A recent New York Times article (“British Airways Tries Premium New York Flights”) gives insights into how demand, supply, and elasticities work together in the market.
Let’s first consider the demand for flights. On routes where alternatives exist, such as the London-Paris route which competes with the Eurostar, demand is relatively elastic. In fact, demand for flights on this route has decreased to the point that British Airways is considering closing the route. However, most flight routes do not have acceptable alternative methods of travel. Where this is the case, there are two types of customers: leisure travelers for whom demand is relatively elastic (consider the increasingly popular “stay-cations”) and business travelers for whom demand is relatively inelastic. As the article puts it, “there’ll still be bankers flying all over the place.”
Next let’s consider the supply of flights. In the short-run, the supply of flights is relatively inelastic: flights have been scheduled, customers have purchased seats, and British Airways has little leeway to cancel flights. In the long-run, however, British Airways is free to cancel flights and adjust routes in order to maximize their profits. Consider the following quote from the article, “This is an airline that really has to bite the bullet on short-haul, looking long and hard at what it’s costing and whether they can ever get a decent margin out of it. Some U.K. and European routes have a very limited future.” This is a classic case of a relatively inelastic supply in the short-run and a very elastic supply in the long-run.
So how does a company like British Airways use elasticities of demand and supply to try to remain profitable? British Airways has chosen to begin a business-class-only service from London to New York while closing some shorter routes. In effect, they are altering their supply in an effort to cater to the market segment whose demand is most inelastic. Do you think it’s going to work for them?