Ascertaining the Price Sensitivity of Consumer Transportation
The law of demand as a rule of thumb states that when the price of any good or service rises the quantity demanded for this aforementioned good or service will fall. It is more significant to find out the level of such fall in quantity demanded, thereby ascertaining the price sensitivity of consumers. In light of the above we look at the concept of price elasticity of demand to understand changes in consumer travel patterns i.e the effect due to the change in transport prices ie the cause. At the end of this essay we learn the importance of price elasticity of demand for Transport policy and decision making and Setting the appropriate fare.
Passenger transport basic concepts. It is essential to define the concept of transport and distinguish it from mobility and traffic before we go further. Transport is defined as the movement of people freight or information. Our area of concentration here is people i.e passenger transport. Below are the key statistical parameters applicable to passenger transport. Number of trips, journeys. Passenger kilometres pkm. Utilization rate pkm pkm Cap 100. Also below are the modes of transport and their specific means applicable to passenger transport and not freight transport. Modes of transport Means of transport Road, Transport, Motor Vehicles Vehicles without Motor Rail Transport Rail Vehicles Inland Navigation Inland Waterway Vessels, Maritime transport, Ocean going vehicles, Air transport ,Airplanes.
Introduction to transport demand and travel behavior. Transport demand arises because people need to perform a particular activity in a particular location for which arises the necessity of travel i.e the demand is derived. In order to perform this activity people decide the time and money to be spent on such transport. This in turn showcases the mobility preferences of the passengers. People narrow down on the best transport option depending on the distance, the time consumed, suitability and availability of the aforementioned modes of transport and finally their power to afford such transport. There are several factors affecting transport demand and passenger consumption patterns. The major ones are the prices, time, comfort, discomfort, risk, safety and prestige.
Changes in transport prices may affect consumption patterns with respect to the number of trips, activity planning or type of services premium or economy. This understanding of price elasticities helps to predict future trends and policy making e.g increase in fuel tax administering road toll charges etc. When it comes to travel demand it is also essential to look at the value attached by the people to a particular travel activity depending on their ability and willingness to pay. For e.g commuting and visits to healthcare services have a high importance and therefore passengers are willing to pay a high price. However leisure activities like impulse shopping and recreational trips are carried out only if the transport prices are cheap. Below is a graphical representation of the travel activity ranked by passengers according to the value they assign to it. Key factors affecting passenger transport Outside the transport sector is an Income of households.
If a household benefits from a hike in salary or higher profits in business they may choose more expensive transport modes or increase the frequency of travel. b Land use pattern Factors such as population density, population mix, walkability level of transport, connectivity proximity of public transport services affects travel demand. Within the transport sector a Costs of travel. This is one of the most significant factors affecting travel demand. Costs such as fuel prices taxes road toll charges, parking fees, insurance and public transport fares may influence people to reduce consumption or choose alternative modes of transport.
Quantity and quality of infrastructure and vehicles. Improvement in quality of alternative modes of transport in a particular region may lead to a reduction in the automobile use. Further people may increase consumption in the case where they feel the higher quality of road design justifies the cost involved. Other factors such as improvement walking and cycling conditions or improvement in the quality of service in public transport may affect travel demand. Other factors which may affect travel demand is the availability of cars and share of holders of driving licenses. 4 Price elasticity of demand for transport services. As mentioned earlier it is essential to understand the price sensitivity of consumers. The way to ascertain this lies in the concept of price elasticity of demand as this measures the responsiveness of passengers or potential passengers to changes in the price on offer. Put simply it is the consumers demand responsiveness to changes in the price. Since public transport services are regulated in most countries, it is important to set the right fare. It is a great tool to determine best operating practices to raise revenue through taxes and also to reduce prices by payment of subsidies.
That being said it is to be noted that such measures are only useful if consumers are responsive to such measures. Price elasticity in the case of passenger transport encompasses the operators price for public transport and total price in case of an individual.
Price elasticity is measured via a formula to calculate and evaluate the price sensitivity i.e the measurement is based on a quantitative basis and a number is derived in order to get the level of price elasticity. The formula for price elasticity as follows Price Elasticity of Demand Percentage Change in Quantity Demand Percentage Change in Price. OR It is generally expressed in short form as PED Δ D Δ P Here PED Price Elasticity of Demand Percentage Δ change represented by delta a Greek letter D Quantity Demanded P Price. As you can see this formula assesses the relative change in the quantity demanded to the relative change in price. Let us look at a hypothetical situation to understand the formula better.
Suppose a public transport provider increases its fare by 10 but the quantity demanded was to fall only by 2 then price elasticity would be 0 2 as calculated by the aforementioned formula i e PED 2 10 0 2. In this formula it is very apparent that the PED sign is negative. In the transport service business it will almost always be negative. Again we refer to the law of demand which in this case suggests that a rise in price the positive percentage change will lead to a fall in quantity demanded the negative percentage change and vice versa.
This formula, therefore, will always have one negative value and one positive value whereby the answer will always be negative. What is the meaning of this PED value In the above case we got a value of 0 2, but it is important to understand its significance. If price elasticity is greater than the negative one the proportionate change in demand is greater than the proportionate change in price. This suggests that the demand is elastic. Similarly, if price elasticity is less than the negative one the proportionate change in demand is less than the proportionate change in price. This denotes inelastic demand. To understand it from a transport perspective in the case of elastic demand consumers are relatively price-sensitive whereas in the case of inelastic demand consumers have a relatively low level of price sensitivity. It is helpful to determine the level of price sensitivity among consumers. Values greater than negative one suggests that there will be a strong reaction to price change and values less than negative one suggests otherwise. Here you can observe that negative one is the common dividing factor.
We further elaborate on the concepts of price elasticity by looking at the upper and lower limits of this scale. For this, we need to understand the following concepts. a Perfectly price elastic demand, b Perfectly price inelastic demand and c Unitary price elastic demand. Perfectly price elastic demand. A purely theoretical concept and extreme case of elastic demand where any change in price would lead to quantity demanded to fall to zero i.e it can sell at only one price. This concept is important because it provides the upper limit i.e negative infinity. Suppose there is an increase in ticket prices by 25 but since the demand falls to zero the price elasticity of demand, in this case, will be as follows PED 25. Perfectly price inelastic demand. This concept is exactly the stark opposite of the abovementioned concept. In this case, there is no change in the quantity demanded regardless of the change in price. The consumers are not hampered by any price change and will continue to buy exactly the same good or services. Since this again is an extreme case it provides us with the lower limit i.e zero. This is possible for habit forming goods as consumers will buy the goods regardless of changes in price. Taking the above example of an increase in ticket prices by 25 the price elasticity of demand, in this case, will be as follows PED 0 25 Unitary price elastic demand.
The final concept wherein relative change in price is exactly matched by the same relative change in quantity demanded i.e considering the above example there would be a reduction in quantity demanded by 25 and price elasticity will be as follows PED 25 25.
To summarize the above concepts price elasticity is measured on a quantitative scale with values ranging from zero to negative infinity thereby dividing elasticity values into inelastic demand, unitary elastic, and elastic demand. The following diagram put a light on this scale and the derived elasticity values. Since our core focus for this whole exercise is price sensitivity of consumers we look at factors affecting the same i.e determinants of price elasticity of demand. There is a slight overlap between these factors and determinants of demand however the most important factor here is the change in price. These are the factors which determine the price sensitivity of the consumers. a Substitutes number and closeness of alternative modes of transport. b Disposable income proportion spent on mode of travel and c Time Substitutes number and closeness of alternative modes of transport. The availability of a higher number of alternative modes of transport and the proximity of such alternate modes of transport which cater to meeting the same basic travel need, leads to higher price elasticity. If a particular transport service increases its price then consumers are more likely to opt for an alternative mode of transport. if it is readily available. However if there is only one service available which caters to that particular travel need then consumers may opt to pay a higher fare in case there is any rise or cancel the journey altogether. Disposable income proportion spent on mode of travel. There is a higher price elasticity of demand when consumers spend a higher amount of their disposable income income after tax has been paid on the mode of travel. A considerable proportion of an individual’s disposable income is spent on transport because in a market based economy most people need to earn an income and therefore transport costs are unavoidable. We have also referred to this earlier in stating the development of travel demand i.e derived demand. Time Passengers may use a public transport service in the short term however they may change their behavioral patterns over a period of time. People may decide to change the way they travel by buying an automobile or utilize a newly launched competing service. Journeys such as going to work on time in the main part of city have to be made regardless of the price whereas leisure trips to the countryside have a higher degree of flexibility and are therefore more elastic.
The impact of fuel taxes on public transport an empirical assessment of Germany. A study was conducted by K H Storchmann with respect to fuel price elasticities of the automobile and public transport for various trip purposes. The purpose of this study was to understand the advantages or disadvantages of raising fuel taxes a proposed policy change usually immediately seen as a solution to tackle environmental problems with respect to passenger travel patterns. The key issues to be addressed here were that if demand is inelastic, the tax revenue would increase however the regulatory effect will be negligible. On the contrary, if there is a high price elastic demand there is a higher regulatory effect but tax revenues could even decline. For this study, the travel purposes were distinguished as follows a Work, b School, c Shopping, d Business, e Leisure and f Holiday. Findings of the empirical study A 10 increase in fuel prices impacts leisure and holiday travel the most. Elasticities of 0 120 and 0 240 No impact on public transport demand as people who use their cars for leisure purposes virtually never switch to public transport. b Car travelers perceive automobile use to be essential for work and business trips while it is not that essential in the leisure segment. Since these transportation needs are unavoidable a small percentage decrease in-car use leads to a relatively high increase in the use of public transport.
This is of course also due to the different magnitudes of the modes A decrease of 1 of car use for commuting induces a rise of 4 2 in use of public transport. c The demand for public transport is far less sensitive to fuel prices the overall cross price elasticity amounts to 0 07 6. Conclusion. With respect to increase in fuel prices and the abovementioned comparatively low price elasticity related to automobile use i.e 0 102 we conclude the following. a A rise in fuel prices will lead to a small decline in passenger kilometers travelled which will result in a slight reduction of pollution. b For the travel purposes of work and business there is hardly any reaction to the increase in fuel prices from the people.
c On the contrary, there will be a comparatively larger decrease in passenger kilometers driven by automobiles for leisure and holiday purposes. d From a transport policy perspective there will be additional tax revenues in the short term. e For peak load traffic such as work and school the price induced modal shift will ensure that public transport ridership is benefitted.