1. Elasticity of Demand
Kishor Bhanushali

2. Elasticity of Demand
The extent to which the quantity demanded will rise (fall) due to fall (rise) in the price of the same good or a related good or due to the rise in the income of the consumer
Analysis of demand sensitivity with respect to prices of goods and income helps the business to forecast market trends in future

3. Price Elasticity of Demand
Responsiveness of quantity demanded to changes in the price
Price elasticity of demand is defined as the percentage change in quantity demanded resulting from one percent change in the price of the good, other things remaining constant
ep = Percentage Change in quantity demanded
Percentage change in price
Elasticity is unit free as it is measured in proportion of two percentages
We can predict the expected changes in quantity demanded
Forecast required changes in price, when we want to realize a targeted change in quantity demanded

4. Price Elasticity ÷ ∆Qd P ∆P Qd ∆Qd = Change in Quantity Demanded
Percentage Change in Quantity Demanded =
Percentage Change in Price
Change in Quantity Demanded
Change in Price = ÷
Quantity Demanded Initially
Initial Price
∆Qd P = * ∆P Qd
Where
∆Qd = Change in Quantity Demanded
∆P = Change in Price

5. Elasticity over a Segment of Demand Curve
Price D R P0 S P1 D Q0 Q1
Quantity Demanded

6. Price Elasticity over a Segment of Demand Curve
Q1 – Q0
(P0 + P1)/2 X ep =
P1 – P0
(Q0 + Q1)/2
P0 + P1
Q1 – Q0 = X
Q0 + Q1
P1 – P0 Q
P0 + P1 = X P
Q0 + Q1

7. Elasticity at a Point on the Demand Curve
Measurement of point elasticity is same as the price elasticity of demand in a limiting sense
Here changes in quantity demanded and price are infinitesimally small
Point elasticity of demand is different at different point on the demand curve

8. Elasticity at a Point on the Demand Curve
Draw a tangent AB on the demand curve at point R
Slope of AB = OB/OA
Ep = (OB/OA)* (RN/RM)
As triangle AOB, AMR and NRB are similar (OB/OA)= (NB/RN)
Ep = (NB/RN)*(RN/RM)
= NB/RM
Again NB/RM = RB/AR
Ep = RB/AR
Ep = Lower Segment
Upper Segment
Price D ep =
Lower Segment
Upper Segment A S R M D B O N
Quantity Demanded

9. Elasticity at a Point on the Demand Curve
Price
ep = ∞ A
ep > 1
ep = 1
ep < 1
ep = 0 B
Quantity Demanded

10. Categories of Price Elasticity of Demand
Perfect elastic demand
Perfect inelastic demand
Unit elasticity of demand
Relatively elastic demand
Relatively inelastic demand

11. Difference between Slope and Elasticity
Slope of the Demand Curve ðP ðQ
Elasticity on the demand curve
Tow demand curves may have the same slope but different elasticities as well as different slope and the same elasticities = P ðP = Q ðQ

12. Price C
The absolute elasticity of demand curve
AB is more than that of demand curve
CD, in spite of their slopes being the same A R S P
Quantity Demanded B D

13. Price A
Elasticities of both the curves are
equal , where as their slopes
are different R S P B C
Quantity Demanded

14. Price Elasticity, Total Revenue and Total Expenditure
Total expenditure by the consumer over any given period of time is the number of units of a product purchased over a period Q, multiplied by the price of the product , P
Total Expenditure = P.Q = Total Revenue
Price
Supply
Total Revenue = OAEQ
Total Expenditure = OAEQ E A
Demand
Quantity Q

15. Predicting Changes in Total Revenue and Total Expenditure in Response to Price Increase
New Supply Curve
Price
Old Supply Curve
Gain in
revenue F P2 P1 E H
Loss in revenue
Demand Curve Q2
Quantity Q1

16. Summary of Elasticity Measures (increase in Price)
Predicting Changes in Total Revenue and Total Expenditure in Response to Price Increase
Summary of Elasticity Measures (increase in Price)
Unitary Elastic
% ∆Q = %∆P
e = 1
No Change
Relatively Elastic
% ∆Q > %∆P
e > 1
Decrease
Perfectly
Elastic
% ∆Q = 0
e = ∞ -
Relatively Inelastic
% ∆Q < %∆P
e < 1
Increase
Perfect inelastic
e = 0

17. Cross Elasticity of Demand
Cross elasticity of demand is defined as the percentage change in the quantity demanded of a good due to the changes in the prices of other good, other things remaining the same.
Percentage change in the demand of ith good
Percentage change in the price of jth good
ecji =

18. Cross Elasticity of Demand
When two goods are substitutes, than increase in the price of one good decreases its own demand and increases the demand of another good. In this case cross elasticity of demand is positive
In the case of complementary goods the increase in the price of one good decreases the demand for both the goods. In this case cross elasticity of demand is negative.

19. Income elasticity of Demand
The income elasticity of demand is defined as the rate of change in the quantity demanded of a good due to changes in the income of the consumer.
If the amount of good demanded rises as the income of the consumer increases, than value of income elasticity of demand is positive (Normal good)
If the amount of good demanded decreases as the income of the consumer increases, than value of income elasticity of demand is negative (Inferior good)
Income elasticity of demand is also used to classify goods into luxuries and necessities. If the income elasticity of good is greater than one, it is called luxury. If the income elasticity is less than one, it is called a necessity. If it is equal to one, it can be called as a semi-luxury good.

20. Income Elastic E1 Q2
Income elasticity of demand is greater than one. In this case as income increases, the quantity demanded also increases. But the percentage increase in demand is more than percentage increase in income
Quantity
Demanded E Q1 Y1 Y2
Income

21. Income Inelastic Quantity Demanded E2 Q1
Income elasticity is between zero and one. In this case, as income increases quantity demanded increases but the percentage increase in quantity demanded is less than percentage increase in income Q2 E1 Y1 Y2
Income

22. Varying Income Elasticities
Income elasticity is positive at low incomes but becomes negative as income increases above level M. Maximum consumption of good occurs at income M.
Quantity
Demanded
Positive income elasticity
Negative income elasticity
Income M
Elasticity less than 1 and becomes negative

23. Promotional (or Advertising) Elasticity of Demand
The advertising elasticity of demand measures an extent to which the demand of a product will be influenced by advertisement and other promotional activities.
Advertising elasticity of demand measures the responsiveness of quantity demanded to changes in the expenditure on advertising and other sales promotional activities. ðQ A . eA = Q ðA

24. Determinants of Price Elasticity of Demand
Closeness of substitutes
The proportion of income spent on the good
The time elapsed since the price change
Nature of good

25. Determinants of Income Elasticity of Demand
Nature of the need the good covers
The initial level of income of a country
Time period

26. Determinants of Cross Elasticity of Demand
The main determinant of cross elasticity of demand is the nature of the goods relatives to their usages. If two goods can satisfy equally well the same need, the cross elasticity is high and vice versa.