Modeling Price Elasticity

Kiran Ravulapati, Katia Frank, Wassim Chaar

Delta Technology, Atlanta, GA 30354

What is Price Elasticity ?

Price Elasticity (PE)

% change in demand
PE
% change in fare
A PE of -1.5 means there is a 1.5% drop in
demand for a 1% increase in price.

Price Elasticity - Literature

Past research modeled price elasticity at a macro
level using aggregated, high level data.
- Oum, Tae H., Zhang, Anmin and Zhang, Yimin (1993) Inter-Firm Rivalry and FirmSpecific Price elasticities in Deregulated Airline Markets, Journal of Transport
Economics and Policy,27, 171-192

Price elasticity at product level received little

attention. Perhaps, this is because of the revenue
management effects involved.

Price Elasticity - Assumptions

We modeled simple price elasticity only.
Interaction between products is not considered.
We studied the vacuum scenario i.e., all airlines
in the market have same prices.
Revenue management effects are consistent.

Price Elasticity - Vacuum

Step 1: Divide historical demand/price data into fare
bands.

420-430

390-400

360-370

330-340

300-310

270-280

240-250

210-220

180-190

150-160

120-130

90-100

60-70

30-40

0-10

demand

Bookings for market XXX-YYY

Discounted Coach

fareband

Price Elasticity - Vacuum

Step 2: Remove RM effect by cumulating demand.

420-430

390-400

360-370

330-340

300-310

270-280

240-250

210-220

180-190

150-160

120-130

90-100

60-70

30-40

0-10

Cumulative Demand

Bookings for market XXX-YYY

Discounted Coach

fareband

Price Elasticity - Vacuum

Step 3: Adjust the curve for sell up.

Cumulative Demand

Bookings for market XXX-YYY

Discounted Coach

420-430

390-400

360-370

330-340

300-310

270-280

240-250

210-220

180-190

150-160

120-130

90-100

60-70

30-40

0-10

Adjusted Cumulative Demand

fareband

Price Elasticity - Sell Up

Demand

20
$50-$70

0.8*20 = 16

50

30

$70-$90

$90-$110

30

Total Demand = 16 + 50 + 30 = 96

Price Elasticity - Vacuum

420-430

390-400

360-370

330-340

300-310

270-280

240-250

210-220

180-190

150-160

120-130

90-100

60-70

30-40

0-10

Demand

Step 4: Fit a function to the adjusted demand curve

using regression analysis and calculate price
Price Vs Demand Curve for market XXX-YYY
elasticity.
Discounted Coach

fareband

Price Elasticity - Results

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Price Elasticity - Results

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Price Elasticity - Results

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Price Elasticity - Summary

This model is a first step towards developing a
methodology for price elasticity.
Select a representative sample of historical data.
Group only similar markets/products for this
analysis.
To capture seasonal changes in prices, this
analysis should be repeated for each season using
new data.

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Price Elasticity - Summary

Revenue management effects, spill and capacity
limits, should be used to determine the impact of
fare increase/decrease.
Methodology can be used at various aggregate
levels - market/region/airline/products.
Possible extensions
- Impact of fare rules
- Interaction between substitutable products

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Questions / Comments

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