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Economics calculate elasticity and use the consumer choice theory to determine marketability of various commodities. Elasticity differs among items since some items are more essential to consumers than others are (Davis). The consumer choice theory is essential in determining the most attractive markets. However, it has certain shortcomings.
The difference in elasticity is caused by the variations in the level of demand for different products. Goods and services that are necessities are insensitive to cost alterations as consumers usually purchase these items regardless of cost adjustments. Price increase of an item that is less of a necessity puts off more customers since the opportunity cost of acquiring the items becomes too high.
A product is highly elastic if an insignificant alteration in its price leads to an acute change in the supply or demand of the product. Commonly, such items are accessible in the market at all times, but consumers rarely purchase them. Conversely, an inelastic commodity is one in which price alterations may only lead to modest changes in the quality supplied and demanded. These commodities are those that tend to be more of a necessity to the customer in his/her everyday life (Moffatt).
The equation for finding elasticity is percentage change of the amount of products demanded for divided by the percentage change in cost. If elasticity is equal to or greater than one, the good/service is elastic. Economists say that the higher the rate of elasticity, the lower the market for the product when the price increases. The opposite is also true. Economists and business people use the formula to understand how sensitive the demand for particular goods/services is to changes in price (Hubbard 82).
To determine elasticity of goods and services, economists analysis demand curves. When the amount of products demanded diminishes significantly due to a negligible adjustment in cost, the demand curve becomes flat, and this shows that the demand for the product is elastic.
On the other hand, when the curve is upright the demand is inelastic, as quantity adjusts modestly with massive alteration in cost. Elasticity of supply functions in a similar manner. When changes in supply result into a massive change in quantity supplied, the supply curve flattens and the commodity is elastic. In this case, the elasticity is higher or equal to one (Davis). However, if a substantial change in price does not have a major impact in the quantity supplied, the curve becomes steeper. Its elasticity becomes less than one.
The theory of consumer choice is another vital trading tool. It is based on the hypothesis of utility and marginal utility. Economists use the terminology utility to express the contentment resulting from the consumption of a product. They say that consumers act sensibly while choosing the preferred products to exploit total utility. According to the theory, consumers always take into consideration four main factors.
First, they consider how much satisfaction they derive from purchasing and subsequently consuming an extra unit of a product. Next, they consider the amount of money that they have to pay to acquire the product and ensure they do not lose their money. Moreover, they consider the degree of satisfaction they can derive from consuming substitute products. Finally, they evaluate the prices of the substitute products (“Theory of Consumer Choice”).
The experts use the term marginal utility to explain change in satisfaction that results from the consumption of each additional product. The theory of diminishing marginal utility articulates that the marginal utility resulting from consuming a good/service decreases as the consumption of that product increases.
The theory of consumer choice states that a rational consumer spends on his/her earnings in a manner that maximizes the total utility arising from all commodities consumed. For example, in case a customer intends to buy one good out of two differently priced products, total utility will be achieved when the satisfaction arising from commodity A is equal to the satisfaction arising from commodity B.
In this case, the total marginal utility of A and B becomes equals to that of another similar good. Therefore, when the price of product A diminishes, the equality becomes an inequality and the consumer chooses a cheaper preference. The consumer will buy more of the product, if he/she receives more utility from it. The theory is essential as it forecasts demand and supply (“Theory of Consumer Choice”).
However, the theory also faces criticism. Some economists assert that it is not possible to measure utility impartially, as there are no systems for doing the work. Moreover, they have reservations regarding the hypothesis of rational behavior among consumers. They say consumers do not have all the information on the products available in the market and therefore cannot make rational decisions (Moffatt).
The consumer choice theory, however, is a useful economic tool for determining appropriate trading patterns. Elasticity forecasts levels of demand and supply. The elasticity formula is easy to use, and all entrepreneurs can use it to improve their understanding of their markets.
Works Cited
Davis, Marc. “Microeconomics: Introduction | Investopedia.” Investopedia – Educating the world about finance. n.p., n.d. Web.
Hubbard, R. Glenn, and A. P., Brien. Microeconomics. Upper Saddle River, N.J.: Pearson Prentice Hall, 2006. Print.
Moffatt, Mike . “Price Elasticity of Demand.” Economics at About.com. N.p., n.d. Web.
“Theory of Consumer Choice – indifference curves, consumers’ optimal choice.” Business Economics | Introduction to Basic Economics. n.p., n.d. Web.
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