Business Brief: Price Elasticity
Changes in the price of commodities often result in changes in the demand of the items .The relationship between the change in demand and the change in price can be expressed through Price Elasticity of Demand (PED). With PED, a small change in price associated with a huge change in demand implies elasticity while a large change in price accompanies by a small change in demand means inelasticity (Ghoddusi & Roy, 2018). However, several factors determine the PED of a product. Bread’s PED determined by number of close substitutes, the degree of its necessity, and percent of consumer’s income spent.
I chose bread because of it is a dynamic part of the economy given its changes in price can offer insights into the workings of the economy. Bread has been a prominent food in most parts of the world with most countries having an annual average annual consumption of 50kg of bread per person. Having been of significance since the dawn of agriculture, bread represents a strong economic sector. In the U.S, the baking industry accounts for almost $320 billion in total economic output every year and has employed approximately 2 million people. These workers earn over $100 billion annually in benefits a wages and pay $40 billion taxes (Kostyuchenko, Kosovan, Shaposhnikov, & Martirosyan, 2019). Some loaves have been described as having premium qualities even though they seem barely distinguishable from the standard brands leading to differences in price in types of bread. However, all prices of bread irrespective of the brand are subject to changes in price. Thus, when the changes in price occurs the quantity of bread demanded may exhibit high or low PED in response to the changed price.
Bread has more close substitutes in the market making it more elastic to demand because consumers can switch to alternatives. For example, breakfast cereals can be a close substitute for breads. Therefore, a rise in the price of bread would result in a considerable fall in its demand and a consequent rise in the demand for breakfast cereals. When bread’s relative PED is compared to sample products provided in Table 3.7, of the textbook, a higher elasticity levels are realized for items that have many substitutes. For instance, fresh peas is found to have a price elasticity of −2.83 implying that a price increase of 10% would be associated with a decline in consumption of 28.3 % as people would turn to other alternatives such as canned and dried peas.
Bread is an essential component of food for basic living. Even if the price of bread went up, people would still buy because it is a necessity. Therefore, in such cases bread would tend to have an inelastic demand whereas other commodities that are considered to be luxuries would have a higher elastic demand (Larson, 2018). When compared with other basic items in the table, including cabbage and potatoes, it is evident that necessities result in inelasticity because they produce the least decline in consumption. If the two experienced a 10% rise in price, cabbage would result in a 2.5% decrease in consumption while potatoes would suffer a 2.7% decline in consumption. Concerning percent of consumer’s income spent on bread, buyers spend a small proportion of their income on the item. Thus, and they would not considerably minimize their purchase of bread as its price increases or increase their purchase when the price of bread decreases. Therefore, the PED for bread would be relatively low because the proportion of income spent on bread has always been low.
References
Ghoddusi, H., & Roy, M. (2018). Income elasticity of demand versus income elasticity of consumption. SSRN Electronic Journal. doi: 10.2139/ssrn.3122844
Kostyuchenko, M., Kosovan, A., Shaposhnikov, I., & Martirosyan, V. (2019). The bakery products market in the globalization economy conditions: institutional changes and trends in the development of consumer behavior and competitive strategies. Proceedings of the 2nd International Scientific Conference on New Industrialization: Global, National, Regional Dimension (SICNI 2018). doi: 10.2991/sicni-18.2019.101
Larson, D. F. (2018). Food prices and food price volatility. Oxford Scholarship Online. doi: 10.1093/oso/9780190656010.003.0022