Necessity From an Economic Perspective - Essay Example

In a broad sense a necessity is something a person or a society needs. In economics a necessity is a good or service that is believed to be necessaryfor survival or general well-being. As such, these goods or services are viewed by people as those that are crucially needed in their everyday life. Furthermore, since necessities are considered to be so important for living, demand for them is not related to income. That means that no matter how poor a person might be, his or her demand for a necessity good or service might not lower below a certain point. At the same time, it should not be forgotten that this level of poverty is rather difficult to determine. Also, as Rittenberg and Tregarthen (2009) outline, the level of income at which a household would be able to buy such necessities has never been defined. In addition, “no attempt is made in the definition to establish what such necessities might be” (Rittenberg & Tregarthen, 2009). Another aspect to take into consideration is the fact that while for one person a particular good or service might be a necessity, for another it might not, – due to difference in income levels or even lifestyles. Furthermore, some necessities became such due to the lifestyle of the society – the manner of living a group of people follows dictates a certain set of necessities to be present in their lives. For a developed country these will include, for instance, electricity, gas, and medical care. At the same time, these same necessities might not be so crucial for an African tribe. For those people the necessities would exclude such things as gas or communication means. In addition, while some necessities are self-revealed in the market and are common for a greater public, others are deduced. An example of this group is, for instance a medication needed for a sick person to live. So, from this perspective it can be concluded that: a definition of necessity is rather individual for each particular person or group of people – what is a necessity for one might not be a necessity for another; certain goods or services may, with time, migrate from the category of necessities to other categories of goods and services. However, there always exist goods and services that can definitely be considered necessities. For an industrial-society person these are water, food, electricity, medical care, transportation and communication services, to name a few. From an economic perspective a common feature of necessity goods is their income elasticity, which is close to zero. Necessities have inelastic demand. That means demand for necessities does not change with changes in income. However, again, not all products that we view as necessities can fall under this category. For instance, if the person’s income decreases, one might choose to spend less on, for example, transportation, or even food. So, this leads to an assumption that income elasticity of different necessities is different. While it might be possible to reduce the use of transportation system, it might not be possible to reduce the consumption of water, for instance, to the level lower that a person needs for survival. Therefore, income elasticity of different necessities is different – between zero and one. One more factor that defines necessities is availability of substitutes. Necessities usually have poor substitutes and that is one more reason for their demand to be inelastic. So, among the major types of necessity goods these days are water, food, housing, medic care, electricity, among others. These necessities can be considered the most valued since water, food and shelter out of them are, first of all, natural and basic needs of an individual. If these needs are not satisfied in the first turn, the person simply won’t be able to exist. According to Maslow’s hierarchy of needs, these biological and psychological needs are the basis for person’s being (Chapman, 2010). Then, according to Maslow, come safety needs. They are reflected in such necessities as medical care, law force protection, insurance, etc. So, a good or service becomes a necessity if it corresponds to several conditions: Cloze to zero income elasticity – the good is necessary for satisfying individual or group physical and psychological needs. Cloze to zero price elasticity – the demand for a necessity does not change much with a change in price. Lack of substitutes – the fewer is the number of similar goods, the more inelastic is demand. Time elapsed since price change (Parkin et al, 2007, p. 88) – price elasticity of a certain good becomes elastic in the long run for a particular individual or group. Asymmetric loss function – risk averse people are to rather underestimate the necessity, since overestimation leads to greater losses than underestimation (Strashny, 2004, p. 2). Considering the above mentioned, let’s take bread as an example of a necessity. In general, as a product type, it is a necessity. Even with an increase in price or income demand for bread cannot fall below a certain level due to people’s nutrient requirements, first of all. So, income and price elasticity of this product are closer to zero. Natural substitutes to bread are hard to find and its value is not likely to change in time even with an increase in price – people will continue buy bread. Finally, though is it vitally important for human life, bread is not overestimated (otherwise its price would go incredibly high), so the asymmetric loss function works – bread, as a product type, is a necessity. Another example – cigarettes. The situation with this product is rather similar to that with bread. The great difference, however, is in the influence of time. When a price for cigarettes rises, a smoker may, habitually, continue buying the product. With time, however, one may decide that he or she cannot afford supporting the habit at this price, and quit smoking. In this situation cigarettes stop being a necessity for the particular individual or a group of people with similar behavior. Still, while in general demand elasticity of cigarettes may fall under the category of necessities, its value may become closer to one. Therefore, there must be particular means of determining whether a particular good or service is a necessity. Among the major factors determining whether a good or service is a necessity is price elasticity of demand. Price elasticity of demand is equal to a proportionate change in demanded quantity divided by the change in price: elasticity = (% change in quantity / % change in price). So, if the result is below one, then the good is a necessity. The same is related to income elasticity. The next point to consider is that some necessities are of public concern while others are not. This can be explained by the fact that certain necessities are “vested with the public interest” – that is public necessities (Encyclopedia of Business Ethics and Social Responsibility, p. 1). So, as new technologies emerge and start becoming a necessity, the state might choose to take care of providing its citizens with the particular utility, since its mission is always to take care of its nation’s wellbeing. So, creation and maintenance of better conditions for life is, historically, one of the state’s responsibilities. Besides, such public necessities are, in many cases, dependent on network delivery systems. Control over such delivery systems should be centralized in order to maintain quality and adequate price for the good or service. Entities that control public necessities are, consequently, natural monopolies, which emerged as a result of certain historical events and decision. Created by or within the state, such organizations have much more opportunities, as well as support and financing for creating large infrastructures needed for providing the nation with public utilities. On contrast, private companies might not be able to invest in new technologies as much as government can. In most cases among the necessities of public concern are necessities, provision of which required much investment, new technologies, centralized approach to managing large infrastructures and maintain high quality, as well as regulatory intervention to control price for it to be fair and reasonable. In addition, such a situation meets the economic requirements of both public and government. The state receives certain income from providing the service and creates jobs. The society, in its turn, has some guarantee that prices for the utility will not go incredibly high being regulated by the state. Furthermore, provision of such utilities as communication, transportation, gas, electricity and water supply, among others, requires the use of territories that are considered public – roads, fields, rivers – property of the community. So, it would initially be very difficult and costly for a private company to independently develop infrastructures similar to those created by or in cooperation with the state. Hence, most necessities of public concern are those that involve the use of public resources and territories, much investment and interdependence. Another significant feature of necessities of public concern is that a change in demand may influence the whole system: if a demand exceeds maximum supply capacity, the whole system may fail and nobody will receive the service. Today they include electricity, natural gas transmission systems, for instance. References Chapman, A. (2010). Abraham Maslow original Hierarchy of Needs concept 1954; Alan Chapman review and other material, design, code. Retrieved from http://www.businessballs.com/maslow.htm Encyclopedia of Business Ethics and Social Responsibility. Public Utilities and Their Regulation. Parkin, M., Powell, M. and Matthews, K. (2007). Economics. Pearson Education. Rittenberg, L. and Tregarthen, T. (2009). Principles of Microeconomics. Retrieved from http://www.flatworldknowledge.com/pub/1.0/principles-microeconomics/153614 Strashny, A. (2004). Asymmetric loss utility: an analysis of decision under risk. University of California, Irvine. Read More