Price Elasticity of Demand
Explain why the demand for the good or service provided by a firm is elastic or inelastic.
The demand for a good or service provided by a firm is elastic or inelastic because of various factors such as: the nature of product and the availability of substitutes. A product which is a necessity has elastic price demand while luxuries have inelastic price demand (Welch & Welch, 2016). The concept of demand elasticity applies to products with close substitutes while that of inelastic demand applies to products without substitutes.
How does elastic or inelastic demand influence pricing decisions by the firm to maximize profits?
Pricing decisions of firms are heavily influenced by the concept of elasticity or inelasticity of demand since the elasticity or inelasticity of land determines how ready and willing consumers will react to any price fluctuations.
What are the impacts of elastic demand and inelastic demand on total revenue?
The elasticity or inelasticity of demand has a large impact on the total revenue of firms. Total revenues received from a price increase of products with elastic demand will greatly reduce while the total revenues received from a price decrease of these products will greatly increase. Total revenues received from increasing prices of products with inelastic demand will decrease by a small amount while the total revenues received from decreasing the price of these products will increase by a small amount.
Provide examples of how availability of close substitutes affects price elasticity of demand for a good or service.
Availability of substitutes plays an important role in determining the elasticity or inelasticity of demand for a product. Take the case of tea and coffee. When the price of tea increases, its demand decreases and consumers demand more coffee. When price of tea decreases however, its demand increases causing a decline in coffee demand. Another example of substitutes is butter and margarine. From these examples, it is evident that products with substitutes will have elastic demand.
Give specific examples of necessities or luxuries and explain how they affect price elasticity of goods and services.
Necessities and luxuries affect price elasticity of products in various ways. For instance, an increase in prices of necessities such as flour and bread causes a smaller decrease in their demand while a small price decrease causes a small demand increase (Mankiw, 2020). A small increase in the prices of luxuries such as televisions and computers causes a large decrease in their demand while a small price decrease causes a large demand increase.
References
Mankiw, N. G. (2020). Principles of economics. Cengage Learning.
Welch, P. J., & Welch, G. F. (2016). Economics: Theory and practice. John Wiley & S