The elasticity of price

30743506 Gas prices are scooting over $4/gallon here in the states and yet consumption has not shown signs of significant reduction.  How can that be?

That’s the question that reporter Gail Rosenblum of the Minneapolis Star Tribune posed to me late last week.  Her article, Paying a lot for gas, changing lifestyles a little" appeared in Friday’s edition of the Star Tribune.

While I know this specific topic (gas prices) is on everyone’s mind, it seems to me that the conversation Gail and I had is even more interesting when you step back and look at consumer attitudes about prices in general.

Two years ago, we were in a tizzy over gas prices.  We couldn’t believe they were going to be $2/gallon.  We were outraged.  We were going to cut back.  (Of course, we didn’t)  Fast forward to today.  Imagine if I stopped people on the street and asked them what they would think of paying $2/gallon for gas.  They would weep for joy.  In fact, it would sound too good to be true and they’d ask me "what’s the catch?"

Ahhh, the elasticity of price perception.

Why do I think this is worthy of some thought?  A few things to note:

The elasticity of price is a one-way street (we are never happy about going higher in price after the marketplace reduces costs.)

The elasticity of price is fast-acting (we get used to the higher price pretty quickly.)

The elasticity of price works best for necessities (we can cut back on stuff we don’t "need" but endure price hikes on stuff we think we do need.)

So how could you apply this thinking to how you set prices?  If everyone in your industry is lowering prices because of the recession — how will this hold them back when they’re ready to re-raise their prices?  How will it affect you if you resist the urge to lower prices now?

Related posts:
Should you lower prices in a recession?
Are gas prices affecting your spending habits?
How sharp is your pricing strategy?

8 comments on “The elasticity of price

  1. Patrick says:

    Every I know, including myself is definitely changing habits. We used to fill the car up but now we only go to about a half a tank as we are trying to keep to the same budget. A couple of years ago my wife and I became active in the core group of a new church being planted closer to our community. We used to drive about 30 mins to church but no it’s more like 10 minutes. We used to visit friends out of town at least 5-6 times a year now it’s more like 1-2 times a year. About 6 months ago our older car died and the cost to fix it could not justify what it would be work, etc. My wife and I now either carpool together or one of us always stays behind at home or finds a ride with someone else.

    Personally if I could do something in my own power to revolt against the oil companies I would but alas I just don’t have that kind of power by myself.

    I’m seriously considering curtaining almost all of my drive after it reaches $4 a gallon around here unless it’s an emergency just to make a statement. Their is hardly any or no elasticity here!

  2. Patrick,

    I think you and your family are to be commended, but I think you’re the exception more than the rule, according to reports and research I have read.

    Most people are cutting back other places — not going out to eat as often etc. But, they are still driving like they always have.

    The question is…where is the breaking point, price-wise?

    Drew

  3. Sonja Mishek says:

    Hi Drew,

    I just posted an article on my blog about the Top 10 small business tips during a recession.

    And the #1 tip is small businesses should cut costs CAUTIOUSLY.

    As soon as the economy starts slowing down, many business owners think they have no choice and must cut costs.

    But this is a short-term solution.

    Only cut costs or decrease your prices if it won’t harm your business later.

    As the old saying goes…you can always lower your price – but you can’t always raise your price.

    Happy trails!

    Sonja

  4. Sonja,

    I wrote about this very topic about a month ago….dropping prices in a recession is a very dangerous decision that will have impact on your pricing strategy long after the recession is gone.

    I agree with you wholeheartedly!

    Drew

  5. Uncle B says:

    Recently retired to small pension, was driven to sell my two cars, get a bicycle, convert to Ubuntu and Gimp, sell my beloved 35mm camera and switch to electronic one and .jpgs. I also planted a garden, bought a pressure canner, studied gardening and food preservation on the web and now, after massive lifestyle changes have come out on top, with a much smaller carbon footprint and more, happy spare time than ever before! Lifestyle changes hurt in the short run, but if taken enthusiastically as challenges are soon over and the good from them flows. Gas prices can be anything they want, I don’t care, I don’t use it!

  6. Uncle B,

    Great story — what is the best part of your new lifestyle for you?

    Drew

  7. Nathan Lands says:

    What recession?

    That’s what most of us in the tech world are saying, just like Google. I believe it’s the archaic businesses that are getting hit by this the hardest.. and of course HUMMER!

    Millions of companies now are doing things proactively to help with the energy crisis, including our company’s e-commerce platform.

    Nathan Lands
    http://www.hiyaya.com
    “Changing the way people buy online”

  8. Nathan,

    I’m not sure it is archaic businesses — but it might be businesses with more traditional models. I agree it seems spotty from the business side. More widespread from the consumers POV — with gas prices, food prices etc. on the rise.

    They say that necessity is the mother of invention. I wonder what this recession (or whatever we want to call it) will bring?

    Drew

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