In 2002 the U.S Postal Services increased first-class postage rates from 34 cents to 37 cents. The service had had been losing money. One of the reasons increased competition from companies such as United Parcel Service and Federal Express. Another reason is the use of faxes and e-mail, as well as electronic bill payment. With this decrease in demand for postal services, why do you think that the postal service is seeking a rate increase? Explain.
There are two relevant economic concepts here: the substitution effect and price-elasticity of demand. The substitution effect tells us that when the price of a substitute good falls, then the demand for the good for which it is a substitute also falls. Now, the prices of fax and e-mail services are naturally lower than that of traditional mail since they do not require the ...
The solution gives a detailed description of elasticity of demand, and how it applies to the question.