The following points highlight the top five applications of the concept of price-elasticity of demand.
1. The producer or seller of a good takes into consideration the elasticity of demand for his product while deciding on the price of the good or a change in the price.
If the numerical coefficient of price-elasticity of demand, e, is less than one (e < 1), then he would tend to charge a relatively higher price for his product, for here the proportionate fall in quantity demanded (q) for the good would be less than the proportionate rise in its price (p), and so, here, as p rises, the revenue of the seller would also rise.
On the other hand, in the event of e being greater than one (e > 1), the seller would tend to charge a relatively smaller price, for here the proportionate rise in q would be larger than a proportionate fall in price, and so, as p falls, the revenue of the seller will rise.
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2. When the government of a country imposes an indirect tax on the production and/or sale of a good, the price of the good will tend to rise, for the producers and sellers add the money to be paid as tax to their respective costs.
Now, by how much the demand for the good will fall when its price rises would depend on the value of e for the good. If e is relatively large, then the proportionate fall in its demand would also be large as its price rises.
Consequently, the money collected as tax would also be smaller, and, owing to the fall in demand, there may be a crisis in the concerned industry. Therefore, before imposing a tax on a good, the government would have to consider the data regarding the elasticity of demand for the good.
3. In the labour market also, the price of labour or rate of wage (W) would depend on the elasticity of demand for labour. If the demand for a particular type of labour is relatively inelastic, i.e., if it is relatively difficult to reduce the demand for labour as W rises, then the trade unions demand higher W.
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4. In the field of international trade, the terms of trade of a country would depend on the relative elasticity of demand for her export goods and import goods. The relative elasticity would determine whether the country would get a higher price for her exportable as compared to the price it pays for her imports.
If the elasticity of demand for her export goods is less than that for her import goods, then the price of the export good would be more than that of the import goods and, in that case, the terms of trade would be in favour of the country.
On the other hand, if the elasticity of demand for the import goods is less than that for the export goods, then the price of the import goods would be more than that of export goods and, consequently, the terms of trade would go against the country.
5. Sometimes, in order to remedy the crisis arising out of an adverse balance of payments, a country has to devalue its currency. As a result of devaluation the price of the export goods of the country diminishes and that of its import goods increases.
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Now, if the demand for the country’s export goods in the international market is relatively more elastic and that for the country’s import goods also is relatively more elastic, then, due to devaluation, the demand for the export goods would increase considerably and that for the import goods would decrease considerably. As a result, the balance of payments crisis of the country would be resolved.
On the other hand, if the elasticities of demand for both export and import goods are relatively less, then, as a result of devaluation, the demand for the export goods would not rise although the prices of these goods would fall, neither would the demand for imports fall although the price would rise. If exports do not rise and imports do not fall, the balance of payments problem would not be remedied.
In the fields of economic decision-making, help of the concept of elasticity of demand can be taken. That is why this concept is considered to be one of the most important ideas of economic theory.