Determinants of Price Elasticity of Demand

Determinants of Price Elasticity of Demand - Determinants...

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Determinants of Price Elasticity of Demand Why consumers are more sensitive, in terms of changing quantity demanded, to the same percentage change in price of airlines travel than to changes in price of gasoline. We must look at the determinants of the price elasticity demand. Four determinants are particularly important. Necessities Vs. Luxuries: Necessities are goods to which we have a strong taste to have (e.g.; tooth paste, shaving cream, salt … etc). Demand for necessities is relatively price inelastic. Luxuries: are the goods we like to have , but can get by without them. Ex: vacation travel, new cars. The demand for luxuries is relatively price elastic. Availability of substitutes: The greater the availability of substitutes for a certain good, the more price elastic is the demand (compare Pepsi and gasoline). Relative price of a good to consumer income: The greater the ratio (price/income), the more elastic the demand is. The ratio is high for vacation travel and for new cars but low for salt. Total revenue of a seller = Price*quantity sold. TR = ↑ P * Q↓ (an ambiguous effect on total revenue because D has a negative slope). If price increases, total quantity sold decreases because the demand has a negative slope. What will happen to the demand curve? Will revenues increase or decrease? The change in total revenue depends on the E D P . P ($/Pack) Q D (Packs) TR = P* Q ($) E D P P and TR 1 100 100 - - 2 90 180 Low (inelastic = -0.16) ↑P and TR↑ 3 70 210 Low ( inelastic = -0.63) ↑P and TR↑ 4 50 200 High (elastic = -1.17)
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This note was uploaded on 01/12/2012 for the course ECON 201 taught by Professor Joyce during the Fall '07 term at Drexel.

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Determinants of Price Elasticity of Demand - Determinants...

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