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Question
Explain the effect of the following on the price elasticity of demand of a commodity:
(i) Number of substitutes
(ii) Nature of the commodity
Solution
(i) Number of Substitutes- The demand for a good having greater number of substitute goods will be relatively more elastic (or |ed| < 1). This is because a slight increase in the price will push the consumers to shift their demand away from the good to its substitutes and vice-versa. This implies that demand for the goods having a large number of substitutes is highly responsive to the changes in the price. Therefore, such goods have elastic demand. On the contrary, if a good has no close substitutes, then the demand will be inelastic.
(ii) Nature of the Commodity- The price elasticity of demand depends on the nature of a commodity. The goods and services can be broadly divided into three categories- Necessities, Luxuries and Jointly-demanded goods.
a. Necessity Goods- These goods are those goods which a consumer demands for sustaining his life. Hence, such goods have an inelastic demand (|ed| < 1).
b. Luxury Goods- Luxuries are the goods which are not essential, rather, are consumed f or leisure or comfort purposes. Thus, such goods have high price elasticity (|ed| > 1).
c. Jointly-demanded Goods- Jointly-demanded goods are those goods that are demanded together. Such goods have an inelastic demand (|ed| < 1).
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