- Inelastic demand significantly impacts your personal finances and spending habits, but you’re probably unaware.
- Inelastic demand can be negative for consumers but a chance for higher profits for producers.
- Inelastic demand has many implications in both the economics and psychology of consumer behavior.
- You must be aware of your monthly spendings and habits to manage inelastic demand successfully.
When the demand for a product or a service remains unchanged by variations in their price, it can impact your personal finances and spending habits. Economists refer to this phenomenon as inelastic demand.
For example, if the price of a product or service with inelastic demand decreases, you probably won’t even feel a change in your overall monthly expenses. This means that inelastic demand impacts your pocket without you being aware of it.
Inelastic demand is a concept of consumer behavior, and it’s worth understanding its implications on your personal finances and spending habits. That said, let’s delve into the psychology of inelastic demand and help you make more informed financial decisions.
Understanding Inelastic Demand
To put it in a nutshell, inelastic demand is when the demand for a product or service remains unaffected regardless of the increase or decrease in the price. Products with inelastic demand are usually everyday necessities – essential and highly valuable.
The perfect inelastic demand example is gasoline. If you live in a car-dependent place, you know that gasoline is one of your everyday essentials – whether you need to get to work, take your children to school, or maybe run an errand. So, basically, even if the price of gasoline goes up, you’ll still buy it, as you need it to fuel your vehicle.
Cigarettes are slightly different but still a great example of inelastic demand. Smokers would agree that no matter how expensive cigarettes get, that won’t affect their addiction or desire to smoke. Instead, they’ll still be willing to pay a higher price for cigarettes, even if this means they’ll cut off other expenses.
Factors Making a Good or Services Inelastic
Taking the above into account, there are several factors that make a good or service inelastic, including:
- Necessity. When a good or service is a necessity, such as gasoline, consumers will continue buying it despite the price hike.
- Addiction. If the good or service is addictive, such as the example with cigarettes, consumers will continue to pay a higher price for it. This is because addiction can lead you to think you’re dependent on a product, which is why you’ll probably make irrational financial decisions.
- Substitute. Consumers will pay a higher price for it if there’s no close substitute for a good or service. For example, when there’s no substitute for certain medications to treat a certain illness.
- Income. Consumer income is considered inelastic because even if they somehow have a decrease in salary, they’ll continue purchasing necessary or addictive products, such as cigarettes.
- Time. When consumers don’t have enough time to adjust their spending habits, they’ll buy a product or service for a higher price. For example, if they have to buy medications immediately, they’ll purchase them without worrying about their price.
Elastic vs. Inelastic Goods or Services
When comparing elastic vs. inelastic goods or services, the main difference lies in how sensitive the quantity demanded is to fluctuations in the price. Contrary to inelastic demand, elastic demand happens when price changes significantly impact the quantity of goods or services you’re willing to purchase.
The perfect examples of elastic goods or services are luxury products such as high-tech cars, gold, high-end watches, vacations and restaurant meals. Basically, if the price of a ticket to Hawaii rises by 10%, you’ll most likely wait until it drops again to purchase it.
How Inelastic Demand Affects Your Finances
Inelastic demand undoubtedly has a significant impact on your finances. To better understand it and its impact on your finances and spending habits, we’ll look at several factors.
The Relationship Between Price Changes and Demand
The relationship between price changes and demand is often explained through an inelastic demand curve. So basically, the curve shows you that when the price of a good or service increases, there is no decrease in its demand. In other words, even if the price of a product or service significantly increases, you’ll still buy it in case it’s necessary or addictive.
On the other hand, goods or services with elastic demand curves will experience a more significant decrease in the quantity demanded if the price increases. This is mostly because you don’t tend to see luxurious items or expensive trips essential for your day-to-day life.
Understanding inelastic demand and the relationship between price changes and demand is important. It allows you to manage your household budget successfully and make more informed financial decisions.
How Inelastic Demand Impacts Prices
While inelastic demand can have a negative impact on a customer’s spending, it can actually be a positive thing for suppliers. They can increase prices and not worry about losing customers.
This can actually lead to an increase in revenue for the supplier. Let’s take a gas station as an example. If the price of gasoline increases, you, as a consumer, will continue purchasing the same amount, as it’s an everyday essential.
Suppose the gas station owner decides to raise the price of gasoline to $4 per gallon; we’re actually talking about a perfectly inelastic demand curve. You’ll still continue purchasing the same amount; however, the gas station now makes much more money per gallon sold. Basically, the increase in revenue from the higher price neutralizes the decrease in quantity demanded.
On the other hand, when there’s an elastic demand, suppliers must be careful about setting prices, as even a small increase can lead to a decrease in sales and losing customers.
When comparing inelastic vs. elastic, we see that inelastic demand allows suppliers to play with the price. On the other hand, elastic demand means they have to be careful when setting a price for goods or services.
Implications for Household Budgets
The implications of inelastic demand on household budgets are significant, especially since we’re talking about essential everyday goods and services. The best inelastic demand examples are household utilities, such as electricity, water or gas. Consumers will continue paying them without the price hike.
This means that the vast majority of that household will go towards those expenses. They can’t reduce the quantity of those inelastic goods or services, as it will otherwise impact their quality of life. Ultimately, they’ll have to cut off on other expenses to maintain their spending on essential goods and services.
Strategies for Managing Inelastic Expenses
Inelastic demand is real and has implications on your finances, but there are some strategies you can consider to manage it.
Reduce the use of inelastic goods and services. This might be hard, but you can try saving electricity by turning off lights or using energy-efficient bulbs. Compare the prices of inelastic goods or services across different shops to find the most affordable one.
Last but not least, you can try to increase your monthly income. For example, you can find an additional source of income, such as a part-time job, or maybe turn to investments.
Examples of Inelastic Demand in Practice
To understand inelastic demand even better, let’s take a look at some examples of inelastic demand you can find in practice.
Healthcare and Medical Services
We can often find inelastic demand in healthcare and medical services. That’s why consumers will probably never cut off on medical expenses, no matter how much the price rises.
Sadly, many households can’t afford essential medical care, meaning they’ll have to allocate their whole expenses to it. On the other hand, healthcare providers can increase prices when they decide.
To sum it up, inelastic demand is the culprit why healthcare and medical services aren’t more affordable and available to everyone, regardless of their income. So basically, it’s up to healthcare providers to have common sense and not take advantage of their pricing power.
Basic Necessities
Basic necessities are goods or services that you’re not able to substitute, such as water, food and electricity. They usually have an elasticity of demand close to zero, meaning the changes in their price have little to almost no effect on the quantity of demand.
The inelastic demand for basic necessities affects both consumers and producers. For consumers, it means they’ll continue purchasing these goods and services despite the increase in their price, as they need them to satisfy their daily needs.
However, this allows producers to play with the price of basic necessities and increase their prices. They still have a responsibility to ensure their products and services are affordable to everyone.
Public Transportation
Public transportation is a classic example of inelastic demand, as the vast majority rely on it to get to work or school, especially in car-dependent places. That’s why the demand for public transportation is usually unaffected by the changes in its price.
Similar to basic necessities, inelastic demand for public transportation has implications for both consumers and providers. You, as a consumer, will continue paying for public transportation, despite the price hike, while providers have freedom when it comes to deciding on a price.
However, providers have a responsibility to make public transportation affordable to everyone. That’s why public transportation usually doesn’t cost as much and many offer discounted fares.
Education and Student Loans
Another example of inelastic goods and services in practice is the education system and student loans. Nowadays, every parent wants to make sure their kid is well-educated and their future is secured. That’s why the demand for education isn’t very sensitive to changes in its price.
For example, children coming from low-income households tend to take student loans to pay for their education. Due to inelastic demand, if the cost of education increases, students will still take that loan to secure their education.
For providers, this means they literally have all the freedom in the world to charge higher prices for education. However, they are generally responsible for making education services affordable and accessible to every student willing to learn, regardless of their income.
The Psychology of Inelastic Demand
Besides economic implications in everyday life, inelastic demand can also be found in the world of psychology. That said, let’s take a look at some factors that explain the implication of inelastic demand in psychology.
Factors Influencing Consumer Behavior
The psychology behind inelastic consumer behavior can be influenced by several aspects, such as:
- Personal preferences. First and foremost, personal preferences play a huge role in terms of inelastic demand in psychology. This can create a situation where some of them are willing to pay higher prices for inelastic goods or services.
For example, your morning routine involves drinking coffee from a particular brand. This means you’re more likely to continue purchasing it if the price increases, even if there are brands that offer cheaper options.
Despite the price increase, many people will continue spending on luxurious items such as high-end cars, gold jewelry or expensive vacations.
- Income level. Next, the income level also impacts inelastic demand in psychology. Consumers with higher incomes usually have more inelastic demand for goods and services because they can afford them.
This means that consumers with higher incomes are more likely to be less sensitive to fluctuations in price than households with a lower income.
- Substitutes. The availability of substitutes also plays a huge role in determining the elasticity of demand. For example, goods or services that don’t have a substitute (e.g., gas) are more likely to be inelastic, opposing those that can easily be substituted (e.g., chocolate or coffee brands).
- Social Pressure. If you take a look at the world we live in, you’ll notice that many people would rather be head over heels in debt than be on a lower pedestal in their community. This means they’ll still purchase an iPhone to show off, even if the price is incredibly high.
The Role of Habit and Addiction in Inelastic Demand
You’ll be surprised to know how big of an impact habits and addiction have when it comes to inelastic demand. For example, if you have a habit of drinking your morning coffee in that particular restaurant, you’ll likely continue to do so even if they increase their prices.
Moreover, addiction is also extremely powerful in driving inelastic demand. People addicted to nicotine are a very good example. They will stop at nothing to satisfy their nicotine addiction and continue purchasing cigarettes even if the prices are sky-high.
Overall, inelastic demand can impact your spending habits and finances, but when it comes to personal preferences as well as addiction, you can try to be more aware of potential financial consequences and change a few things.
The Impact of Advertising and Marketing on Inelastic Demand
This comes down to the role of marketing in today’s world and how advertising and promoting certain goods or services can shape consumer preferences and behavior.
By doing so, advertisers and marketers can turn the cards in their favor. They influence demand by leading consumers to think they can’t live without their product or service. They usually do this by implementing storytelling and by speaking in a more emotional tone.
For example, they might hire an influencer or celebrity to promote their product or service. This can evoke a sense of uniqueness and exclusivity in consumers.
Additionally, advertising and marketing can create a sense of brand loyalty, which can also result in inelastic demand. If you already trust a brand, you’re more likely to continue purchasing from them even if they increase their prices.
There are also consumers that are willing to pay a higher price just to own a product from a recognizable brand, even if there are a lot of similar alternatives with lower prices.
Conclusion
Overall, inelastic demand significantly impacts your finances and spending habits. It is a real concept that affects your financial life without you even noticing. While some inelastic demand examples cannot be easily managed, there are those that lie in your hands.
Manage the impact inelastic demand has on your spending habits and finances. Be aware of your personal preferences to make more informed financial decisions based on your needs, values and priorities.
This might mean you’ll have to cut off on products and services you like but still have money for basic necessities. That’s why, you should consider making a monthly budget plan to be aware of your spending and balance them between necessities and desires.
