Question

Elasticity Analysis

Examine this list of consumer goods.

•          Salt
•          Beef
•          Vacation in Costa Rica
•          Truffles (a pungent mushroom like thing that looks more like a potato. It grows in the forest, especially in France, and is considered a culinary delicacy. Hunters of it use specially trained pigs or dogs. It is very rare, and therefore very expensive.)
•          Dodge Ram Pickup
•          Kraft Mayonnaise

Rank these items from most elastic to least elastic in terms of price elasticity of demand and explain your ranking. Things to think about:

          How would a 10% price increase for the good affect the consumer's total budget?

•          Are there any close substitutes for the good?
•          Is the good considered a luxury or a necessity item?

For each good, if the seller wanted to increase total revenue, would you advise him/her to increase price or decrease price, based upon your elasticity assessment above.

Answer 1

Price elasticity of demand is the degree of desire for something as price changes. For example if a price of a good reduces drastically then people will demand more of the good.

Most elastic:

Truffles: It is a luxury good and if there is a price reduction people will consume more and demand would increase as there are no close substitutes. But this can also be an example of a giffen good which are basically those goods for which demand increases if the price increases. As it is a luxury good, the more expensive it is, the more rich people will value it and consume. If it is considered as a normal good than the seller can reduce the price in order to increase total revenue, but if it takes the form of giffen good, then the seller will have to increase the price as rich people will value it more and consume more.

Vacation in Costa Rica: Cause if the price reduces, more and more consumers will demand it as there is no perfectly close substitute of the same place. And the good is a luxury which is why demand will increase if the price reduces. Or demand will reduce if the price increases a lot. The seller will have to reduce price in order to increase revenue.

Dodge Ram Pickup: If the price increases, less number of consumers will opt for it as it is closer to luxury and there are several other alternatives. The seller will have to reduce the price which is closer to alternatives in order to increase total revenue.

Kraft Mayonnaise: Even though it is a form of necessity there are other alternatives available which is why consumers will demand less if the price increases and will go for the other brand. The seller will have to reduce the price in order to seek more revenue.

Beef: It is a form of necessity in some countries, which is why it will be demand inelastic as price increases, cause there are no other close alternatives in the market. The seller can increase the prices in order to have more revenue as consumers have no other alternative.

Salt: It is a necessity and there are no other substitutes, unless one considers different brands, but over here just salt as a product is mentioned, thus consumers will buy it even though its price increases and the seller will earn more revenue if it increases the price of the product.