Some Applications of Price Elasticity of Demand

Here are some applications of the price elasticity of demand that will enable you to grasp the importance of the concept.

Drug legalization - should it be done?
Take the case of drug legalization. Some people think that drugs should be legalized because legalization will increase the supply of drugs (shift supply curve to the right) and bring prices down. Lowering prices of drugs will lower drug related crimes. They also think that legalization and lowering of prices will not lead to any perceptible change in quantity demanded because only those who are addicts use drugs – new consumer will not start taking drugs because prices are lower. The opponents of drug legalization base their argument by saying that research shows that demand for drugs is price elastic. With legalization price will go down and that will bring many more people buying drugs – there will be people who will consume drugs more regularly now that drugs are cheaper, there will also be people who will use drugs as substitutes for alcohol. With more drugs, there will be more crimes. Thus the opponents of drug-legalization conclude (based on the elasticity theory) that drug-legalization will create more problems in the society.

Minimum Wages - does it make sense to increase it?
Like in any other economic issues there are proponents in favor of highering minimum wages and there are opponents who are against highering minimum wages. The argument will depend on whether the demand for labor (the type that works for minimum wages) is truly elastic or truly inelastic.
If demand for labor is inelastic, then raising minimum wages will raise the income of this group of population which is a desirable outcome. However, if demand for labor is elastic, a rise in minimum wages will lead to a significant reduction in the quantity of labor demanded (which means a significant number of job-cuts of people employed with minimum wages) and will result in a decline of income of this group of population.

Why do airlines have low fares on 14 day advanced purchase?
Why do you think airlines offer a much lower fare for passengers who make 14 day advanced purchase or make a Saturday night stay? The reason is simply that airlines want to figure out passengers whose demand for airline tickets is highly elastic and passengers whose demand is highly inelastic.

For passengers with high price elasticity, the airlines will provide low airfares which will attact many customers and hence secure high revenues for the airlines. The passengers who will not purchase on 14 day advance notice and not want to stay on Saturday nights are likely to be business travellers with inelastic demand for airlines. These passengers will mostly travel on immediate or short notices from their companies and will purchase tickets at much higher prices. The airlines therefore charge these passengers higher prices and again secure higher revenues.

Why do Department stores offer special Midweek sale or Early Bird sale?
Why do you think stores like Hechts offer special midweek sales on Wednesdays with sales flyer proclaiming "50% off sale prices are effective only on Wednesday" that are not available to the folks shopping on weekends? Or why do some stores offer early bird sale proclaiming "50% off only for shoppers between 7am - 10am" and offer only a 30% price deduction after 10am.

Again, the idea behind special Midweek sale or early bird sale is that the stores want to differentiate customers with high price elasticity and those with low price elasticity. The stores in these cases are trying to lure housewives and other people who are able to come to the store on a weekday or in the early hours of the day. These people are likely to have very elastic demand for the products. By lowering the prices for these customers the department store is likely to have raised total revenue. On the weekend, the store may just run a sale with "30% off sale price" since the weekend shoppers are likely to be people with relatively inelastic demand.

Wide expansion of cellular phones have raised some company profits
In recent years there has been a wide expansion of users in the cellular phone markets. In many markets in the world, with falling prices of cell phone calls, consumers have started using more minutes on their cell phones and many new consumers have come to purchase cellular phones. It is obvious that demand for cellular phones is highly price elastic.