Do you think the price elasticity of demand for Ford sport-utility vehicles (SUVs) will increase, decrease, or remain the same when each of the following events occurs? Explain your answer
The correct answer and explanation is:
Sure! Let’s explore how the price elasticity of demand (PED) for Ford SUVs would change with each scenario. PED measures how sensitive the quantity demanded is to a change in price. If demand becomes more responsive to price changes, PED increases (becomes more elastic), and if demand becomes less responsive, PED decreases (becomes more inelastic).
Event 1: Other car manufacturers begin to offer similar SUVs at lower prices.
Answer: Price elasticity of demand will increase (demand becomes more elastic).
Explanation:
When competitors start offering similar SUVs at lower prices, consumers gain more substitutes. Price elasticity of demand is highly influenced by the availability of substitutes—more substitutes mean consumers can easily switch to another product if the price of Ford SUVs rises. As a result, demand for Ford SUVs becomes more sensitive to price changes. In economic terms, with more alternatives, the cross-price elasticity of demand between Ford SUVs and competing brands increases. This leads to a higher price elasticity of demand for Ford SUVs, as buyers are less likely to tolerate a price increase when lower-priced, similar options are available. Ford must then be more cautious with pricing, as any increase could lead to a significant loss in sales.
Event 2: A major oil company announces a significant rise in future gasoline prices.
Answer: Price elasticity of demand will increase (demand becomes more elastic).
Explanation:
A projected rise in gas prices affects the operating cost of gas-guzzling vehicles like SUVs. Consumers may begin to consider fuel efficiency more heavily when deciding on a car, making them more price-sensitive when it comes to SUVs. This heightened sensitivity causes the demand for Ford SUVs to become more elastic. Even if the price of the vehicle itself stays the same, the higher expected fuel cost acts like an effective price increase, discouraging purchases and encouraging shifts to more fuel-efficient alternatives.