Price elasticity of demand is the measure of the responsiveness of a demand change resulting from a price change of the good. The article states that “the Liv-ex 100 wines index, which tracks the prices of 100 fine wines, has risen by 55% in the last year”.
Diagram 2
As the diagram shows, fine wines are price inelastic in demand. When the producer increases the price from P2 to P1, the quantity falls less than proportionally i.e. from Q2 to Q1. Thus, Rectangle B is gained whereas Rectangle C is lost thereby increasing the Total Revenue. Thus, the producers of fine wine have greatly increased their prices as seen in the net worth of the fine wine market which is “now worth more than £1 billion ($1.9 billion)”.
The determinants of the price elasticity of demand for fine wine justify the price inelastic nature of fine wines. Since there are very few close substitute goods to fine wines, fine wine is a potentially addictive good, and since large amounts of company budgets are spent on branding and advertising of fine wines, the price tends to be relatively unimportant to the quantity of fine wine demanded.
The law of supply states that (ceteris paribus), the higher the price of a product the more sellers will supply. However, as seen in the case of fine wine, factors other than the price determine the quantity of the wine supplied. These factors are also known as the determinants of supply.
Diagram 3
As the diagram shows, there has been an outward shift in the supply curve S1 to give demand curve S2. This shift results in an increase in the quantity of wine supplied from Q1 to Q2 although the price P1 remains constant. The shift occurs because of a decrease in cost of production of the wine, which occurs because wine producers do not have to pay attention to the taste of the wine while producing (further leading to a decrease in costs of wine storage). As the article states, the bidding for fine wine was “33% higher when tasters could only see the bottle than it was with blind tasting” implying that the wine's taste proved relatively unimportant.
Presently the fine wine market is growing rapidly. In the short run producers will continue to increase the prices of the wine as consumer incomes increase, costs of production are low and consumer tastes and preferences remain the same because these factors are likely to lead to a further increase in quantity of fine wines demanded. Thus, total revenues in the currently lucrative fine wine market will continue to rise.
However, in the long term the price of the fine wine may become unaffordable for the average consumer thereby leading to a possible decrease in quantity demanded. Nevertheless, the fine wine producers will then tend to under-supply so as to further increase the prices only catering to the richer section of society. As a price inelastic good, fine wine will continue to be bought by the richer consumer leading to a steady margin of profit for the producers.
Another long term possibility is that a continuing price rise and changing tastes and preferences will result in consumers’ looking for substitutes such as champagne to fulfill demand. Thus, there might be a fall in the quantity demanded for fine wine even though the supply remains high. This will create a glut of fine wine resulting in plunging prices in the fine wine market. This may lead to sudden decrease in total revenues and perhaps even a slump in the currently booming fine wine market.
