What is 'Price Sensitivity'
Price sensitivity is the degree to which the price of a product affects consumers' purchasing behaviors. In economics, price sensitivity is commonly measured using the price elasticity of demand. For example, some consumers are not willing to pay even a few extra cents per gallon for gasoline, especially if a lower-priced station is nearby.
BREAKING DOWN 'Price Sensitivity'The price sensitivity of a product varies with the level of importance consumers place on price relative to other purchasing criteria. For example, customers seeking top quality goods are typically less price sensitive than bargain hunters.
Elasticity of Demand
The law of demand states that if all other market factors remain constant, a relative price increase leads to a drop in quantity demanded. High elasticity means consumers are more willing to buy a product even after price increases. Inelastic demand means even small price increases may significantly lower demand.
Businesses should set prices at the exact best point where supply and demand produce the optimum revenue, known as the equilibrium price. Although this is difficult, computer software models and real-time analysis of sales volume at given price points help determine equilibrium prices. Even if a small price increase diminishes sales volume, the relative gains in revenue may overcome a proportionally smaller decline in consumer purchases.
Influences on Price Sensitivity
Price sensitivity places a premium on understanding the competition, the buying process and the uniqueness of products or services in the marketplace. For example, consumers have less price sensitivity if a product or service is unique or has few substitutes.
Consumers are less price sensitive when the total expenditure is low compared to their total income. Likewise, the total expenditure compared to the total cost of the end product affects price sensitivity. For example, if registration costs for a convention are low compared to the total cost of travel, hotel and food expenses, attendees may be less sensitive to the registration fee. Also, when a total expenditure is shared, consumers have less price sensitivity. For example, people attending the same conference may share the expense of one hotel room, making them less sensitive to the hotel room rate.
Consumers also have less price sensitivity when a product or service is used along with something they already own. For example, once members pay for joining an association, they are typically less sensitive to paying for other association services. In addition, consumers have less price sensitivity when the product or service is viewed as prestigious, exclusive or possessing high quality. For example, an association may have a premium feature of its membership delivered through its programs and services, making members less price sensitive to changes in dues.