Saturday, April 24, 2010

Use of different types of elasticity of demand in price elasticity

Use of different types of elasticity of demand in price elasticity
The concept of elasticity of demand has theoretical and practical importance.The importance and use of three main types of elasticity of demand has been explained below:

pricing decisions
The concept of elasticity of demand is of considerable importance is pricing decisions or price determination.The use of this concept in pricing decision can be further subdivided into following:
  • Price of products:The knowledge of price elasticity makes it easier to decide whether price increase or decrease is desirable or net.For example,if demand is elastic,it is desirable to reduce price.On the other hand,if demand is inelastic to increase price.In case of commodities of utmost importance which have no substitutes.Price can be increase without reducing sales.But in case of luxuries or commodities having substitutes,price increase leads to low sales and profit is reduce.The firms in imperfect competition including will have to know the price elasticity of demand in determination of price.If the elasticity of demand for the product is inelastic,form can charge high price.If the demand is elastic the forms will have to loss the customers if the price is increased.The monopoly firm,thought have the power to fix the price of if product,has to consider elasticity while determining price.Because,the distant substitutes of his product may exist even if the close substitutes do not exist.
  • Pricing of factors of production :The concept of elasticity of demand is useful in the determination of price of factors of production."If the demand for factors of production are more inelastic,the producers are prepare to pay more price for these factors.Likewise,if the demand for the factors of production is more elastic,the producers are prepared to pay less price for the factors.For example,if the demand for labour in an industry is inelastic,the labour unions can easily increase wages.But if demand is elastic,the wages cannot be raised too much.
  • Pricing of joint products:Some goods are products jointly due to some reasons such as meat and wool production in sheep farming or sugar and wine production in a sugar industry.It is difficult separate the cost of production of these two goods.This make it difficult to determine the price on the basis of cost.In such a situation,the price is determined on the basis of the elasticity of demand of these two products. In other words,high price is set up for the good having inelastic demand and low price for the good having elastic demand.

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