The Concept of Price Elasticity of Demand

The price elasticity of demand is the responsiveness of the quantity demanded to change in price. Alternatively, one can define price elasticity of demand as the percentage change of quantity demanded with respect to the percentage change in price of the same commodities. In economic terms, elasticity is a sensitivity measure of quantity demanded caused by change in price. In most cases, the price elasticity of normal goods is negative although economic analysts tend to ignore the sign. Normal goods are the goods which conform to the law of demand. This paper seeks to analyze the price elasticity of demand. The concentration will be directed towards the corn and its close substitute soybeans.

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If the demand of corn increases then it’s obvious that demand of soybeans will reduce. This is because the proportional increase in demand for corn must have come from soybeans. When the demand of corn increases in the market it means that more people will be using it as an alternative form of energy source other than soybeans. Economically, there are various factors which lead to an increase of demand of a certain commodity, the first determinant being the price of the commodity. People will be willing to purchase more of corn when the price is low and vice versa. The second determinant is the price of the related commodity and in these case soybeans. If the price of corn is relatively lower than that of soybeans, then more people will shift their consumptions to that of corn. The third determinant is the taste and preferences of the consumers whereby a change in taste and preference of corn in the market might have worked in its favor. As a result more people increased their demand on corn as opposed to the soybeans (McConnell, Brue & Campbell, 2004 p. 56).

As the demand of corn gradually increases, there will be an automatic market adjustment which increases the price of corn oil. The price increase is brought about by the shift in demand curve to the right. Since the supply curve will remain constant a new quantity level which is greater than the original quantity will be created. At the same time, a new price level greater than the original price will also be created. The new levels created are the equilibrium market price and quantity for the commodity which in this case is corn oil.

Since the two commodities have a high elasticity of demand, a slight increase in the price of either commodity can lead to a major loss of consumers to the substitute commodity (Wessels, 2000 p. 294-297). The higher elasticity of demand between corn and soybeans is supported by the fact that the two commodities are perfect substitutes for one another. A mere reduction of the corn oil price will therefore result to a huge increase of quantity demanded for corn oil and consequently an increase in the total revenue earned by the corn sellers. Conversely, if the price of the corn oil is slightly increased above that of soybeans, demand will automatically shift in favor of the soybeans. In this case, the total revenue earned by the corn sellers will significantly reduce. Indeed, the commodities which have a low elasticity of demand do not have a major impact with respect to changes in price (Mankiw, 2008, p. 90).

The higher the demand elasticity of a commodity, the more sensitive the quantity demanded. Corn oil and soybean in this case have high demand elasticity and therefore a slight change in their prices will greatly affect the level of quantity demanded. In my own opinion the price of corn oil was slightly reduced leading to a significant increase in quantity demanded. In addition more people shifted from soybeans consumption to corn oil consumption. In order to counter the market shift the soybean sellers are supposed to reduce their price too. Such a reduction will win back the market proportion which had shifted basically because of price differences.

References

Mankiw, N.G. (2008). Principles of Macroeconomics. Boulevard, Cengage Learning.

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McConnell, C.R., Brue, S. L. & Campbell R. R. (2004). Microeconomics: principles, problems, and policies. Boston, McGraw-Hill Professional.

Wessels, W.J. (2000). Economics. New York, Barron’s Educational Series.

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