Explain why the demand for the good or service provided by a firm is elastic or

Question

Explain why the demand for the good or service provided by a firm is elastic or inelastic. How does the elastic or inelastic demand influence pricing decisions by the firm to maximize profit? What are the impacts of elastic demand and inelastic demand on total revenue?

Provide examples on how the availability of close substitutes affects price elasticity of demand for a good or service.

Give specific examples of necessities or luxuries, and explain how they affect price elasticity of goods or services.

Explanation / Answer

1. Demand of a good or dservice provided by a firm become elastic or inelastic depending on the price of that particular good or service.A product's demand is said to be elastic if, when the price goes up, revenues go down. If the price goes up and revenues go up, then demand is inelastic. When the price is low the demand will rise, however if the price rises demand falls and the demand becomes elastic. But in case of inelastic demand people will continue byuing the product no matter how much the price changes.

2. If firm knows the demand elasticy of its product they will ablle to know if to rise prices or to lower it to maximize their profit.

For example, the type of needs satisfied by the product can influence the demand. If the product is of first necessity,the demand is inelastic, the product being bought, whatever the price. In return, if the product is luxury, the demand will be elastic, and if the price will increase slightly, more consumers would be able not to purchase it anymore.

Also, if there are substitute products on market, their demand will be very elastic. For example, a small increase in price of olive oil can cause to a large number of women to decide to use sunflower oil, instead of olive oil.

Another factor that may influence the elasticity of demand is asset's importance, in terms of cost. If the expenditure on that asset requires a very small percentage of their income, their demand will be inelastic. For example,the pencil. Variations in it's price influence very little the consumer decision of buying it.

3. Price elasticity of demand and total revenue are closely interrelated because they deal with the same two variables, P and Q. If a product has elastic demand, the revenue can be increased by decreasing the price of that good. P will decrease, but Q will increase at a greater rate, thus increasing total revenue. If the product is inelastic, then a firm can actually raise prices, sell slightly less of that item but make higher revenue.

4. Availability of close substitues afeects prise elasticty of a goo dor service, because the consumer is now able to get the same satisfaction in lower price. example given:-

If the price of beef rises dramatically, demand will increase for chicken and pork and the quantity of beef demanded will fall.
If the price of Coca-Cola increased, the demand for Pepsi-Cola would increase and the quantity of Coke demanded would fall.

5. If the price of gas is increased we cannont cutoff the usage or we cannont move to any other choice, so our demand remains same. THis is a type of perfectly inelastic demand is gas is of outmost necessity, we cannot chane our demand no matter what is the price maybe.

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