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Measures of Elasticity of Demand for Price Setting

Question

Discuss which measure of the different types of elasticity of demand is most useful for a business when setting the price for its product.[12]

Category:

Elasticity

[CIE A level May June 2017]

Preview Answer


Step ➊ : Define ‘elasticity of demand’ in the introduction.


Elasticity of demand refers to the sensitivity of quantity demanded with respect to changes in another outside factor. Three types of elasticity of demand are price elasticity of demand, income elasticity of demand and cross elasticity of demand. In this essay, we will discuss the usefulness of each of these types of elasticity of demand and determine which is the most useful one for a business when setting the price for its product.


Step ➋ : Explain which measure of the different types of elasticity of demand can be used when setting the price for its product.


➤ 2.1 Price elasticity of demand is a useful tool for businessmen to make crucial decisions like deciding the price of goods and services.

Price elasticity of demand (PED) measures the change in demand as a result of a change in price The primary objective of any firm is to earn a profit or increase revenue. Different products exhibit different elasticities, which in turn has an influence on a firm's pricing decisions. Price elasticity of demand affects a business's ability to increase the price of a product. Elastic goods are more sensitive to increases in price, while inelastic goods are less sensitive.

A firm while fixing the price of the market has to determine whether its product is of elastic or inelastic nature. If the product is inelastic, the producer can earn profit by setting a high price. However, if the product is elastic, the producer must set low or at least a reasonable price so that the consumers are attracted to buy the goods.

For example, Fuel is the necessity for consumers. Therefore, firms who run the market of fuel can generate profit even by setting a high price for fuel.

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