Module 2: Demand Elasticity - Chapter 3 Notes

1. What is Demand Elasticity?

• Demand Elasticity is a quantitative measurement (coefficient) showing the percentage change in the
quantity demanded of a particular product relative to the percentage change in any one of the variables
included in the demand function for that product. Thus, an elasticity can be calculated with regard to
product price, consumer income, the prices of other goods and services, advertising budgets, education
levels, or any of the variables included in a demand function
• The important point is that an elasticity measures this responsiveness in terms of percentage changes in
both variables. Thus, an elasticity is a number, called a coefficient, that represents the ratio of two
percentage changes: the percentage change in quantity demanded relative to the percentage change in
the other variable.

2. How can managers use Percent Changes?

• Percentage changes are used so that managers and analysts can make comparisons among elasticities
for different variables and products. If absolute changes were used instead of percentage changes and
the quantities of products were measured in different units, elasticities could vary by choice of the unit
of measurement.
• For example, using absolute values of quantities, managers would find it difficult to compare consumer
responsiveness to demand variables if the quantity of one product is measured in pounds and another is
measured in tons, because they would be comparing changes in pounds with changes in tons.

3. What is price elasticity of demand (ep)?

• The price elasticity of demand (ep) is defined as the percentage change in the quantity demanded of a
given good, X, relative to a percentage change in its price, all other factors assumed constant, as shown
in Equation 3.1
• Percentage change in a variable is the ratio of the absolute change (Q2 – Q1 or ΔQ; P2 – P1 or ΔP) in that
variable to a base value of the variable, as shown in Equation 3.2

4. What is price elasticity of demand Formula?

where
eP = price elasticity of demand
Δ = the absolute change in the variable: (Q2 − Q1) or (P2 − P1)
QX = the quantity demanded of good X
PX = the price of good X

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5. Draw a change in Price Elasticity of Demand?
Figure 3.1
Price elasticity of demand is illustrated by the change in
quantity demanded from Q1 to Q2 as the price changes
from P1 to P2, or the movement along the Demand curve
from point A to point B in Figure 3.1. Because we are
moving along a demand curve, all other factors affecting
demand are assumed to be constant, and we are
examining only the effect of price on quantity demanded.
All demand elasticities are defined with the other factors
influencing demand assumed constant so that the effect of
the given variable on demand can be measured
independently.

Price Elasticity and the Movement Along a Demand Curve: Price elasticity is measured as a
movement along a demand curve from point A to point B.

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7. What is total revenue?
• The amount of money received by a producer for the sale of its product, calculated as the price per unit
times the quantity sold.

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