Types of Elasticity of Demand and Its Importance Essay

Types of Elasticity of Demand and Its Importance - Essay Example There are some factors which effect the elasticity of supply one of which is the ease availability of resources (Boyes et al, 2008). Cross Elasticity of Demand (XED) measures the responsiveness of quantity demanded of Good A with reference to price changes in Good B. Cross Elasticity is used to measure the degree of substitution between the two products i.e., how close the two goods are substitutes to each other. Again, if the Cross Elasticity Demand of Good A and B is elastic or of a greater value, the products would be close substitutes. A small change in the price of Good B would bring about greater changes in the demand for Good A and vice versa (Mushin, 2000). The formula for Calculating XED is: XED= % Change in Quantity Demanded of Good A (Boyes et al, 2008). % Change in Price of Good B XED= % Change in Quantity Demanded of Good A (Boyes et al, 2008). % Change in Price of Good B = [(1750 – 1500)/1500] * 100 [(?11 - ?10)/10] * 100 =16.6% 10% = 0.6 If Sunsilk and Pantene a re taken into consideration, if the Price of Pantene changes by 10%, the demand for Sunsilk would change by more than 10%. This would give a comparatively higher value of XED and hence it can be deduced that Sunsilk and Pantene are close substitutes (Boyes et al, 2008; Mushin, 2000). Income Elasticity of demand is used to measure the nature of the product. If the demand of a product falls when people ‘s income rise, the product would be called an inferior good. In contrast, if the demand of a product rises with people’s income, the product would be called a normal good and vice versa, if the demand of a product falls when people’s income decrease, the product would be called a superior good (Boyes et al, 2008). The formula to calculate this is as follows: YED... Types of Elasticity of Demand and Its Importance The method of calculation is the same as other elasticity of demand. Only the Price section has to be replaced with changes income, which would be [(New income – the Old income)/Old income] * 100. In order to maximize the revenues, firms must have the knowledge about the Income and Price Elasticity of their product. This is because when would plan to raise or reduce their prices to leverage their revenues, this might not prove to be fruitful it unless it is done strategically. If the demand for a product is price elastic, a rise in price would drive the consumers away as the demand would be more responsive to price changes and the consumers are bound to switch to cheaper substitutes. Secondly, if the prices are decreased and if the demand is price inelastic, the firm’s revenue would fall as there would be little reaction from the consumers. If high prices are set for price elastic goods, and low prices are set for price inelastic goods, the revenues would fall. Therefore firms need to know the products’ price elasticity so that it can accurately price its products in order to maximize its revenues. On the other hand, pricing strategies have to be set in accordance with the product’s Income elasticity of demand. If a rise in mass market’s income leads to a fall in demand, the product would have to be repositioned as a superior good pertaining to the profitability and would have to high priced for revenues to rise.