Microeconomics. How is elasticity a useful concept for firms and government?Consider a local bus company. How (if at all) does the marginal cost of providing transport for each passenger vary according to the time of day?

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Microeconomics Coursework

  1. How is elasticity a useful concept for firms and government?

Elasticity, which according to A.Neale and C.Haslam “Economics in a business context” is a term “used in economics to describe the relationship between a proportionate change in one variable and a proportionate change in a related variable”. Plain-speaking it is the measure of how one aspect of a products make-up, be it the price, or supply of available substitutes, will affect another. Elasticity demonstrates the relationship one factor such as price has on another such as demand.

It is a useful concept for firms because the main goal of any organisation is to maximise profits. A firm will not just increase the price of a product without investigating the possible effects on demand. Elasticity can be used by a firm to clear a surplus. It is a useful concept for Government because it is important that they know what to collect indirect taxes from. Petrol, cigarettes and alcohol are often targets for taxation, whereby the government can receive an income to spend on public services. These items have a low price elasticity of demand, that is the consumer will be less likely to buy another product should the price be changed.

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 The main determinants of elasticity include: Availability of substitutes, the period of time, the product price in relation to the income of the consumer, the price of production and the state of technology.

For firms to maximise profits and for government to tax people effectively and maximise their income the causes of a change in demand need to be identified. The main reasons for a change in demand are: Changes in tastes or fashions, changes to peoples disposable income, changes in population and changes or predicted changes in the future availability of goods. Two main assumptions are made, ...

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