For example: When gas prices rise, people aren\'t generally happy about it. When
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Question
For example: When gas prices rise, people aren't generally happy about it. When they fall, people are stoked and start planning trips to the beach or begin to imagine what I road trip across the country could be like. People like to think that because commuting to work or school or to the store has to be done, and that you need gas for these things, that it doesn't matter if the prices rises or falls, because demand will still be the same. However, according to Microeconomics by Hubbard and O'Brien in the beginning of chapter six, they've stated that when gas prices rose from an average of $3.66 per gallon in September of 2011 to $3.91 per gallon the following year, consumers drove %5 less. You can deduce from this that even though people believe demand is steady and even rising, they do have a slight influence on how much they purchase overall. The same can be said for when supply of gasoline is either high or low, demand becomes inelastic (meaning the absolute value of the percentage change between price and demand is less than 1). However, because gasoline doesn't have any viable substitutes, consumers don't have much of a choice when gas prices rise. They still need to buy it. When the government taxes sales on gasoline, they're using that money that they've collected in order to fix a negative externality, such as pollution and global warming. A negative externality is a cost that is payed by people not involved in the buying and selling of something (gas in this case). So if there is a child with asthma who can't drive yet, they suffer the consequences of polluted air even though they had no part in the production or consumption of gasoline. The price elasticity of demand for gas is affected by these taxes because it raises the price, therefore reducing demand even though it may not seem that way to the average person. Again, that person still has to go to work, go to school, go to the store, and they'll pay for gas regardless of the price in order to do those things. However, as we've seen earlier, people do have a small influence on how much gas is purchased. For example, road trips are postponed, people don't travel as often, others may take the bus or even carpool. The government has to be careful though, because even though they can put massive taxes on gasoline and aim those funds towards the greater good, it has an economic affect on decisions made by everybody in the country. Too much of a tax will have too great of a rise in price, and demand will drastically drop as people go to drastic measures to not drive. However, the opposite can be said if the price is lower. The producers have the daily challenge of finding and maintaining that equilibrium point.
Gas prices fluctuate often and in both directions. respond to the following:
How responsive do you think consumers will be to the price change when these fluctuations occur due to changes in supply? Why? Use the various determinants of elasticity to explain your answer.
How does the price elasticity of demand for gasoline impact the effectiveness of taxes on gasoline aimed at correcting a negative externality?
Consider incorporating the supply-and-demand model to demonstrate the elasticity of demand for gas and to show the effects of tax on the market for gas.
Explanation / Answer
Consumers will definitely be very responsive to the price change when fluctuation occur due to changes in supply. As the law of supply states that when price increases so will supply and when price decreases so will the supply. Hence, when the price of gasoline will go up due to increase in taxes and a steady demand the supply will increase which will affect the pricing as in since the supply is in abundance the price will come down and demand will be more.
Conversely, when suppliers see that prices are low so they will reduce supply which will create a paucity in the market due to which demand will go up and so will the price. Hence, we see that fluctuations due to changes in supply will see a strong response from the consumer.
The various determinants of elasticity are:
The change in price will not have a drastic impact on demand. The demand in case of gasoline is inelastic so if the government charges taxes on gasoline to offset the negative externality it will not impact the demand much. However, one needs to keep in mind that if the tax is exorbitant then demand will be impacted. However, if the taxes charged are at a minimal or acceptable rate they will be quite effective and it will help in correcting negative externality.
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