Question

9. Determinants of the price elasticity of demand 

• Consider some determinants of the price elasticity of demand: 

• The availability of close substitutes 

• Whether the good is a necessity or a luxury 

• How broadly you define the market . 

• The time horizon being considered 

A good with many close substitutes is likely to have relatively _______  demand, since consumers can easily choose to purchase one of the close substitutes if the price of the good rises. 

A good's price elasticity of demand depends in part on how necessary it is relative to other goods. If the following goods are priced approximately the same, which one has the most elastic demand? 

• Sports car 

• A heart valve for heart attack victims 

The price elasticity of demand for a good also depends on how you define the good. 

Organize the goods found in the following table by indicating which is likely to have the most elastic demand, which is likely to have the least elastic demand, and which will have demand that falls in between. 

The price elasticity of demand is also affected by the given time horizon. 

Compared to the short-run demand for oil, the demand for oil in the long run will tend to be _______ elastic.

Answer 1

1. When the price increases, quantity change will be more in the case of a good which has many close substitutes..

A good with many close substitutes is likely to have relatively more elastic demand, since consumers can easily choose to purchase one of close substitutes if the price of good rises.

2. A heart valve for heart attack victim is a necessity. Given a choice between heart attack valve for heart attack victim and a sports car, consumer tends to prefer heart attack valve as decision cannot be postponed. Decision to buy a sport car can be postponed. Price does not matter much in such cases.

Demand for sports car will be the most price elastic.

3. Product which is broadly defined will tend to have less elastic demand compared to that of narrowly defined product. In this case, clothing is broadly defined. It is difficult to find substitute for clothing, but easier to find substitute for pant and more easier for boot cut jeans.

Pants – In between

Boot cut jeans- most elastic

Clothing-Least elastic

4. Normally, demand in the short is less elastic as consumers find it difficult to change their preferences and habits in short time.

In case of oil demand will not change much in short time, but people may switch to fuel efficient cars or public transportation in long run.

Compared to short run demand for oil, the demand for oil in long run will tend to be more elastic.

Answer 2