Elasticity and Prediction

Elasticities are essential tools for estimating the sales response to possible Price changes. Let us take an example to show how sales can be predicted with elasticity coefficients. For instance, the short-term (i.e., three-year) price elasticity of demand is - 0.3. This indicates that if the average price of gasoline were to increase from -Re. 1.00 to Rs 1.20 per gallon (a 20 per cent increase), consumption of gasoline (in gallons) would fall by only 6 per cent (- 0.3 × 20%). This is estimated by rearranging the price elasticity equation as follows

ΔQ/Q = Ep[ Δ P/P]

How does one estimate the impact on sales from changes in two or more factors that affect demand? Further, suppose the price and income elasticities for non-business air travel are Ep =- 0.38 and Ey=1.8, respectively. In the coming year, average airline fares are expected to rise by 8 per cent and income by 5 per cent. Now, what will be the impact on the number of tickets sold to non - business travellers? The answer is found by adding the separate effects due to the change

 ΔQ/Q = Ep[ΔP/P] + Ey[ΔY/Y]

Therefore,  Δ Q/Q = (-.38) (8%) + (1.8) (5%) = 6%. Sales are expected to increase by about 6 per cent. 

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