Housefull Economics

The Elastic Wire

Our weekly explainer on economics using lessons from popular culture. In Installment 47, Stringer Bell recognises Elasticity of Demand.

 

Stringer Bell, the enterprising drug kingpin on HBO’s The Wire, almost makes the business of narcotics seem like high finance. In one episode, he gives an invaluable lesson in Inelastic Demand to one of his drug dealers, who informs him about client complaints regarding the current batch of drugs. Stringer replies, with unabashed swagger, that it doesn’t matter if the drugs are good or not, the product is such that people will always come back for more. What he’s getting at is how the demand for drugs is inelastic for addicts. No matter the change in price or quality, they will always be a ready market.

What is elasticity and how is it relevant for anything other than rubber?

In economics, elasticity merely refers to the measurement of change induced in one variable due to the change in another variable. Since there are innumerable pairs of variable one can use to compare, elasticity generally proves to be the most useful when one variable is kept fixed, usually price, which acts as the fundamental unit of demand and supply. This is to say that conventionally, the elasticity that is discussed is “price elasticity” of either demand or supply.

Alfred Marshall is credited with coining this term. He defined price elasticity of demand thus:

The elasticity (or responsiveness) of demand in a market is great or small according as the amount demanded increases much or little for a given fall in price, and diminishes much or little for a given rise in price.

In simple words, while we know that the quantity of an item demanded increases with the decrease in its price and vice versa, we don’t know by how much. This is where price elasticity of demand comes in. For example,

  • if the quantity of books demanded at a bookstore (or Amazon) increases by a lot when a sale is declared (prices decreasing) or
  • the quantity demanded decreases by a lot when the sale ends and the prices are increased,

the demand for books is said to be elastic. As a corollary, if there is just a little or no change in the quantity demanded due to the changes in price, the demand is said to be inelastic.

If one wishes to be highly graphic about the terminology, we can imagine the quantity demanded to be akin to a rubber band, and if the touches of price fluctuations are able to cause heavy vibrations, its clearly elastic.

Price elasticity of demand can be viewed as a scale with elastic and inelastic forming the two ends and the demands for different goods lying in between, such as highly elastic, perfectly elastic, less elastic and inelastic.

Price elasticity of supply is similarly, the change in the quantity supplied in response to the change in price.

The elasticity of a commodity isn’t necessarily the same across time, location or people. Its a constantly evolving source of information, dependent on the price level, nature of commodities, variety of uses, substitutes and a consumer’s preferences. For example, roses enjoy higher prices in the month of February due to their significance (via a brilliant marketing coup) being tied up with Valentine’s Day. Its precisely because they enjoy a much more elastic demand during the other months, readily substituted by other, better-smelling flowers while they become the object of every lover’s spending and earn the moniker of “the lazy man’s flower” (while flowers continue to be the “lazy man’s gift”, IMO). Now if one, like the author, doesn’t believe in the brouhaha around Valentine’s Day and flowers as gifts, their demand for roses would be highly elastic whereas for the poor souls aforementioned, it will be less elastic or inelastic even.

Elasticity of demand can also be used to think of how essential a commodity is to a person at a particular time. Demand for airline tickets is generally inelastic for business travellers who need to get to a place in time for their meetings, while casual travellers have elastic demand for the same and book when the prices are low enough for them.

Cross-price elasticity of demand is another important measure that we make use of and observe regularly. It is the change in the quantity demanded of commodity X due to the change in the price of commodity Y.

Consider what happens to goods that are substitutes of each other, such as products on Myntra and Jabong. If the prices of shoes on Myntra increase, people switch to Jabong. (It’s okay, the revenue stays in the family.) This means that the demand for goods on Jabong increases with the increase in prices on Myntra and decreases when Myntra declares a sale (reduction in prices). This is called positive cross elasticity of demand.

In case of complementary goods such as gin and tonic , the change in the price of gin will cause a proportionate change in the opposite direction in the quantity of tonic water demanded. If the price of gin increases, lower quantities of it shall be consumed (unless you’re an alcoholic) and as a corollary, less tonic water shall be required, leading to a proportionate decrease in its demand. This is called negative cross elasticity of demand.

Price elasticity and its various facets are used by business owners in measuring consumer response to price changes, policymakers to calculate tax incidence (effect of a particular tax on actions of citizens), and government to assess benefits (or the lack of) of subsidies, among others.

In another episode, our man Stringer passes on the lessons of elasticity as learned by him in his college class to his lackeys working at the print and copy business they run as a front for their illegal narcotics operation.

Needless to say, with his economic chops, Stringer Bell could have picked writing for Pragati as an alternative career.

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About the author

Reshu Natani

Reshu Natani is a former social entrepreneur who studied economics and public policy at Meghnad Desai Academy of Economics. She now uses Keynes’s aphorism about being dead in the long run to justify her nihilistic hedonism.