Elasticity of supply and demand in the airline industry

Elasticity is define as the “quality sth has being able to stretch and return to its original size and shape”. (Oxford advanced learners dictionary 6th edition)

In Physics elasticity is defined as “the property of a substance that enables it to change its length, volume, or shape in direct response to a force effecting such a change and to recover its original form upon the removal of the force.” (dictionaryreference.com).

Suppose that your employer allows you to work extra hours more after your contracted hours for extra pay at the end of the month, the amount of extra money you will earn at the end of the month will depend on how much more extra hours you are able to work. Then how responsive you are to this offer can be seen as elasticity.

Therefore I will define elasticity as the measure of degree of responsiveness of any variable to extra stimulus.

From my example above elasticity can be calculated as

Em = percentage of extra money you earn/percentage of extra hours worked.

The concept of elasticity can be used to measure the rate or the exact amount of any change. In economics elasticity is used to measure the magnitude of responsiveness of a variable to a change in its determinants (sloman) such as (demand and supply) of goods and services.

For the purpose of this essay am going to be examining the concept of elasticity of demand and supply in the airline industry.

Types of Elasticity

• Price or own price Elasticity of demand
• Income elasticity of demand
• Cross elasticity
• Price or own price elasticity of demand

It is the measure of the degree of sensitivity or responsiveness of quantity demanded is to a change in price of a product (Edgar.K. browing). Our assumption often is that all demand curves have negative slopes which means the lower the price the higher the quantity demanded but sometimes the degree of responsiveness vary from product to product. For example a reduction in the price of cigarettes might have only bring about a little increase in quantity demanded whereas a supermarket reduction in the price of washing up liquid will produce a big increase in quantity demanded The law of demand and even Common sense tells us that when prices change, the quantities purchased will change too. However, by how much? Businesses need to have more precise information than this – they need to have a clear measure of how the quantity demanded will change as a result of a price change.

Price elasticity is calculated as the percentage (or proportional or rate) of change in quantity demanded divided by the percentage (or proportional or rate) of change in its price.

Symbolically:

PЄD=%ΔQ/%∆p

Here Є denotes elasticity and ∆

Graphically

Elasticity measure in percentage because it allows a clear comparison of changes in qualitatively different things which are measured in two different units(sloman). It is the only sensible way of deciding how big a change in price or quantity, so their calls a unit free measurement.

Generally when the prices of good increases the quantity demanded decreases, thus either of the number will be negative which after division will end up in a negative result, due to this fact we always ignore the sign and just concentrate on the absolute value, ignoring the sign to tell us how elastic demand is.

The larger the elasticity of demand, the more responsive the quantity demanded is of elasticity.

Degrees of elasticit:

1. Perfectly elastic
2. Highly elastic
3. Relatively elastic
4. Relatively inelastic
5. Highly inelastic
6. Perfectly inelastic

Elastic Demand

Elastic demand occurs when quantity demanded changes by bigger percentage than price.(Sloman) Here customer has lot of other alternative. The value is always higher than 1, the change in quantity has a bigger effect on total consumer spending than in price. For example if there is a reduction in the price of a bottle of washing up liquid say from £1.00 to 50p people will buy more probably to store up, in doing this they will end up spending more on the product than they will do on a normal day.

An Inelastic Demand

Elasticity in airline industry

The airline industry is deeply impacted by the elasticity of demand, externalities, wage inequality, and monetary, fiscal, and federal policies. The elasticity of demand is based purely on current market conditions, thcustomer’s September 11th tragedy had a negative affect on the entire travel industry. It impacted the fiscal and monetary policies, supply and demand, and it created staffing problems nationwide. The rate of wage inequality is improving due to legislation that has created a pay increase in participating cities across the United States. The airline industry is viewed has being unstable because it is based on current market conditions, and the market is always changing. purpose for travel, and available substitutes. Externalities continue to influence the elasticity of demand. The

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Elasticity of Demand

The airline industry is an extremely unstable industry because it is highly dependant upon current market conditions. Events such as inflation, terrorist attacks, and the price of oil have greatly influenced the demand for airline tickets throughout the years. Competition consistently affects the price of airline tickets because it gives the customer other options. Substitutes that are existence is traveling by train, car, or avoiding travel whenever possible. Customers have resorted to all named substitutes during turbulent times in our economy. The elasticity of demand is greatly affected by the customer’s purpose for travel. Airline customers typically fly for business or pleasure. With the wave of technology, a large percentage of business travel has been eliminated to conserve spending.

Elasticity

In the airline industry, price elasticity of demand is separated into two segments of consumers and is considered to be both elastic and inelastic. A good example of how elastic demand is related to the airline industry is in relation to travel for pleasure. Pleasure travellers will be affected by the amount of travel they do based on the demand increase or decrease, affected by prices that lower with high demand or prices that rise with low demand; directly attributed to competition in this market (Gerardi & Shapiro, 2007). Inversely, the business traveller would apply to an inelastic demand for this market. This has shown by demand increases or decreases, as well as the price distribution attributed, which has little effect on the buying power of the business person (Gerardi & Shapiro, 2007). Furthermore, Voorhees and Coppett (1981) explain that elastic demands exist for the pleasure traveler due to demand increase rising while prices lower and vise versa. The business traveler experiences an inelastic demand due to the quantity of service demanded and quantity has not decreased as prices have risen. In other words, this travel is seen as a necessary business tool, not affected by price changes in the demand curve.

As we have seen, the airline industry is extremely price elastic. Small shifts in prices have dramatic effects on the consumer base. Externalities, such as noise ordinances, can cause negative effects, driving cost

upward and threatening loss in demand due to a price sensitive customer base. Since deregulation, competition in the economy have kept prices in the industry low and have caused airlines to force cuts in areas such as wages; contributing to a growing concern of wage inequality.

Refrences:

Gerardi, K., & Shapiro, A. (2007, April). The Effects of Competition on Price Dispersion in the Airline Industry: A Panel Analysis. Working Paper Series (Federal Reserve Bank of Boston), 7(7), 1-46. Retrieved April 30, 2008, from Business Source Complete database.

Mankiw, N. G. (2004). Principles of economics (3rd ed.). Chicago, IL: Thomson South-Western.

Morrison, S., Watson, T., & Winston, C. (1998). Fundamental Flaws of Social Regulation: The Case of Airplane Noise. Retrieved May 8, 2008, from http://www.brookings.edu/~/media/Files/rc/papers/1998/09_airplane_winston/09_airplane_winston.pdf

Voorhees, R., & Coppett, J. (1981, Summer). New Competition for the Airlines. Transportation Journal, 20(4), 78-85. Retrieved April 30, 2008, from Academic Search Premier database.