Gas Junkie - Gasoline Prices Questions

Question: Consider the following pairs of goods. What are the price elasticities for each of them, justify you answer.?

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Answer #1:

Well without actual numbers you can't determine actual elasticity. However, you can determine whether an item is elastic or not through just thinking about how price changes affect it. So as for your examples:

a) Water is inelastic (not elastic) because people need it to survive and a change in price will not greatly change the quantity demanded of the good. No matter how high the price of water is, you still need to drink a certain amount to survive, so you don't have much of a choice. Diamonds on the other hand are a luxury, that is to say they are not essential to survival. People can live without them, so as the price goes up, quantity demanded will drop as less people will want to purchase them. Therefore demand for diamonds is elastic

b) Like water, people need food in general to survive, so if the average price of food goes up then people will have little choice but to pay it, so the quantity demanded will not greatly change, so food demand for food is inelastic. However if you specify breakfast cereal, people have alternatives. If the price of breakfast cereal goes up, then you can always eat something else for breakfast (toast, eggs, oatmeal, etc) so people will likely change what they buy. Therefore, when price of breakfast cereal goes up, the quantity demanded will probably drop quite a bit, so demand for breakfast cereal on its own is elastic.

The main difference here is you were looking at food in general (people need to eat, in general) compared to a specific food (people can choose to eat something else).

c) This one really depends on how you picture how badly people need gasoline. Here you are comparing short term gasoline usage (a week) and long term gasoline usage (one year). I would assume that in the short term, demand for gasoline is inelastic, because people will have little choice at first how much gasoline they buy since they have to go to work, go shopping, to school, etc. However, over the course of the year, if gas prices are high enough, people will probably start buying more fuel efficient cars or maybe even switch to buses and subways instead of driving. As a result, in the long term, the demand for gasoline is elastic.

The main difference here was whether you were looking at the short term or the long term. Simply put: Short term demand for gas is inelastic. Long term demand for gas is elastic.





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