Question

As a general rule, is it safe to assume that a change in the price of a good will always have its most significant impact on the quantity demanded of that good, rather than on the quantity demanded of other goods? Explain.

Short answer

In short, it is not safe to assume that a change in the price of a good will always have its most significant impact on the quantity demanded of that good, rather than on the quantity demanded of other goods. The most significant impact depends on factors like the price elasticity of demand for the respective goods and cross-price elasticity. The impact may vary depending on whether the demands are elastic, inelastic, or unit elastic, and whether the goods are substitutes or complements.

Step-by-step solution

Define Law of Demand

The Law of Demand states that, all else being equal, as the price of a good increases, the quantity demanded of that good decreases, and vice versa. This is an important concept in economics to understand the relationship between price and quantity demanded.

Discuss Price Elasticity of Demand

Price elasticity of demand is a measure of how sensitive the quantity demanded of a good is to a change in its price. It is calculated as the percentage change in quantity demanded divided by the percentage change in price. If the elasticity is greater than 1, it is said to be elastic which means the quantity demanded is more responsive to price changes. If the elasticity is less than 1, it is said to be inelastic which means the quantity demanded is less responsive to price changes. In some cases, the demand can be unit elastic, meaning the elasticity is exactly 1.

Discuss Cross-Price Elasticity of Demand

Cross-price elasticity of demand measures how sensitive the quantity demanded of one good is to a change in the price of another good. It is calculated as the percentage change in the quantity demanded of one good divided by the percentage change in the price of the other good. If the cross-price elasticity is positive, the goods are said to be substitutes, meaning that as the price of one good increases, the quantity demanded of the other good also increases. If the cross-price elasticity is negative, the goods are said to be complements, meaning that as the price of one good increases, the quantity demanded of the other good decreases.

Evaluate General Rule

It is not safe to assume that a change in the price of a good will always have its most significant impact on the quantity demanded of that good, rather than on the quantity demanded of other goods. The impact depends on various factors like the price elasticity of demand for the respective goods and cross-price elasticity. For example, if the demand for a good is highly inelastic (i.e., less responsive to price changes), then it might be possible that a change in its price will have a minimal impact on the quantity demanded of that good, while its substitute or complementary good's quantity demanded might be more affected. In conclusion, the most significant impact of a price change on the quantity demanded depends on a variety of factors such as price elasticity of demand and cross-price elasticity of demand. It is not safe to generalize that the impact will always be most significant on the quantity demanded of the good whose price changed.