Demand Elasticty

8/6/2019 Demand Elasticty

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Demand ElasticityDemand Elasticity


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allows us to analyze supply anddemand with greater precision.

is the degree of responsiveness ofquantity demanded to a change in its

determinants

THE ELASTICITY OF DEMANDTHE ELASTICITY OF DEMAND


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Price elasticity of demandis a measure ofhow much the quantity demanded of a

good responds to a change in the price ofthat good.

Price elasticity of demand is thepercentage change in quantity demandedgiven a percent change in the price.

Price Elasticity of DemandPrice Elasticity of Demand


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Factors determining price elasticity

Nature of commodity Demand of necessities is generally inelastic

Wheat and salt

Demand of luxury is elastic

Availability of Close Substitutes More elastic when the number of close substitutes are available

Urgency of need Demand of a particular medicine is inelastic

Durability of commodity If commodity is repairable or durable , higher the elasticity

Purchase frequency Higher the purchase frequency, higher the elasticity


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The price elasticity of demand is computedas the percentage change in the quantitydemanded divided by the percentage

change in price.

Computing the Price Elasticity of DemandComputing the Price Elasticity of Demand

Price elasticity of demand =

Percentage change in quantity demanded

Percentage change in price


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The formula is preferable when calculatingthe price elasticity of demand because it

gives the same answer and direction ofthe change.

The Method:The Method:

(Q2 - Q1) / Q1

(P2 - P1) / P1Priceelasticityofdemand=


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Exercise:Exercise:

(80 - 120) / 120

(6 - 4) / 4

Priceelasticityofdemand=

Earlier : Price = $4 Quantity = 120

Now : Price = $6 Quantity = 80

Earlier : Price = $4 Quantity = 120

Now : Price = $6 Quantity = 80

= -.066

Price elasticity is negative

Showing inverse relationship


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Perfectly Inelastic

Inelastic Demand

Unit Elastic

Elastic Demand

Perfectly Elastic

A Variety of Demand CurvesA Variety of Demand Curves


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Perfectly Inelastic Demand:

Quantity demanded does not respond to pricechanges.


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E= 0

0 Quantity

PriceDemand

100

1.Anincrease in

price

$4.00

$5.00

2.leaves the quantity demanded unchanged.

Fig a): Perfectly Inelastic DemandFig a): Perfectly Inelastic Demand


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Inelastic Demand

Quantity demanded does not respond stronglyto price changes.

Price elasticity of demand is less than one.


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E< 1

0 Quantity

Price

100

1.A 22%increase in

price

$5.00

2.

Leads to a 11% decrease in quantitydemanded.

Demand

$4.00

90

Fig b): Inelastic DemandFig b): Inelastic Demand


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Unit Elastic demand Quantity demanded changes by the same

percentage as the price.


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E= 1

0 Quantity

Price

100

1.A 22%increase in

price

$5.00

2.

Leads to a 22% decrease in quantitydemanded.

Demand

$4.00

80

Fig c): Unit Elastic DemandFig c): Unit Elastic Demand


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Elastic Demand

Quantity demanded responds strongly tochanges in price.

Price elasticity of demand is greater than one.


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Perfectly Elastic demand

Quantity demanded changes with out any

change in price Firm can sell all items at prevailing price but

none at higher price


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Total revenue is the amount paid bybuyers and received by sellers of a good.

Computed as the price of the good timesthe quantity sold.

TR = P x Q

Total Revenue and the PriceTotal Revenue and the Price

Elasticity of DemandElasticity of Demand


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Price

Quantity0 100

Demand

Px Q = $400

(revenue)

$4.00

Total RevenueTotal Revenue


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Price

Quantity0 80

Demand

$3.00

Px Q = $400

(revenue)

Px Q = $100(revenue)

$1.00

100

Total Revenue Changes When PricesTotal Revenue Changes When PricesChanges: Inelastic DemandChanges: Inelastic Demand


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Price

Quantity

Changein Total Revenue whenPriceChanges

0 50

Demand

$4.00

$5.00

20

Revenue = $100

Revenue = $200

Total Revenue Changes When PricesTotal Revenue Changes When PricesChanges: Elastic DemandChanges: Elastic Demand


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Income elasticity of demandmeasures howmuch the quantity demanded of a goodresponds to a change in consumers income.

It is computed as the percentage change inthe quantity demanded divided by thepercentage change in income.

Income ElasticityIncome Elasticity

Income elasticity of demand =

Percentage changein quantity demanded

Percentage changein income


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measures how much the quantity demandedof a good responds to a change in the priceof another good.

It is computed as the percentage change in

the quantity demanded divided by thepercentage change in the price of thesecond good.

Cross-Price elasticity of demand

Income elasticity o demand

ercentage changein quantity demanded

ercentage changeinthe price o

good 2.


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Summary: Price elasticity of demand measures how much the

quantity demanded responds to changes in the price.

Price elasticity of demand is calculated as the percentagechange in quantity demanded divided by the percentagechange in price.

If a demand curve is elastic, total revenue falls when theprice rises.

If it is inelastic, total revenue rises as the price rises.

The income elasticity of demand measures how much the

quantity demanded responds to changes in consumersincome.

The cross-price elasticity of demand measures how muchthe quantity demanded of one good responds to the priceof another good.


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Demand Elasticty