1. Elasticity of Demand and Supply
Chapter 6
Elasticity of Demand and Supply

2. Elasticity
Elasticity is a measure of responsiveness (sensitivity) of quantity demanded of a good to a change in some variable. These variables can be:
The price of the good – price elasticity.
The price of some other good – income elasticity.
The consumer’s income – cross elasticity.

3. Price Elasticity of Demand (PED)
PED measures the percentage/proportionate change in the demand for a good caused by the percentage/proportionate change in the price of the good itself.

4. If the coefficient of elasticity is:
The demand for a good is:
Greater than 1 (>)
Elastic –7, +3.3
Less than 1 (<)
Inelastic , –1.1
Equal to 1 (=)
Unit elastic/Unitary , –1
Zero (0)
Perfectly Inelastic
Infinity (∞)
Perfectly Elastic

5. Elastic
A good is relatively elastic when the proportionate/percentage change in quantity demanded of a good is greater than the proportionate/percentage change in price of the good itself.
When the formula is applied and the result is greater than 1 in absolute terms (ignoring the sign) (PED > 1), a good is said to be elastic.
The larger the value, the greater the elasticity, i.e. the more sensitive it is to a change in price.

6. Perfectly Elastic
A good is perfectly elastic when any increase in the price of that good results in its quantity falling to zero.
A good is perfectly elastic if it has a price elasticity that is infinite (PED = ∞).
Perfectly elastic goods are sold by firms that operate in perfect competition.

7. Equal to Unitary Elastic
A good is said to be unitary elastic when the proportionate/percentage change in the quantity demanded of a good is equal to the proportionate/percentage change in the price of that good.
PED = –1/+1

8. Inelastic
A good is relatively inelastic if the proportionate/percentage change in quantity demanded of a good is less than the proportionate/percentage change in price of that good.
When the formula is applied, the result is less than 1 in absolute terms and a good is said to be inelastic (PED < 1).

9. Perfectly Inelastic
A good is perfectly inelastic if the proportionate/percentage change in price of a good causes no change in the quantity demanded of that good.

10. If the good is unit elastic If the good is inelastic
PED and Total Revenue
Elasticity
Total Revenue (TR)
If a good is elastic
TR will move in the opposite direction to the price change
If the good is unit elastic
TR will not change no matter what direction the price change
If the good is inelastic
TR will move in the same direction as the price change

11. Elasticity formulae are on page 28
PED Formula
Elasticity formulae are on page 28
of your log tables.
∆Q x P1 + P2
∆P x Q1 + Q2
P1 = original price
P2 = new price
∆P = change in price
Q1 = original quantity
Q2 = new quantity
∆Q = change in quantity

13. Factors That Affect Price Elasticity of Demand (PED)
The availability and suitability of close substitutes
Complementary goods
Is the commodity a luxury or a necessity?
The proportion of income that is spent on the commodity
The durability of the commodity

14. Factors That Affect PED (Continued)
Expectations as to future changes in price
The length of time allowed for adjustment to price changes
Consumer purchase habits/brand loyalty/advertising effectiveness
Number of alternative uses the good has

15. Importance of Understanding Elasticity
Importance in taxation policy/Minister for Finance
Importance to businesspeople
Use in international trade

16. Cross Elasticity of Demand (CED)
CED measures the proportionate/percentage change in the demand for one good caused by the proportionate/percentage change in the price of another good.

17. Elasticity formulae are on page 28
CED Formula
Elasticity formulae are on page 28
of your log tables.
∆QA x PB1 + PB2
∆PB QA1 + QA2
PB1 = original price
PB2 = new price
∆PB = change in price
QA1 = original quantity
QA2 = new quantity
∆QA = change in quantity

19. Income Elasticity of Demand (YED)
YED measures the proportionate/percentage change in the demand for a good caused by the proportionate/percentage change in the income (Y) of consumers.

20. YED FORMULA ∆Q x Y1 + Y2 ∆Y Q1 + Q2 Y1 = original income
Y2 = new income
∆Y = change in income
Q1 = original quantity
Q2 = new quantity
∆Q = change in quantity

22. Price Elasticity of Supply (PES)
Price elasticity of supply measures the relationship between proportionate/percentage change in quantity supplied and a proportionate/percentage change in price.

23. PES Formula ∆Qs x P1 + P2 ∆P Qs1 + Qs2
If PES > 1 = elastic supply (supply is responsive/sensitive to changes in price)
If PES = 1 = unitary supply
If PES < 1 = inelastic supply (supply is unresponsive to changes in price)

24. Degree of Elasticity of Supply
A good is elastic when the proportionate change in quantity supplied is greater than the proportionate change in price.
A good is said to be inelastic when a change in the price of the good causes less than a proportionate change in the demand for the good.
Degree of Elasticity of Supply

25. Price Elasticity of Supply
PES is usually positive as an increase in its own price (+) will normally lead to an increase in the quantity supplied (+). The more responsive supply is to change in its own price, the greater the supply.
Zero elasticity of supply would indicate that an increase in the selling price of the good does not result in any increase in supply, e.g. the supply of fish on market day is fixed.

26. Factors That Effect Elasticity of Supply
Firms’ capacity
Mobility of the factors of production
Time period
Nature of the product
Storage costs
Cost conditions
Products in joint supply
Stock