ELASTICITY

In Economics, elasticity is the measurement of how

changing one economic variable affects others.

Note: Most commonly used variables are PRICE or

INCOME and QUANTITY Supplied or Demanded
• For example:

• "If I lower the price of my product, how much

more will I sell?“

• "If I raise the price, how much less will I sell?“

• "If we learn that a resource is becoming

scarce, will people scramble to acquire it?"
 Elastic vs Inelastic
• Generally, an elastic variable is one which
responds a lot to small changes in other
parameters.

• Similarly, an inelastic variable describes one

which does not change much in response to
changes in other parameters.
• In more technical terms, it is the ratio of the 
percentage change in one variable (i.e. price or
income) to the percentage change in another
variable (i.e. quantity demanded or supplied).

• It is a tool for measuring the responsiveness of

a function to changes in parameters in a
unitless way.
Frequently used elasticities include

• price elasticity of demand

• price elasticity of supply

• income elasticity of demand

 
• "Elasticity is a measure of responsiveness.
• The responsiveness of behavior measured by
variable Q to a change in environment
variable P
• It is the change in Q observed in response to a
change in P.
• Specifically, this approximation is common:

elasticity = (percentage change in Q) /

(percentage change in P)
 The Price Elasticity of Demand
• (commonly known as just price elasticity)
measures the rate of response of quantity
demanded due to a price change.

• The formula for the Price Elasticity of Demand

(PEoD) is:
• PEoD = (% Change in Quantity Demanded)/(%
Change in Price)
Calculating the Price Elasticity of Demand

"Given the following data, calculate the price

elasticity of demand when the price changes
from Ph9.00 to Ph10.00"
• First we'll need to find the data we need.
• We know that the original price is Ph9 and the
new price is Ph10,
• so we have Price(OLD)=Ph9 and
Price(NEW)=Ph10.
• From the chart we see that the quantity
demanded when the price is Ph9 is 150 and
when the price is Ph10 is 110.
• Since we're going from Ph9 to Ph10, we have
Qd(OLD)=150 and Qd(NEW)=110,
• Note: "Qd" is short for "Quantity Demanded".
• So we have:
• Price (OLD)=9
Price (NEW)=10
Qd (OLD)=150
Qd (NEW)=110
• To calculate the price elasticity, we need to
know what the percentage change in quantity
demand is and what the percentage change in
price is. It's best to calculate these one at a
time.
Calculating the Percentage Change in
Quantity Demanded

• The formula used to calculate the percentage

change in quantity demanded is:

• [Qd(NEW) - Qd(OLD)] / Qd(OLD)

• By filling in the values we wrote down, we get:

• [110 - 150] / 150 = (-40/150) x 100%= -26.67%

• (We leave this in decimal terms. In percentage

terms this would be -26.67%).
• Calculating the Percentage Change in Price
• Similar to before, the formula used to
calculate the percentage change in price is:
• [Price(NEW) - Price(OLD)] / Price(OLD)
• By filling in the values we wrote down, we get:
• [10 - 9] / 9 = (1/9) x 100%= 11.11%

• We have both the percentage change in

quantity demand and the percentage change
in price, so we can calculate the price
elasticity of demand.
 Final Step of Calculating the Price
Elasticity of Demand
• We go back to our formula of:
• PEoD = (% Change in Quantity Demanded)/(%
Change in Price)
• We can now fill in the two percentages in this
equation using the figures we calculated
earlier.
• PEoD = (-26.67%)/(11.11%) = -2.4005
• When we analyze price elasticities we're
concerned with their absolute value, so we
ignore the negative value. We conclude that
the price elasticity of demand when the price
increases from Ph9 to Ph10 is 2.4005.
 How Do We Interpret the Price
Elasticity of Demand?

• A good economist is not just interested in

calculating numbers. The number is a means
to an end; in the case of price elasticity of
demand it is used to see how sensitive the
demand for a good is to a price change.
• The higher the price elasticity, the more
sensitive consumers are to price changes.
• A very high price elasticity suggests that when
the price of a good goes up, consumers will
buy a great deal less of it and when the price
of that good goes down, consumers will buy a
great deal more.
• A very low price elasticity implies just the
opposite, that changes in price have little
influence on demand.
• Often an assignment or a test will ask you a
follow up question such as "Is the good price
elastic or inelastic between Ph9 and Ph10". To
answer that question, you use the following
rule of thumb:
• If PEoD > 1 then Demand is Price Elastic
(Demand is sensitive to price changes)
• If PEoD = 1 then Demand is Unit Elastic
• If PEoD < 1 then Demand is Price Inelastic
(Demand is not sensitive to price changes)
• Recall that we always ignore the
negative sign when
analyzing price elasticity, so PEoD is
always positive.
• In the case of our good, we calculated
the price elasticity of demand to be
2.4005, so our good is price elastic and
thus demand is very sensitive to price
changes.
The Income Elasticity of Demand
It measures the rate of response of quantity
demand due to a raise (or lowering) in a
consumers income. The formula for the
Income Elasticity of Demand (IEoD) is given
by:
IEoD = (% Change in Qty Demanded)/(%
Change in Income)
 Calculating the Income Elasticity of
Demand
• Given the following data, calculate the income
elasticity of demand when a consumer's
income changes from Ph40,000 to Ph50,000.
Using the chart on the bottom of the page, I'll
walk you through answering this question.
• The first thing we'll do is find the data we need.
We know that the original income is Ph40,000
and the new price is Ph50,000 so we have
Income(OLD)=Ph40,000 and
Income(NEW)=Ph50,000. From the chart we see
that the quantity demanded when income is
Ph40,000 is 150 and when the price is Ph50,000
is 180. Since we're going from Ph40,000 to
Ph50,000 we have Qd(OLD)=150 and
Qd(NEW)=180, where "Qd" is short for "Quantity
Demanded".
• So you should have these four figures written
down:
• Income(OLD)=40,000
Income(NEW)=50,000
Qd(OLD)=150
Qd(NEW)=180
• To calculate the price elasticity, we need to
know what the percentage change in quantity
demand is and what the percentage change in
price is. It's best to calculate these one at a
time.
Calculating the Percentage Change in
Quantity Demanded
• The formula used to calculate the percentage
change in quantity demanded is:
• [Qd(NEW) - Qd(OLD)] / Qd(OLD)

• By filling in the values we wrote down, we get:

• [180 - 150] / 150 = (30/150) = 0.2
• So we note that % Change in Quantity
Demanded = 0.2 (We leave this in decimal
terms. In percentage terms this would be
20%) and we save this figure for later. Now we
need to calculate the percentage change in
price.
Calculating the Percentage Change in
Income
• Similar to before, the formula used to
calculate the percentage change in income is:
• [Income(NEW) - Income(OLD)] / Income(OLD)

• By filling in the values we wrote down, we get:

• [50,000 - 40,000] / 40,000 = (10,000/40,000) x
100% = 25%
• We have both the percentage change in
quantity demand and the percentage change
in income, so we can calculate the income
elasticity of demand.
 Final Step of Calculating the Income
Elasticity of Demand
• We go back to our formula of:
• IEoD = (% Change in Quantity Demanded)/(%
Change in Income)
• We can now fill in the two percentages in this
equation using the figures we calculated
earlier.
• IEoD = (0.20)/(0.25) = 0.80
• Unlike price elasticities, we do care about
negative values, so do not drop the negative
sign if you get one. Here we have a positive
price elasticity, and we conclude that the
income elasticity of demand when income
increases from Ph40,000 to Ph50,000 is 0.8.
• How Do We Interpret the Income Elasticity of
Demand?
• Income elasticity of demand is used to see
how sensitive the demand for a good is to an
income change. The higher the income
elasticity, the more sensitive demand for a
good is to income changes.
• A very high income elasticity suggests that
when a consumer's income goes up,
consumers will buy a great deal more of that
good.
• A very low price elasticity implies just the
opposite, that changes in a consumer's
income has little influence on demand.
• Often an assignment or a test will ask you the
follow up question "Is the good a luxury good,
a normal good, or an inferior good between
the income range of Ph40,000 and Ph50,000?"
 To answer that use the following rule of thumb:
• If IEoD > 1 then the good is a Luxury Good and
Income Elastic
• If IEoD < 1 and IEOD > 0 then the good is a
Normal Good and Income Inelastic
• If IEoD < 0 then the good is an Inferior Good and
Negative Income Inelastic
• In our case, we calculated the income elasticity of
demand to be 0.8 so our good is income inelastic
and a normal good and thus demand is not very
sensitive to income changes.
 Past or Previous Present
Quantity Price Quantity Price
A 23 10 35 11
B 20 13 15 13