each price level. Inferior goods have a negative income elasticity of demand; as consumers’ income rises, they buy fewer inferior goods. Whether it is inferior or normal can effect whether the product has positive or negative income elasticity. (examples of normal goods would be chocolate, or and necessity goods examples of inferior goods would product people trade up” to higher priced goods)
Another factor that effects the income elasticity is the state of the economy, whether there is higher inflation, the pound losing value, unemployment, higher interest rates, a recession. All these things can effect the income of a customer so will effect the income elasticity
difference between luxury goods necessity goods
necessity goods- YED<1 change in income doesn’t effect demand (much)
luxury goods- YED>1 increased income leads to higher increase in demand E.g. sports cars, luxury holidays
how do competitors effect price elasticity?
If there are lots of competitors then there are a lot of replacements for you products making you product very price elastic as if you up the price then the consumer will easily and quickly replace your product with the cheaper competitors products. This is obviously not good for the Business. This also works if you lower your price you can greatly increase sales which as very good for the business. so the best way to increase profit in a highly competitive market where the products are very similar would be to lower your costs so you can charge less.
Benefits of a business working out their price elasticity
Since profit is equal to total revenue minus total costs, profit will increase as price is increased when demand for a product is inelastic. It is important for managers to understand the price elasticity of their products and services in order to set prices appropriately to maximize firm profits and revenues. It also lets them plan out their finances which is very useful for the business becoming more organised and work more effectively (budgeting) which will also help maximise revenue and profit.
