Price Elasticity: Law or Myth?

A Look at What Price Elasticity Means to You

The law of price elasticity is that as price declines, sales volume will increase; as the price rises, sales volume will decline. Price elasticity is used, in this case to calibrate prices to determine the volume to be sold.  A rational business desiring to maximize sales volume – or market share – will set the price as low as possible. The same business desiring to maximize revenue or profits will set the price somewhat higher. Using a demand curve, this business can optimize its prices to optimize the decision variable – unit sales, market share, revenue or profits. Price elasticity is the slope of the demand curve—the percent change in revenue divided by the percentage change in price at any point along the curve.

Many academicians lose sight of the fact that many markets are not commoditized. In these markets, there are other factors that are more important than price. In these markets, price elasticity has decreased.  The rational business will resist commoditization by all means possible. Strategies of differentiation, segmentation, innovation, aggressive pursuit of new marketplaces and new customers, product improvement, quality service ancillary services, bundles, options, services and content all serve to differentiate the business and its products, lessening the influence of price alone on the decision to buy.

Successful differentiation will flatten the demand curve; it will reduce the price elasticity of demand, making the buying decision responsive to attributes far more subject to the business’s control.