Class Slides 3

ELASTICITY

Price elasticity of demand

• This is a measure of the responsiveness of quantity demanded relative to a given price change.

• The proportional change in the quantity demanded relative to a proportional change in price.

Elasticity and the demand curve

Three general ranges of elasticity • inelastic – percentage in quantity demanded

is less than percentage change in price • unit elastic – percentage change in quantity

demanded equals percentage change in price

• elastic – percentage change in quantity demanded exceeds percentage change in price.

Demand curves of differentelasticities (less elastic)

Demand curves of differentelasticities (more elastic)

Perfectly (in)elastic

Constant unit elasticity

Determinants of the price elasticity of demand

Availability of substitutes. Demand for goods with no substitute is less elastic.

A matter of time - week/month/year

Price elasticity and total revenue

total revenue (or expenditure) is TR = P x Q

What happens to TR when price decreases? • elastic demand – TR rises when price falls • unit elastic – TR is unchanged when price

falls • inelastic demand – TR decreases when

price falls.

Demand and price elasticity, and total revenue

Summary of price elasticity of demand

Price elasticity of supply

• a measure of the responsiveness of quantity supplied to a price change

• calculated as the percentage change in quantity supplied divided by the percentage change in price

Categories of supply elasticity

• Perfectly elastic supply

- the horizontal supply curve: elasticity = infinity • Perfectly inelastic supply

- the vertical supply curve: elasticity = 0 • Unit elasticity of supply - a straight-line supply curve through the

origin:elasticity = 1

Three constant elasticityof supply curves

Determinants of supply elasticity

• costliness of the good in production

• time - Over time, the elasticity of supply tends to increase due to adjustments that can be made in the production process.

- The longer the time period, the more elastic the supply.

Other elasticity measures

• ‘Income elasticity of demand’ measures the responsiveness of demand to changes in consumer income.

Income elasticity is positive for normal goods and negative for inferior goods.