5 DETERMINANTS OF PRICE ELASTICITY OF DEMAND

Price elasticity of demand can be defined as the responsiveness of demand to changes in prices.

In other words, the price elasticity of demand measures how much quantity demanded increases or decreases in reaction to price changes.

The price elasticity of demand is influenced by some factors collectively known as determinants of price elasticity of demand.

More specifically, the determinants of price elasticity of demand are those factors that affect the price elasticity of demand for goods and services.

The following are the major determinants of price elasticity of demand:

1. Availability and number of substitutes: The closer the substitute a good has, the more elastic it is.

Similarly, the larger the number of substitutes, the more elastic a good is.

Conversely, the lower the number of substitutes, the less elastic a good is.

This is because when goods have a large number of substitutes, customers may easily substitute them for other goods if the price changes however when goods have a few substitutes, consumers may not be able to do so easily if the price changes.

2. Share of the consumer budget: The elasticity of a good is proportional to its relative share of a consumer's budget..

For example, cars constitute a larger share of most consumer budgets.

Therefore, an increase in the price of the car will have a massive change in its demand because such an increase will significantly affect the consumer expenditure on other products. 

In contrast, the price of a notebook is usually small portion of consumer budgets.

So, an increase in the price of the notebook may not affect its demand significantly because the expenditure on notebooks is just a small portion of the consumer income.

3. Time horizon: Demand is inelastic in the short run because people do not immediately react to price changes.

However, in the long run, demand tends to be elastic as consumers have the opportunity to react to price changes and adjust their spending habits accordingly.

4. Degree of necessity: of course, highly essential goods will be relatively inelastic because people required them.

A general example is food items. Because people must eat, the elasticity of demand is low.

At the other extreme is luxury goods, which are goods people can do without.

Generally, new cars are luxurious goods because people can do without them. Hence, the elasticity of demand for luxurious cars is very high.

It must be mentioned here that the degree to which a good is necessary or luxurious differs from person to person.

To give an example, smoking is a no-go area for some people, and cigarettes are not a commodity for them.

But, for those addicted to smoking, smoking is very essential and cigarettes are of utmost importance to them.

5. Fashion: Goods in vogue are likely to have an inelastic demand than goods that is out of fashion.

This is because people would rather buy goods that are in fashion, even if they are expensive, than goods that are out of fashion.

To summarize, price elasticity of demand is affected by five factors, namely; availability of substitutes,  share of the consumer budget, time horizon, degree of necessity, and fashion.

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