5.3 Elasticity and pricing  (Page 2/18)

What if the band keeps cutting price, because demand is elastic, until it reaches a level where all 15,000 seats in the available arena are sold? If demand remains elastic at that quantity, the band might try to move to a bigger arena, so that it could cut ticket prices further and see a larger percentage increase in the quantity of tickets sold. Of course, if the 15,000-seat arena is all that is available or if a larger arena would add substantially to costs, then this option may not work.

Conversely, a few bands are so famous, or have such fanatical followings, that demand for tickets may be inelastic right up to the point where the arena is full. These bands can, if they wish, keep raising the price of tickets. Ironically, some of the most popular bands could make more revenue by setting prices so high that the arena is not filled—but those who buy the tickets would have to pay very high prices. However, bands sometimes choose to sell tickets for less than the absolute maximum they might be able to charge, often in the hope that fans will feel happier and spend more on recordings, T-shirts, and other paraphernalia.

Can costs be passed on to consumers?

Most businesses face a day-to-day struggle to figure out ways to produce at a lower cost, as one pathway to their goal of earning higher profits. However, in some cases, the price of a key input over which the firm has no control may rise. For example, many chemical companies use petroleum as a key input , but they have no control over the world market price for crude oil. Coffee shops use coffee as a key input, but they have no control over the world market price of coffee. If the cost of a key input rises, can the firm pass those higher costs along to consumers in the form of higher prices? Conversely, if new and less expensive ways of producing are invented, can the firm keep the benefits in the form of higher profits, or will the market pressure them to pass the gains along to consumers in the form of lower prices? The price elasticity of demand plays a key role in answering these questions.

Imagine that as a consumer of legal pharmaceutical products, you read a newspaper story that a technological breakthrough in the production of aspirin has occurred, so that every aspirin factory can now make aspirin more cheaply than it did before. What does this discovery mean to you? [link] illustrates two possibilities. In [link] (a), the demand curve is drawn as highly inelastic. In this case, a technological breakthrough that shifts supply to the right, from S ₀ to S ₁ , so that the equilibrium shifts from E ₀ to E ₁ , creates a substantially lower price for the product with relatively little impact on the quantity sold. In [link] (b), the demand curve is drawn as highly elastic. In this case, the technological breakthrough leads to a much greater quantity being sold in the market at very close to the original price. Consumers benefit more, in general, when the demand curve is more inelastic because the shift in the supply results in a much lower price for consumers.