There are three main factors that influence a demand’s price elasticity:
1.
The availability of substitutes
This
is probably the most important factor influencing the elasticity of a good or
service. In general, the more substitutes, the more elastic the demand will be.
For example, if the price of a cup of coffee went up by $0.25, consumers could
replace their morning caffeine with a cup of tea. This means that coffee is an
elastic good because a raise in price will cause a large decrease in demand as
consumers start buying more tea instead of coffee.
However,
if the price of caffeine were to go up as a whole, we would probably see little
change in the consumption of coffee or tea because there are few substitutes
for caffeine. Most people are not willing to give up their morning cup of
caffeine no matter what the price. We would, therefore, say that caffeine is an
inelastic product because of its lack of substitutes. Thus, while a product
within an industry is elastic due to the availability of substitutes, the
industry itself tends to be inelastic. Usually, unique goods such as diamonds
are inelastic because they have few - if any - substitutes.
This
factor affecting demand elasticity refers to the total a person can spend on a
particular good or service. Thus, if the price of a can of Coke goes up from
$0.50 to $1 and income stays the same, the income that is available to spend on
Coke, which is $2, is now enough for only two rather than four cans of Coke. In
other words, the consumer is forced to reduce his or her demand of Coke. Thus
if there is an increase in price and no change in the amount of income
available to spend on the good, there will be an elastic reaction in demand:
demand will be sensitive to a change in price if there is no change in income.
The third influential factor is
time. If the price of cigarettes goes up $2 per pack, a smoker, with very
little available substitutes, will most likely continue buying his or her daily
cigarettes. This means that tobacco is inelastic because the change in the
quantity demand will have been minor with a change in price. However, if that
smoker finds that he or she cannot afford to spend the extra $2 per day and
begins to kick the habit over a period of time, the price elasticity of
cigarettes for that consumer becomes elastic in the long run.