According to economists, a large rise in the cost of car manufacture in the United Kingdom (UK) and a general rise in incomes of households in the UK are likely to affect the sales of cars in different ways. Explain how elasticities of demand can assist in understanding the effect of each of these changes on the sales volume of cars. [10]

This paper explains how the elasticities of demand are useful in understanding the effect of a large rise in the cost of car manufacturing in the United Kingdom (UK) and a rise in incomes for UK households are likely to affect the sales of cars in the UK. In this economics essay, we focus on the price elasticity of demand (PED) and income elasticity of demand (YED), because the rise in the cost of car manufacturing results in a leftward shift of the supply curve, thus necessitating the concept of PED, and the rise in incomes necessitates the use of the concept of YED.

Price elasticity of demand is defined as the degree of responsiveness of the quantity demanded of a good with respect to the change in its own price, ceteris paribus.

Question: What mathematical formulae and diagrams do you think can be used here?

Suppose the cost of production of a car increase, thus resulting in an increase in its price. The use of the concept of PED is useful in evaluating the impact on the quantity demanded of the car. In the case of a Bentley, where the PED is greater than 1 since it comprises a relatively large proportion of income, an increase in the price of a Bentley results in a more than proportionate decrease in the quantity demanded of the Bentley. In the case of a Honda, where the PED is less than 1 since it comprises a relatively small proportion of income, an increase in the price of the Honda results in a less than proportionate decrease in the price of Honda. In both cases, however, we can conclude that the quantity demanded, and hence sales volume, of the different car models fall as prices increases, ceteris paribus.

Income elasticity of demand is the degree of responsiveness of the quantity demanded of a good with respect to the change in income, ceteris paribus. 

Question: What mathematical formulae and diagrams do you think can be used here?

The change in quantity demanded, and hence sales volume, depends on the YED of the car model. If, like a Honda, the car is a normal necessity, where 0 < YED < 1, an increase in income results in a less than proportionate increase in the quantity demanded and hence sales volume. If, like a Bentley, the car is a normal luxury, where YED > 1, an increase in income results in a more than proportionate increase in the quantity demanded, and sales volume will therefore increase more than proportionately. On the contrary, if the car is like an inferior good like a Ford, where YED < 0, an increase in income will result in a fall in the quantity demanded, thereby reducing sales volume of the car.

Overall, the use of elasticities of demand concepts, namely price and income elasticities, are useful in helping us understand the effect of the changes on the sales volume of the different car models. 

Economics Tutor's Comments - This is a strong economics essay which covers quite a few important points and arguments. However, to improve this essay, could the writer have used the concept of cross elasticity, or cross price elasticity (XED)? And could more specific examples have been used to illustrate the economic theory? What else would make this economics essay even better than it is currently? Thank you for reading, and cheers.  

JC Economics Essays - This essays site helps economics students with the A-Levels (Cambridge, A1/S, A2, H1/H2 levels), and the international AS level economics examinations. This blog provides a range of useful content, materials, tips and techniques, and model economics essays that students in the United Kingdom, and internationally, can use to excel in their studies and examinations.

This model essay was contributed by WT, our resident expert who helps economics students appreciate Economics and provides detailed and comprehensive content on economic issues. WT has a wide-ranging interest in Econometrics, Economic History, International Trade, and Game Theory, especially with respect to economics' applications in real life. And as always, S. S., the editor of JC Economics Essays, edited this economics essay. 

Explain how the concepts of demand elasticity can shed light on the luxury goods market.

This paper explains concepts of demand elasticity, namely price elasticity of demand, income elasticity of demand, and cross elasticity of demand, as well as how these economic concepts can shed light on the luxury goods market, in particular, looking at fashion retail brands such as Prada and Gucci.

Firstly, price elasticity of demand can shed light on the luxury goods market; it measures the responsiveness of quantity demanded of a good to a change in its price, ceteris paribus. The demand for a good is said to be price elastic if a given percentage change in its prices causes a more than proportionate change in its quantity demanded, ceteris paribus. Conversely, the demand for a good is said to be price inelastic if a given percentage change in its price results in a less than proportionate change in its quantity demanded, ceteris paribus. A fall in price will result in a more than proportionate increase in quantity demanded for good that is price elastic. Conversely, given the same decrease, it will result in a less than proportionate increase in quantity demanded for a good that is price inelastic. While branded goods such as bags, shoes, or clothing from Prada and Gucci, can be considered demand elastic because they take up a large proportion of an individual's income, they can also arguably be considered demand inelastic because, to people who really desire these goods and have a strong taste and preference for these goods, there are no close substitutes for these goods. Therefore, it can be argued that changes in price would not affect the quantity demanded for these highly sought after goods that much.

Secondly, income elasticity of demand can shed light on the luxury goods market; it measures the responsiveness of the demand for a good to a change in income, ceteris paribus. Positive income elasticity of demand refers to the increase in demand for a good when income increases. Such goods are known as normal goods. Normal goods can be sub-divided to normal-necessity and normal-luxury goods. A normal-necessity good is income inelastic, which means that a rise in income will result in a less than proportionate change in demand whereas a normal-luxury good is income elastic, which means that a rise in income will result in a more than proportionate change in demand. Negative income elasticity of demand refers to the decrease in demand for good when income increases. Such goods are known as inferior goods. Inferior goods occur because rising income levels cause consumers to switch from lower quality product to a higher quality product as they are able to afford better alternatives. With these economic theories and concepts in mind, the luxury goods market is clearly in the realm of normal luxury, because as incomes rise in China, more Chinese have reportedly started buying branded goods, more than proportionately, especially Louis Vuitton. In fact, as incomes rise in Singapore, many have also started buying more branded goods as part of their lifestyles, and thus clearly we can utilise this concept both for the consumer – to understand their behaviour and the type of the goods that they are buying – as well as from the view of the retailer, who would do well to sell branded goods in a rising economic situation of high economic growth, and rising disposable incomes.

  

Third, cross elasticity of demand measures the responsiveness of demand for a good to a change in price of another good, ceteris paribus, and can be used to understand the luxury market. Positive cross elasticity of demand means the demand for a good and the price of another good change in the same direction. This suggests that the goods could be substitutes. Several substitutes to luxury goods are normal necessity goods, such as normal clothing brands or mass market brands, because no one has to only buy branded items. Negative cross elasticity of demand means that the demand of a good and the price of another good changes in the opposite direction. This suggests that the goods could be complements. For example, Prada and LV have complements for all their items, ranging from bags to wallets, to clothes and shoes. Thus, understanding cross elasticity is useful and relevant in the real world.

In conclusion, PED, YED, and XED can shed light on the luxury goods market, and demonstrate the usefulness and relevance of demand and supply analysis and the extent of the changes on differing types of goods. However, we should be alert to the fact that the ceteris paribus condition must hold for the analysis to be sound, and in real life often ceteris paribus does not hold, but, in general, elasticity of demand concepts are useful in understanding the luxury market and any other market. 

JC Economics Essays - Written under strict examination conditions, this H1/ H2 A levels economics essay on the luxury goods market was inspired by a few economics students and a field trip to Marina Bay Sands Singapore to see luxury brands, and eventually refined to be improved for sharing on this economics blog. The question is: what was good about this essay that made it receive a high grade by different economics examiners? Do think about it. Thanks for reading and cheers. 

Examine, with relevant examples, how American car producers might use the price (PED) and income elasticity of demand (YED) concepts to help determine their pricing and output decisions. [15]

This economics essay applies concepts of elasticity to the car market, using real world examples from the USA. Price elasticity of demand measures the responsiveness of quantity demanded of a good to a change in its price, ceteris paribus. It is calculated by taking the percentage change in quantity demanded of a good over the percentage change in price. Income elasticity of demand measures the responsiveness the demand for a good to a change in income, ceteris paribus. It is calculated by taking the percentage change in the demand of a good over a percentage change in income. 

After having defined the two main economic concepts, this essay seeks to explain how they can be used to determine pricing and output decisions with the aid of diagrams before linking them to various car producers and finally evaluating the usefulness of these concepts.

[Insert diagram on price elastic demand showing the loss and gain in revenue when price falls]

With the aim of maximizing total revenue in mind, with a fall in price in a price elastic demand, the firm would gain an area bigger than the area loss. This shows that the quantity demanded will increase more than proportionately, resulting in an increase in total revenue earned by the firm.

[Insert diagram on price inelastic demand showing the loss and gain in revenue when price rise]

Likewise, with the same goal in mind, a rise in the price of a good with an inelastic demand would result in the firm gaining an area bigger than the area loss. This indicates that the quantity demanded will fall less than proportionately, also leading to an increase in total revenue. Hence, by knowing the price elasticity of demand for their goods, the firm would know when to raise or cut prices for its benefit in earning maximum total revenue.

For income elasticity of demand, with regard to positive income elasticity, with an increase in income, the demand rises for the normal good and firms should produce more of them when the country faces strong economic growth. As for negative income elasticity, with an decrease in income the demand rises for the inferior good and firms should produce more when the country is having a recession. With a higher magnitude, the extent of the change in demand increases and the firm should be more responsive in terms of the quantity supplied.

When linking these concepts to various car producers, for price elasticity of demand, the bigger firms such as Ford and Chrysler, experience greater price inelasticity for their cars as they are more luxurious and expensive. For the smaller vehicle firms in the USA whose goods are price elastic, they can reduce this extent through extensive advertising and product differentiation.

For income elasticity of demand, cars might be considered to be as normal goods as they offer more convenience and comfort as compared to taking public transport where it is likely to be more crowded and people have less personal space. In addition, some car companies produce cars of better quality and have established brand loyalty amongst consumers. For these car producers, the income elasticity of their cars is more elastic.

In particular, Ford cars can generally be considered normal goods, and more of these should be produced in a good economic climate. However, if Ford really wants to earn much more, it should produce more of its luxury series, the Lincoln (Lincoln Motor Co. produces what can be considered a luxury American car). However, if Ford produces cheaper, simpler cars, this would only be an effective strategy in an economic downturn because the cheaper, simpler models could arguably be considered inferior goods (relative to the normal and normal luxury goods that Ford produces). 

In conclusion, while evaluating the usefulness of these concepts, price elasticity of demand may not be that effective as the cost involved in production has to be factored in for the car companies to truly earn profits and not merely rely on the demand for them. As for income elasticity of demand, it may not be that useful either as data was taken from past statistics and thus may not be very accurate for today as the economy would have changed.

JC Economics Essays - economics tutor's comments: This part (b) economics essay did make an attempt to answer the economics question posed and in fact used a few American car examples, which is good. It is always a good idea to answer the question directly in Economics examinations. However, this economics paper could have done much better had it given more analysis both in theory and also using more real world examples of American car companies. Overall, it did a good job. Special thanks to A G and T students; the essay was written under examination conditions but has been edited for blog posting. 

Explain how the worldwide recession of 2008-2010 and the closure of some major airlines of the world after September 11th affected the market for air travel, and assess the relevance of various elasticity concepts in explaining the effects of these events on the airline industry as a whole. [25]

Note: This (theoretical) sample economics essay shows you how to systematically and methodically deal with Multi-Part, Complex Economics Essay Questions with Several Areas of Discussion to Address

Essay: 

To begin with, it is important to identify that the recession would have led to a drop in demand for air travel, while the closure of some of the major airlines would imply a fall in supply of air travel. Therefore, this essay will talk about the different permutations of a simultaneous fall in demand and supply, and their effects on the price and quantity output of air travel, with the aid of a diagram. Additionally, it will also be analysed in context why both the demand and supply of air travel had fallen.

Although both the demand and supply of air travel had fallen, it is important to note that relatively, if the demand had fell more than the supply and vice versa, the resulting price of air travel will differ.

[Insert diagram on fall in supply > fall in demand]

[Insert diagram on fall in supply < fall in demand]

From the first diagram, it could be seen that if the drop in supply was greater than the drop in demand, price rises, while quantity falls. However, in the second diagram, if the drop in demand was greater than the drop in supply, both price and quantity falls. These hence summarises the varying effects of a fall in both demand and supply on the market for air travel.

Moving on, it will be analysed in context why did the recession and the closure of major airlines lead to a fall in demand and supply of the air travel.

Firstly, it has to be taken into account that the demand for air travel is a derived demand, derived from the demand for vacations and business-related trips. In the case of a recession, the world’s income falls, thus significantly reducing the demand for vacations. Furthermore, with a recession, business activity slows down in tandem with the slowdown of the economy. This implies a fall in demand for business trips as well. Together, the fall in demand for both vacations and business trips means that the derived demand of air travel falls as well.

Additionally, the closure of some major airlines implies a reduction in the number of operating firms and hence the number of available flights. This ultimately leads to a fall in the supply of air travel.

In conclusion, for the first part of the question, the recession and closure of major airlines affected the air travel’s market via a fall in both demand and supply of air travel. However, there are varying effects depending on the relative extent of the fall of demand and supply.

The second part of the question requires the analysis of the extent of relevance of the various concepts of elasticities in explaining the effects of the worldwide recession, the increased fear of flying and the closure of some of the major airlines on the airline industry. Therefore, this part of my essay will explain the various concepts of elasticities in context, before concluding with some limitations of the use of elasticities.

Price elasticity of demand measures the responsiveness of quantity demanded of a good to a change in its prices, ceteris paribus. It is calculated by taking the percentage change in the quantity demanded of the good over the percentage change in its price. Therefore, it affects the gradient of the demand curve. The steeper the slope of the demand curve, the more price inelastic is the good. In context, the fall in supply of air travel arising from the closure of some major airlines will result in a rise of price of air travel. However, since there are no close substitutes for air transport (as the speed of other forms of transport are not comparable), especially for long distance travel, the demand for air travel is likely to be relatively price inelastic. Hence, the rise in price of air travel will lead to a less than proportionate fall in quantity demanded for air travel.

Income elasticity of demand measures the responsiveness of the demand for a good to a change in income, ceteris paribus. It is calculated by taking the percentage change in demand for a good for a given percentage change in income. For normal goods, income elasticity of demand is positive as when income increases, demand for the good increases and vice versa. Normal goods could be further divided into necessities and luxury goods, where the former’s demand rises less than proportionately with a rise in income, while the latter’s demand rises more than proportionately. There are also inferior goods, where demand of the goods drops with a rise in income.

[Insert diagram on falling demand curves]

In context, vacations are largely a luxury good for most households, thus they are income elastic. Thus, with the recession and thus fall in income, the demand of vacations is likely to have a more than proportionate fall. On the other hand, business trips are more likely to be unable to be put off in the short run, thus they are more income inelastic and hence demand is likely to fall to a smaller extent when income falls. However, in the long run as business activity slows down, business trips will not be required, thus they may become income elastic. Therefore, in the long run, the demand for air travel is likely to be income elastic, implying a more than proportionate fall in demand, with a fall in income arising from the recession.

Price elasticity of supply measures the responsiveness of quantity supplied of a good to a change in its price, ceteris paribus. It is calculated by taking the percentage change in the quantity supplied of the good over the percentage change in its price. Therefore, it affects the gradient of the supply curve, the steeper the slope, the more price inelastic is the supply. In context, the fall in demand for air travel results in a fall in price of air travel. However, since most flights have been scheduled months in advance so planes will fly even if demand falls, thus in the short run supply of air travel is rather price inelastic. This means that there will be a less than proportionate fall in quantity supplied of air travel with a fall in price. However, the same does not hold in the long run. In the long run, airlines close down if subnormal profits are incurred; hence rendering the supply of air travel price elastic. This leads to a more than proportionate fall in quantity supplied with a fall in price of air travel.

           

Lastly, cross elasticity of demand measures the responsiveness of demand for a good to change in price of another good, ceteris paribus. It is calculated by taking the percentage change in demand for the good for a given change in price of another good. Substitutes have positive cross elasticity of demand while complements have negative cross elasticity of demand. Unrelated goods have zero cross elasticity of demand. Also, the magnitude of the cross elasticity of demand suggests how strong the goods are as substitutes or complements to each other. However, cross elasticity of demand is not relevant in this context as the preamble did not mention a change in price of related goods.

In conclusion, with the exception of cross elasticity of demand, the various elasticity concepts are largely relevant in explaining the effects of the events on the airline industry. Despite this, there are certain limitations. Firstly, elasticity concepts will not be suitable to measure the fall in demand caused by the fear of flying, since such change in preferences against air travel is intangible and unquantifiable. Hence the relevance of such concepts to explain the effects are largely limited since the fear of flying most likely accounts for the large part of the fall in demand. Furthermore, since elasticity figures can only be estimated based on past data, it may be inaccurate to use such to foresee the effects of current events since economic conditions would have changed.

JC Economics Essays - H1 and H2 standard 'A' Levels Economics Essays - tutor's comments on this essay - Basically, there are times in an examination when the examiners ask multiple parts in one single question. This essay simulates combining two essay parts (usually a part (a) and a part (b) essay) into one essay, and the best way to address it is to imagine that it is indeed two parts - and answer each part accordingly. There are several other essays on this site that are similar to this one, but  are in the part (a) and part (b) version, and the style would be different for each. Think about how you could improve on the method suggested above. Special thanks to A.G. for her contribution, as well as the econs students behind this very impressive work.  

Assess the relevance of price elasticity of demand, income elasticity of demand, cross elasticity of demand and price elasticity of supply in explaining the effects of a worldwide recession and an increased fear of flying on the airline industry. [15]

Apart from considering how changes in price is affected by the changes in demand and supply, it is also important to take into account the responsiveness to the change in price, income and other goods. Thus, this essay aims to discuss the relevance of the various elasticities of the changes in demand and supply and the limitations of the concept. 

Price elasticity of demand measures the responsiveness of quantity demanded of a good to a change in its price, ceteris paribus. The demand for a good is said to be price elastic if a given percentage change in its prices causes a more than proportionate change in its quantity demanded, ceteris paribus. Conversely, the demand for a good is said to be price inelastic if a given percentage change in its price results in a less than proportionate change in its quantity demanded, ceteris paribus.

[Insert a diagram with both elastic and inelastic demand curves]

As shown, the steeper the demand curve, the more price inelastic. A fall in price will result in a more than proportionate increase in quantity demanded for good that is price elastic. Conversely, given the same decrease, it will result in a less than proportionate increase in quantity demanded for a good that is price inelastic.

Secondly, income elasticity of demand measures the responsiveness of the demand for a good to a change in income, ceteris paribus. Positive income elasticity of demand refers to the increase in demand for good when income increases. Such goods are known as normal goods. Normal goods can be sub-divided to normal-necessity and normal-luxury good. A normal-necessity good is income inelastic, which means that a rise in income will result in a less than proportionate change in demand whereas a normal-luxury good is income elastic, which means that a rise in income will result in a more than proportionate change in demand.

Negative income elasticity of demand refers to the decrease in demand for good when income increases. Such goods are known as inferior goods. Inferior goods occur because rising income levels cause consumers to switch from lower quality product to a higher quality product as they are able to afford better alternatives.

 

Cross elasticity of demand measures the responsiveness of demand for a good to a change in price of another good, ceteris paribus. Positive cross elasticity of demand means the demand for a good and the price of another good change in the same direction. This suggests that the goods could be substitutes. Negative cross elasticity of demand means that the demand of a good and the price of another good changes in the opposite direction. This suggests that the goods could be complements.

Price elasticity of supply measures the responsiveness of quantity supplied of a good to a change in its price, ceteris paribus. The supply of a good is price elastic if a given percentage change in its price causes a more than proportionate change in its quantity supplied. Conversely, the supply of a good is said to be inelastic if a give percentage change results in a less than proportionate change in its quantity supplied.

[Insert a diagram with both supply elastic and inelastic curves]

As shown, the steeper the supply curve, the more price inelastic. A fall in price will result in a more than proportionate decrease in quantity supplied for a good that is price elastic. Conversely, given the same decrease, a price inelastic good will show a less than proportionate decrease in quantity supplied. 

In the context of price elasticity of demand, the elasticity of air travel can be analysed using the factors that affect price elasticity of demand, such as availability of substitutes, degree of necessity and proportion of income.

Firstly, the greater the availability of substitutes and the more homogenous the good is, the higher the price elasticity of demand. In terms of air travel, there is no close substitute that is as efficient and as fast as the plane when travelling long distances. In order to travel across the latitudes, there is almost no close substitute for air travel. Hence, air travel can be considered price inelastic of demand. However, some may argue that in the case of short distance travelling, there are substitutes such as trains, cars and public transports that may be as efficient on a well-developed transport network system. Hence, the degree of substitution may differ and is subjective. 

Secondly, the higher the degree of necessity, the lower the price elasticity of demand. Since air travel is usually for leisure and relaxation, the degree of necessity may be low for most households that go on a vacation for leisure. Hence air travel can be considered as price elastic of demand. However, the degree of necessity is debatable especially in the case of businessmen as air travel may be a necessity in order to improve sales or make profits. Thus, in this case, air travel is price inelastic of demand. 

Thirdly, the larger the proportion of income spent, the more price elastic. Air travel is usually costly, especially when it is long distance or for longer period of time. Hence, it is price elastic. 

In the context of income elasticity of demand, air travel is considered normal luxury good for most households hence it is considered income inelastic. However, some may consider air travel as a normal necessity especially when business travelling is concerned. Thus, whether a normal good is a necessity (income inelastic) or is it a luxury (income elastic) depends on individual. 

In the context of price elasticity of supply, it can be explained via a long run and short run concept. In the short run, air tickets are booked in advance and cannot be cancelled immediately, supply is fixed, and hence supply is less elastic. However, in the long run, people’s fear of flying may cause a decrease in supply since demand is extremely low. Hence, supply becomes more elastic.

However, there are limitations of applying the demand elasticity concept. In this situation, the fear of flying cannot be measured by elasticity as the changes in tastes and preferences are un-quantifiable. Thus, the impact is not taken into consideration causing the fall in demand to be less than expected, especially in the long run. In addition the cross elasticity is inapplicable as there is no close substitute. The various elasticities are also derived from past data that may be outdated and hence inapplicable for current economic situation.

In conclusion, responsiveness towards changes in price increase is not constant due to the changing economic situation and in reality, several other factors are also able to influence the elasticity instead of being ceteris paribus. Thus, the effect on the airline industry can be only explained to a certain extent.

JC Economics Essays – H2 A levels – Economics tutor’s comments: This economics paper seeks to address the adapted examination question on elasticities and their relevance, to a specific context. This paper develops the arguments and ideas around the economics question, which is good - always answer the question posed. As it is a part (b) question adapted from an A level Economics question, there was an earlier part (a) to it which dealt with explaining the various elasticity concepts on offer. As an assignment or a training exercise, perhaps think to yourself or check out the various definitions - definitions (as well as mathematical equations) for the various types of elasticities: PED, YED, XED (or CED), and PES. What good points are there to praise about this economics paper? A thesis, anti thesis, and synthesis approach to the essay is clearly and obviously used, which should please practically all Economics tutors and examiners when they are marking. It might be a very good idea to make examiners happy when grading papers. However, there are a few simple problems with this economics essay. First, the conclusion is a bit too concise and does not push the envelope, and certainly could be improved upon. How could you help this candidate improve on her conclusion, by writing it better? Also, what other aspects of this essay could be improved upon - what have you noticed is missing from this essay that could have been written in? Think about it. Special thanks to the kind, valuable, and beautiful contributions of AG and other students for this economics blog. 

Examine how automobile producers might use price elasticity and income elasticity of demand concepts (PED, YED concepts) to help determine their pricing and output decisions. [15]

In order to maximize profits, price and income elasticity of demand concepts can be applied by firms in order to come up with their business strategies. Hence, this essay aims to discuss about the impact of price and income elasticity of demand on automobile firms' decision and how the extent of elasticity can be applied to the relatively monopolistic automobile market. 

Price elasticity of demand measures the responsiveness of quantity demanded of a good to a change in its price, ceteris paribus. The demand for the good is said to be elastic if the change in price results in a more than proportionate change in quantity demanded. Conversely, the demand for the good is said to be inelastic if the change in price results in a less than proportionate change in quantity demanded. Hence, if a firm expects the demand for its good to be price elastic, then it should lower the price. 

[Insert a diagram with both demand elastic and inelastic curves]

A decrease in price will result in a more than proportionate increase in quantity demanded if demand is elastic. Therefore, total revenue is raised.

Conversely, if the firm expects its demand for good to be price inelastic, it should raise the prices to increase its revenue. This is because an increase in price will result in a less than proportionate decrease in quantity demanded.

Firms may also want to differentiate their goods in order to make the demand more price inelastic and hence raising their profits. This is because it enables firms to charge a higher price but yet sell more output, thus raising its total revenue. Product differentiation can be real differences or imaginary differences. Real differences include differences in size, colour and taste, specifications and quality of physical product. These can be altered often through research and development. Imaginary differences include brand loyalty and packaging. These can be done through persuasive advertising and innovative packaging.

Income elasticity of demand measures the responsiveness of the demand for a good to change in income, ceteris paribus. Positive income elasticity of demand of a good means that the demand for the good increases as income increases, conversely as income falls, demand for good falls. These goods are known as normal goods. These normal goods can then be classified into normal-necessity goods and normal luxury goods. Conversely, negative income elasticity of demand of a good means that the demand for the food decreases as income increases. These goods are known as inferior goods. Understanding income elasticity help firms decide in the type of goods to sell under different economic conditions. If a country is facing strong economic growth, firms should sell more normal goods, especially normal luxury goods where an increase in income will result in a more than proportionate increase in demand. However, during an economic downturn, the demand for normal goods falls. Normal necessities fall less than proportionately while normal luxuries fall more than proportionately. Firms may then want to consider producing and selling more inferior goods instead.

In the context of the automobile market which faces monopolistic competition, although there is product differentiation, demand is likely to be price elastic due to high availability of substitutes. Hence, the firms should lower its prices to raise its revenue. However, in terms of product differentiation, a monopolistic market may not have the economies of scale to spread cost overheads. Hence low cost innovation is possible but not high investments on research and development. In the long run, automobile market only earns normal profits.

Secondly, automobiles are considered to be normal luxury good that increases more than proportionately if income increases. Thus if economic growth is strong, they should decrease the price.

However, there are limitations of applying demand elasticity concepts. The estimates are based on past dates and resources hence, the data may not be applicable to current business environment as business conditions would have changed. Changes include a more affluent society due to greater economic growth and hence can represent status quo instead.

In conclusion, automobile producers are able to make use of price and income elasticity to help determine the pricing and output decisions. This allows the firms to raise output more easily and capture a greater market share. Therefore, there are a lot of possible uses for PED and YED concepts as applied to business. 

JC Economics Essays: H1 H2 'A' level Economics Essay part (b): economics tutor's comments - For A level Economics, elasticity concepts are very important - as immediate revision, try to recall the definitions, the mathematical formulae, and what the magnitude of the numbers (or the sign, negative or positive, of the numbers) mean. This would be good economics revision for elasticity questions, and a very useful skill to have during examinations. Then, after recalling the economics material, try to apply the concepts to a particular context - in this case, the context of the economics exam question. Remember that students need to use real world examples in conjunction with economic theories. Economics tutors and examiners always appreciate good examples that are relevant, clear, and well known; however, this economics paper has actually done a rather good theoretical job without having relevant examples of car companies (in the USA, or Europe, etc). How else could this economics paper be better developed or improved? Thanks to students for contributions. 

(b) How far would the knowledge of demand elasticities be useful to a govt in devising policies that discourage the use of private cars? [15]

(b) How far would the knowledge of demand elasticities (PED, YED, XED) be useful to a government in devising policies that discourage the use of private cars? [15]

To discourage the use of private cars, there are a few policies that the government can implement. The government can implement policies to curb car ownership, curb car usage, or encourage the use of public transport. This paper argues that the knowledge of demand elasticities is useful to help governments in terms of car ownership, car usage, and public transport strategies, and to a large extent this knowledge is quite useful for helping the government make good decisions to tackle road congestion.

Firstly, car ownership can be reduced through a variety of measures. Car ownership can be discouraged by taxing the purchases of new cars, thus making them more expensive, thereby reducing the quantity demanded. Taxes shift the supply curve of cars to the left, thus reducing the equilibrium quantity demanded. Alternatively, an equivalent policy is to set a quota below the free market equilibrium quantity. A quota is a mandatory number of cars that limits the car population. By controlling car ownership, the population growth of cars is curbed and with a smaller car population, there will indirectly be fewer cars on the road.

Alternatively, car usage can be controlled directly using road pricing whereby motorists are charged for using congested roads. For example, in Singapore we have ERP. Electronic Road Pricing is a road toll system that reduces the usage of cars. This reduces the number of cars on that road, hence lowering the extent of traffic congestion.

Finally, lowering the fares or improving the quality and accessibility of public transport, for instance, lowering the fares of SMRT trains or raising the quality of SBS buses, encourages people to switch away from driving private cars to using public transport, hence reducing the usage of cars and traffic congestion in the process.

The knowledge of PED, YED, and XED are quite useful in helping governments devise policies to discourage the use of private cars. PED can be applied here. If demand is price elastic, a low tax rate is able to significantly reduce the quantity demanded. Hence an indirect tax is a suitable policy to curb car usage or ownership. However, if the demand is price inelastic, a very high tax rate is required to significantly reduce the quantity demanded. Hence indirect taxes are likely to be politically unpopular because the imposition of a very high tax rate can result in the government being perceived as being more interested in raising revenue rather than in curbing car usage. Hence a quota is probably politically more acceptable because the government is perceived to be controlling the quantity directly rather than trying to raise revenue. However if the government were to auction off the quota permits, they might again be accused of trying to raise revenue rather than fight traffic congestion.

YED can also be applied here. Knowing the income elasticity of demand enables the government to estimate the extent of the change in demand in response to a change in income. So as income rises with economic growth, the government is then be able to better determine how much car taxes should be raised so as to prevent car population and usage from rising. If the demand for cars is income elastic (i.e. normal luxury), car ownership and usage taxes have to be raised frequently and/or substantially as the country experiences economic growth. Again, the government might be seen as being more interested in raising revenue than in curbing traffic congestion so indirect taxes are likely to be politically unpopular while a quota is likely to be politically more acceptable.

Cross elasticity of demand (XED) measures responsiveness of the demand for a good to a change in the price of another good. It is calculated by taking the percentage change in the demand for the good over the percentage change in the price of the other good. XED can be applied here as well. Since public transport are substitutes to private cars, knowing the cross elasticity of demand for cars with respect to the price of a public transport enables the government to know whether cutting public transport fares is an effective way of curbing car usage. Alternatively, by improving the quality and accessibility of public transport, this makes it a closer substitute to private cars, hence raising the cross elasticity of demand between the two goods. Hence, for a given reduction in the price of public transport, there is a greater impact in curbing the demand for car usage.

In conclusion, knowing the various demand elasticities is to a certain extent quite useful in helping a government decide on which policy to choose. However, it is probably less useful in helping the government decide how much to tax or what fares to charge for public transport. This is because elasticity figures are estimated based on pass data, so they are not fully applicable to the current context as economic conditions tend to change over time. Hence, all elasticity figures should be considered carefully.

JC Economics Essays - Tutor's Commentary: This essay paper was written under exam conditions, and is still well structured, much like the companion complementary part (a). However, as usual, the usual questions apply: how can I make this essay better? How can I use an economics diagram to make this paper better? It has a good structure and is well crafted, yes. May I use this approach in my other Economics essays, or is this only applicable to this type of questions or only to elasticities? A quick word of advice here: please do not swot/ mug/ memorise Economics essays - try to understand the underlying structure, pattern, and system of writing, and always think to yourself - how can I make this essay better and more structured? Why do I prioritise the points this way? Why do I write like this? And how can I be better than I am already? Think hard and you will succeed.

(a) Discuss whether the demand for cars is likely to be elastic or inelastic with respect to price and income. [10]

(a) With reference to the market for private transport in Singapore, discuss whether the demand for cars is likely to be elastic or inelastic with respect to price and income. [10]

This essay discusses whether the demand for private cars is elastic or inelastic, with respect to both price and income. First, some definitions are in order. Price elasticity of demand (PED) measures the responsiveness of quantity demanded to a change in the price of the good, ceteris paribus. It is calculated by taking the percentage change in quantity demanded over the percentage change in price, ceteris paribus. Also, income elasticity of demand (YED) is defined as the measure of the responsiveness of demand to a change in income, ceteris paribus. It is calculated by taking the percentage change in demand over the percentage change in income, ceteris paribus. This economics paper discusses whether the demand for private cars is likely to be elastic or inelastic with respect to price and income, using the concepts of PED and YED.

Firstly, let us discuss PED, and whether the demand for cars is elastic or inelastic. According to economic theory, demand is likely to be relatively more elastic if a good is not considered a necessity, and more inelastic if a good is considered a necessity. Firstly, with a well-developed public transportation network, Singapore residents have many alternatives or substitutes to driving as they can travel to almost any part of the country by bus, train, or taxi. With the new Circle Line and the upcoming Downtown Line in Singapore, the public rail network has become even more comprehensive and provides wide reach and access to the public. Given the ready availability and accessibility of public transport in Singapore, there are viable substitutes to travelling by car, and thus private transport is definitely not a necessity but more of a luxury. So the overall demand for private cars is arguably likely to be price elastic.

Secondly, according to economic theory, demand is more likely to be relatively more elastic if it takes up a larger proportion of one's income, and vice versa. Also, for most households, the combined cost of car ownership and usage due to the monthly installments for the car loan, car park fees, maintenance costs, and the ERP (Electronic Road Pricing) charges typically forms a large proportion of their income. If a good forms a large proportion of one’s income, then the demand for the good tends to be more price elastic, and therefore, it can be strongly argued that the demand for cars in Singapore is likely to be price elastic as well, given the high costs of car ownership and usage taking up a large proportion of one's income. 

However, for some people, public transport is arguably not a close substitute, and driving is considered as a necessity, perhaps because they are rich enough to be more than able to afford a car, or perhaps they work in areas which are simply too inaccessible by public transport. For example, air force pilots tend to work in far-off places, as airbases are often not easily accessible by public transport. Hence, for such higher income individuals, or individuals who work in inaccessible places, their demand for cars is probably less price elastic. Also, for richer individuals and households, the cost of car ownership and usage forms a smaller proportion of their income so their demand for cars is also arguably possibly less price elastic.

Secondly, let us discuss YED, and whether the demand for cars in Singapore is income elastic or inelastic. A normal necessity good has 0 < YED < 1, which means that it is income inelastic, while a normal luxury good has YED > 1, which means that it is income elastic. Compared to other transport modes like buses, trains, and taxis, private cars are likely to be perceived by most people to be the highest quality among all the various modes of transport because cars are simply faster, more comfortable, and offer more privacy. Hence, when income rises, people are more likely to switch away from other transport modes to travelling by private car. Hence, a private car in Singapore is likely to be a normal luxury rather than a normal necessity. Thus a rise in income leads to a more then proportionate increase in demand for private cars.

However, as income rises, car buyers tend to upgrade from smaller cars to bigger and more luxurious ones, for example from Cherry QQs to BMWs, and also from less prestigious brands to more prestigious ones, so higher end car models and brands tend to be more income elastic.

In conclusion, the demand for cars is likely to be price elastic, and at the same time, it is also likely to be income elastic. In Singapore, with a dense transport network for a small land area, people will view public transport as a viable alternative to cars, making the demand for cars relatively more price elastic. Furthermore, car costs are a large proportion of people's incomes in Singapore, given the high costs of car ownership and usage charges in Singapore. On the other hand, car buyers as a whole are much richer than most segments of Singaporean society, and would tend to switch to buying more luxurious cars with an increase in income. This is supported by the fact that Singapore’s economic growth was high in 2011. Hence, in the final analysis, my view is that the demand for cars in Singapore is likely to be price elastic and income elastic.

H1, H2, H3 A levels JC Economics Essays - Tutor's Commentary: This is a very well structured, clear cut, and well written economics paper. It was edited only for some simple grammar, spelling, and typos issues, but composed mainly by the student, given her understanding of the issue and the context. Observe the excellent use of examples that are pertinent to Singapore's case and context, which addresses the requirements of the essay question. At the same time, observe the Economics behind the writing - there is solid economic theory at the A level standard. A well-written, well-thought out economics paper should look something like this ... but also do remember as usual that in my website Economics diagrams are not included. Should there be a diagram here? Why should there be a diagram, and why not? What economics diagram would you draw, and what would it show exactly, and why? Think about it. Perhaps you should also read the next post, which addresses the next part (part (b)) of the essay question. Always bear in mind that you should read with a critical, thinking mind. Thanks for reading and cheers. 

Special thanks to AG for her kind and useful contribution. She achieved a grade A for her H2 Economics at A levels and then proceeded to the Nanyang Technological University to read mathematics, on a Ministry of Education Teaching Award. 

(b) Examine how the car producers might use the price and income elasticity of demand concepts to help determine pricing and output decisions. [15]

Singapore’s car population grew by almost 40% from 370 000 in 1997 to 515 000 today. - Adapted from Singapore’s Ministry of Transport

(b) Examine how the car producers might use the price and income elasticity of demand concepts to help determine pricing and output decisions. [15]

Car producers can use the price and income elasticity of demand concepts to help determine pricing and output decisions. This essay discusses how car producers can use the concepts. First, PED measures the responsiveness of the quantity demanded of a good for a given change of its price, ceteris paribus. On the other hand, YED is defined as the responsiveness of the demand of a good to a change in income, ceteris paribus.

First, PED can be used to help firms. Let us assume that firms aim to maximise total revenue. If demand is price elastic, as prices fall, this will lead to a more than proportionate increase in quantity demanded, which leads to a rise in total revenue. On the other hand, if demand is price inelastic, as prices rise, there will be a less than proportionate fall in quantity demanded, hence raising total revenue also. The implication here for car producers is that they can make use of this knowledge to determine their pricing strategies.

For example, the many major car producers have competitors producing similar products e.g. Toyota, Volkswagen and Hyundai. Therefore, such cars are relatively elastic in demand because they have many substitutes. Therefore such producers should lower the price to increase total revenue.

On the other hand, some exotic or luxurious car producers such as Ferrari or Rolls Royce have fewer competitors and very a differentiated product, so the demand for their cars is relatively price inelastic. Hence, such car producers should lower raise the price to increase total revenue.

YED is also useful to car producers. Normal goods have positive YED, where a normal necessity has a YED between 0 and 1, whereas a normal luxury good has a YED of more than 1. A normal good is defined as any good whose demand increases as income increases, where a necessity has a demand curve that increases less than proportionately to an increase in income, whereas a luxury has a demand curve that increases more than proportionately to an increase in income. Hence firms should produce more normal goods in general if the general level of income rises in an economy.

On the other hand, inferior goods have negative YED. An inferior good is defined as any good whose demand increases as income decreases. Hence, firms should produce more inferior goods when there weak economic growth and income decreases.

Also, the higher the magnitude of YED, the greater the extent of the change in demand and hence the more the firm should respond in producing output. For example, Geely and Cherry QQ are inferior goods and more should be produced in a downturn, whereas Nissan and Toyota are normal (can be considered normal necessity) goods and more should be produced in an upturn, and Ferrari and Porsche are normal luxuries, and even more should produced in an economic upturn. Therefore, even the extent of the change matters when it comes to producing output.

In conclusion, PED and YED are very useful concepts for car producers. On the other hand, it is more likely that producers may aim to maximise profits than revenue, hence, knowing elasticity is insufficient because we also need to consider costs. Total profit is equal to total revenue minus total cost. Furthermore, elasticities are estimated based on past data, and therefore may not be very useful if current economic conditions have changed drastically. Hence, in my opinion, elasticity concepts – while important – need to be understood in their nuances.

Junior College Economics Essays - Tutor's Commentary: This is the second part (part (b)) of the question addressed earlier, written by the same hardworking, clever student of mine, and was written under timed, stressful, examination-like conditions. (Of course, he did write the paper after consultation with me, and then I did work through the paper again to clean it up and improve upon our joint project... but that's another story.) The real question is: is it possible to write this under examination conditions? The ANSWER: It is definitely possible to craft a paper of this standard or EVEN better whilst under examination conditions during the A levels. However, do remember to add in diagrams (what diagrams would be really useful here?) and explain those diagrams to convince your Economics examiner to give you a really good grade.