LEARNING OUTCOMES 2

• Explain the concept of price elasticity

• Explain the factors that influence price elasticities
• Explain how individuals make use of the concepts of
elasticity to explain their strategies (for sellers) and their
decisions (for consumers)
 5

ACTIVITY

Activity Instructions
 5

SECTION A
Price Elasticity of Demand
 ELASTICITY 5

Elasticity is the measurement of how responsive an economic variable is to

a change in another variable.

For example: If the price of gasoline increases, how would motorists

respond to this change and how would it affect the demand for cars?
Formula:
Elasticity = % Change in Quantity
% Change in a Variable

Change in Quantity
×100 %
Original Quantity
= Change in Variable
Original Variable
×100 %

Interpretation of elasticity:
• If a variable is elastic, it has high responsiveness to a change in another
variable.
• If it is inelastic, it has low responsiveness to a change in another variable.
 5

SECTION A
Price Elasticity of Demand
 7

ELASTICITY

Click here to watch video (from 00:00 till 3:40)

PRICE ELASTICITY OF DEMAND 8

Price elasticity of demand (PED) measures the responsiveness of quantity

demanded to changes in price for a particular good, ceteris paribus.

Formula:
Price Elasticity of Demand (PED) = % Change in Quantity Demanded
% Change in Price

How to find % Change in Quantity Demanded : How to find % Change in Price:

Final Quantity Demanded – Initial Quantity Demanded X 100 % Final Price – Initial Price X 100 %
Initial Quantity Demanded Initial Price

The law of demand states that higher prices lower the quantity demanded.

Due to the inverse relationship between price and quantity demanded, price
elasticity of demand (PED) is negative for most goods. Hence, economists ignore
the negative sign and read the absolute value of PED.
 9
PRICE ELASTICITY OF DEMAND

Absolute value of Price Elasticity of

Interpretation
Demand (PED)
=0 Demand is perfectly inelastic

less than 1 Demand is price inelastic

=1 Demand is unit elastic

more than 1 Demand is price elastic

Infinity (∞) Demand is perfectly elastic

 PRICE ELASTICITY OF DEMAND
Perfectly Price Inelastic:
No matter what the price,
you will demand the same
amount of the good.
E.g. Insulin (a form of
medication) is perfectly price
inelastic as there are no
substitutes. Generally, a quantity demanded is less
diabetic patient would need a
daily fix no matter what the
cost is.
Price Inelastic Demand:
When demand is price
inelastic, a change in price
leads to a less than
proportionate change in
quantity demanded.
 the percentage change in
than the percentage change
in price.
10
Unit Elastic Demand:
When demand is unit elastic, a
change in price leads to a
proportionate change in
quantity demanded.
 the percentage change in
quantity demanded is the
same as than the percentage
change in price.
PRICE ELASTICITY OF DEMAND
Price Elastic Demand:
When demand is price elastic, a
change in price leads to a more than
proportionate change in quantity
demanded.
 the percentage change in quantity
demanded is more than the percentage
change in price.
11
Perfectly Price Elastic:
Implies that a small change in price
would lead to an infinitely large change
in demand.
Eg. Same soft drinks from vending
machines located side by side.
People will buy from the one with lower
prices, even by a small amount. No one
will buy from the one with a higher price.
 ACTIVITY 1 11

Table 1 shows the corresponding quantity demanded of coffee mugs at different

price levels.
TABLE 1
Price 5.50 5.00 4.50 4.00 3.80 3.50 3.20 3.00 2.60 2.30 2.00 1.80
($)
Quantity 20 30 45 55 68 77 89 100 110 137 167 211

Suppose the price of coffee mugs fell from $4.00 to $3.20:

a) What is the percentage change in the price of coffee mugs?
b) What is the corresponding change in the quantity demanded for coffee mugs?
c) What is the corresponding percentage change in the quantity demanded for
coffee mugs?
d) Calculate the price elasticity of demand based on your answers in parts (a) and
(c).
e) Interpret the price elasticity of demand for coffee mugs based on the value you
calculated in Question (d)
 13

SECTION B
Factors Affecting Price Elasticity of Demand
 14

FACTORS AFFECTING PRICE ELASTICITY OF DEMAND

Factors Explanation

Availability and The more and closer the substitutes, the more price elastic the product.
closeness of E.g. Margarine (Products are price elastic as they are close substitutes, eg. butter)
substitutes
Time frame Goods tend to have more price elastic in demand over longer time periods, since
people have more time to react to the price change and vary their quantity
demanded accordingly.
E.g. Tablet. (More price elastic given time, as consumers have time to adjust to
using a different brand of tablet)
The broadness of The broader the category, the less price elastic is the demand .
category for the E.g. The category “handphones” is less price elastic in demand than a particular
good model of handphone like the Samsung Galaxy S4.
Degree of The more the item is a basic necessity, the less price elastic it is.
Necessity
E.g. Rice or Bread (Necessity) versus Jewellery or Travel (Luxury)  For
necessities like rice and bread they are less price elastic as consumers will still
continue to purchase even if price increases.

Habit Goods that tend to be addictive in nature such as cigarettes for smokers, tend to be
more inelastic.
 15
ACTIVITY 2
For each given scenario, complete the table below by filling in the blanks (i.e.
indicating ‘elastic’ or ‘inelastic’) and provide your explanations.
Factor affecting
Scenario Price Elasticity of Demand (PED) PED Explanation

An increase in Demand for Demand for vegetables

the price of vegetables will be will be price
vegetables price ____________ in ______________ 6
the first week. months later.

An increase in Demand for Demand for fast food will

the price of ‘McDonalds’ will be be price
fast food price __________. ______________.

An increase in Demand for Pepsi will Demand for milk will be

the price of be price ___________. price ______________.
Coca Cola

An increase in Demand for HIV antiretroviral drug by a HIV-

the price of infected patient will be perfectly price
HIV ___________.
antiretroviral
drug
 18

SECTION C
Price Elasticity of Supply
PRICE ELASTICITY OF SUPPLY 17

Price elasticity of supply (PES) measures the responsiveness of quantity

supplied to changes in price, ceteris paribus.

Formula:
Price Elasticity of Supply (PES) = % Change in Quantity Supplied
% Change in Price

How to find % Change in Quantity Supplied : How to find % Change in Price:

Final Quantity Supplied – Initial Quantity Supplied X 100 % Final Price – Initial Price X 100 %
Initial Quantity Supplied Initial Price

The law of supply states that higher prices raise the quantity supplied.

Due to the direct relationship between price and quantity supplied, price
elasticity of supply (PES) is always positive.
 18

PRICE ELASTICITY OF SUPPLY

Price Elasticity of Supply (PES) Interpretation

=0 Supply is perfectly inelastic

Less than 1 Supply is price inelastic
=1 Supply is unitary elastic
More than 1 Supply is price elastic
Infinity (∞) Supply is perfectly elastic

Examples

Price inelastic supply Price elastic supply

Flight Tickets Fashion wear e.g. denim

jeans
Gasoline Furniture
Food Electronic Gadgets
 19
PRICE ELASTICITY OF SUPPLY
 ACTIVITY 3
22

Table 2 shows part of the supply schedule for coffee beans.

Table 2
Price ($) Quantity of coffee beans supplied (tons)
$400 10,000
$700 30,000
$900 65,000
$1000 80,000

Suppose the price of coffee beans rises from $700 to $1000:

a) What is the percentage change in the price of coffee beans?
b) What is the corresponding change in the quantity supplied of coffee beans?
c) What is the corresponding percentage change in the quantity supplied of coffee
beans?
d) Calculate the price elasticity of supply based on your answers derived from parts
(a) and (c).
e) Interpret the price elasticity of supply of coffee beans based on the value derived
in part (d).
 24

SECTION D
Factors Affecting Price Elasticity of Supply
 22
FACTORS THAT AFFECT PRICE ELASTICITY OF SUPPLY
Factors Explanation
Number of Some goods can be produced only by using specific or unique
substitutes for productive resources. These goods have a low price elasticity of supply
productive i.e. price inelastic supply.
resources
Time frame for In the short run, quantity supplied cannot increase by much as there are
supply decision certain constraints.
In the long run, the supply is much more price elastic as it has time to
adapt to the changing prices.
Eg. For many agricultural products there are time lags in the production
process which means that price elasticity of supply is very low in the
immediate or momentary time period.
Spare production If there is plenty of spare capacity, the firm should be able to increase
capacity output quite quickly without a rise in costs and therefore supply will be
price elastic.
Eg. During a recession, supply of labour is often price elastic.
Stocks If stocks of raw materials, components and finished products are high
then the firm is able to respond to a change in demand quickly by
supplying these stocks onto the market - supply will be price elastic.
 ACTIVITY 4 26

For each given scenario, complete the table below by filling in the blanks (i.e.
indicating ‘elastic’ or ‘inelastic’) and provide your explanations.
Factor affecting
Scenario Price Elasticity of Supply (PES) Explanation
PES
An increase in Supply for vegetables Supply for vegetables will
the price of will be price be price ______________
vegetables ____________ in the 6 months later.
first week.
An increase in Supply for handphone Supply for handphone will
the price of will be price be price __________ if
Samsung __________ if usage there is still machinery not
handphones of production being used for production.
machinery is
maximized.
An increase in Supply for lunch set Supply for lunch set will
the price of will be price be price __________ if
lunch set __________ if the the restaurant employs
restaurant employs specialty chefs who are
general kitchen trained in preparing the
workers. lunch sets.
An increase in Supply for Mona Lisa painting will be perfectly
the price of price ___________.
Mona Lisa
painting
 29

SECTION E
Elasticity and Total Revenue
 25
ELASTICITY ALONG A DEMAND CURVE

When demand is elastic: The middle of the

When demand is
• Along the upper half of demand curve is unit
elastic inelastic:
the demand curve
• Along the lower half of
• When the prices are
the demand curve
higher, consumers are
• When prices are lower,
more sensitive to price
consumers are not that
change. Hence,
price sensitive. Hence,
demand is more
demand is inelastic.
elastic.
 26
ELASTICITY AND TOTAL REVENUE

Click here to watch video (from 3:41 till 5:57)

 27
ELASTICITY AND TOTAL REVENUE
Total Revenue = Price X Quantity

When demand is elastic:

• % change in quantity
demanded is more than the
% change in price. So, total
revenue will decrease for a
price increase, and increase
for a price decrease.
When demand is inelastic:
• % change in quantity
demanded is less than the %
change in price. So, total
revenue increases for a price
increase, and decreases for a
price decrease.

Total Revenue:
 Total revenue is maximized at the midpoint of the demand curve, where
demand is unitary elastic(equals to 1).
Total revenue does not change as price changes.
 ACTIVITY 5A
33

Suppose you work part-time at Golden Village (GV) as a ticketing crew member. Recently, GV
management had decided to raise the prices of movie tickets across all categories by 2%.
Since there, you saw a drastic fall in the number of students and senior citizens patronising
the cinema. In your teams, discuss and thereafter share with the class on:

• how this will impact GV’s revenue earnings , and

• propose an alternative strategy to GV’s management instead

 29
ELASTICITY AND TOTAL REVENUE
• If demand is price elastic, a 1% price cut increases the quantity sold by
more than 1%.
• If demand is price inelastic, a 1% price cut increases the quantity sold
by less than 1%.

Seller’s Strategy
Knowing that the demand curve is price elastic at low quantities, the seller
will decrease prices and the quantity demanded will increase more than
proportionately.

Elastic Demand: Price X Quantity = Total Revenue

Therefore the seller will reduce prices when demand is price elastic and
increase prices when demand is price inelastic to increase his total
revenue.
 30

ELASTICITY AND TOTAL REVENUE

Change in
Absolute Effect of Higher Effect of Lower
Type of Quantity
value of Price on Total Price on Total
Demand demanded vs.
PED Revenue Revenue
Change in Price
Price Greater than Larger percentage Decreases Increases
Elastic 1 (i.e. more than
proportionate)
change in quantity
Price Less than 1 Smaller percentage Increases Decreases
Inelastic (i.e. less than
proportionate)
change in quantity
Unitary Equals to 1 Same percentage Does not change Does not change
elastic changes in quantity
and price
 ACTIVITY 5B
37

The oil-producing countries have had some success driving up oil prices to increase the total oil
revenue. Answer the following questions using the information provided below:
Price elasticity of demand for oil -0.5

Increase in oil price 10%

Initial price of oil $50 per barrel

Initial quantity demanded of oil 10,000,000 barrels per day

a) Calculate the initial total revenue i.e. before the price hike.
b) Determine the percentage change in quantity demanded for oil.
c) After the price hike, what is the new
i. Quantity demanded of oil
ii. Price of oil
iii. Total revenue (hint: use the new quantity demanded and price to determine the total
revenue)
d) Based on your answer derived in part (c), state the relationship between price elasticity of
demand for oil, its increase in price and its impact on total revenue.
e) Hence, explain what would happen to the total revenue if the price of oil decreased instead.
 32
CONCEPT DIAGRAM
Elasticity = % change in Quantity
% Change in a Variable

Price Elasticity of Demand Price Elasticity of Supply

(PED) = % Change in Quantity Demanded (PES) = % Change in Quantity Supplied
% Change in Price % Change in Price

Price elasticity of Demand Price elasticity of Supply

Factors: Factors:
• Availability and closeness of • Number of substitutes for
substitutes productive resources
• Time frame • Time frame for supply decision
• The broadness of category for • Spare production capacity
the good • Stocks
• Degree of Necessity
 39
CHALLENGE YOURSELF
a) Using the advertisement provided,
identify and explain three factors
that would affect the price elasticity
of demand for laptops.
b) For a consumer who likes to surf
the internet, how will the
introduction of tablets affect the
demand of laptops?
 34
RESOURCES
Recommended Textbooks
• Parkin, M. (2016). Microeconomics 12th Edition. Pearson.
• Parkin, M. (2016). Economics 12th Edition. Pearson.
• Gillespie, A. (2014). Foundations of Economics 3rd Edition. Oxford University Press

Websites
• Riley, G. (n.d.). Explaining Price Elasticity of Demand. Retrieved on 15 Mar 2020 from Tutor2u website:
https://www.tutor2u.net/economics/reference/price-elasticity-of-demand
• Riley, G. (n.d.). Factors affecting Price Elasticity of Demand. Retrieved on 15 Mar 2020 from Tutor2u website:
https://www.tutor2u.net/economics/reference/factors-affecting-price-elasticity-of-demand
• Riley, G. (n.d.). Price Elasticity of Supply. Retrieved on 15 Mar 2020 from Tutor2u website:
https://www.tutor2u.net/economics/reference/price-elasticity-of-supply

Videos:
• Elasticity of demand. (2015). Retrieved on 15 Mar 2020 from YouTube website: https://www.youtube.com/watch?v=J82_xd5XxXg
• Pooley, G. (2012). Price elasticity of supply. Retrieved on 15 Mar 2020 from YouTube website:
http://www.youtube.com/watch?v=4cHWVRsta3U
• Elasticity and Total Revenue. (2014). Retrieved on 15 Mar 2019 from YouTube website:
https://www.youtube.com/watch?v=HHcblIxiAAk