INTRODUCTION

TO
ELASTICITY
ELASTICITY

• Elasticity refers to the responsiveness of one economic

variable, such as quantity demanded or supplied, to a change in
another variable, such as price or income.
• It uses percentages that allow us to create
a measure of
responsiveness that is independent to units.
• Elasticity is not the same as slope.
THE GENERAL FORMULA FOR ELASTICITY

E
ELASTICITY VALUES AND DESCRIPTIONS
 TYPES OF ELASTICITY
• Price Elasticity of Demand (PED)
• measures the responsiveness of quantity demanded to a change in price.
• Cross-Price Elasticity of Demand (XED)
• measures responsiveness of the quantity demanded of one good, good X, to a
change in the price of another good, good Y

• Income Elasticity of Demand (YED)

• measures the responsiveness of quantity demanded to a change in consumer
incomes.

• Price Elasticity of Supply (PES)

• measures the responsiveness of quantity supplied to a change in price.
PRICE ELASTICITY OF DEMAND (PED)

• Law of demand tells us that consumers will respond to a price

drop by buying more, but it does not tell us how much more.
• measures the responsiveness of demand after a change in a
product's own price.
PED CAN BE CALCULATED:

When calculating the price elasticity of demand, we ignore the minus sign for % change in Q.
 CALCULATING THE ELASTICITY OF DEMAND
Price
Original
point
20.50
Q /Q 2/10
ave
Elasticity = = =4
P/Pave 1/20

ΔP=1 20.00
New
point

19.50

9 10 11 Quantity
Qave =1/2(11+9)=10

Pave =1/2(20.50+19.50)=20
ΔQ=2 8
ELASTICITY OF DEMAND

DQ =2
X 100

%D Q Q1 + Q2 (9 + 11)
=20% = 10
2 20%
Ed = = Ed = = 4
5%
D P = 1.00
X 100
%D P P1 + P2 (20.50 + 19.50)
=5% = 20
2
CHARACTERISTICS:
VALUE TYPE
PED = ∞ demand is perfectly elastic Consumers are very sensitive to
price change

PED = 1 < x < ∞ demand is elastic Consumers are relatively

responsive to price changes.
PED = 1 demand is unit elastic Consumers’ response and price
change are in same proportion
PED = 0 < x < 1 demand is inelastic Consumers are relatively
unresponsive to price changes.
PED = 0 demand is perfectly inelastic Consumers are very insensitive to
price change.
GRAPH OF ELASTICITY
FACTORS AFFECTING PED
• Nature of the Good
- Luxury vs. Necessity

• Availability of Substitute Goods

• Number and Variety of Uses of the Product
• Proportion of Income Spent on the Good
• Role of Habits
• Possibility of Deferment of Consumption
• Price of the Good
TOTAL REVENUE AND ELASTICITY

Total Revenue
- The amount spent on a good and received by its sellers and equals the price of the good
multiplied by the quantity of the good sold.
TR = P x Q

Total revenue test

- A method of estimating the price elasticity of demand by observing the
change in total revenue that results from a price change.
The Relationship Between Price Elasticity of Demand and Total
Revenues
POINT PRICE QUANTITY TOTAL REVENUNE PED
A 1.1 0 0  
B 1 1 1 21
C 0.9 2 1.8 6.333
Elastic
D 0.8 3 2.4 3.4
E 0.7 4 2.8 2.143
F 0.6 5 3 1.144
G 0.5 6 3 1 Unit-elasti
H 0.4 7 2.8 0.692
I 0.3 8 2.4 0.467
Inelastic
J 0.2 9 1.8 0.294
K 0.1 10 1 0.158
CHANGES IN ELASTICITY ALONG A
LINEAR DEMAND
1.10
1.00 Elastic (EP > 1)
.90
Unit-elastic (EP = 1)
.80
.70 Inelastic (EP < 1)

.60
Price

.50
Demand,
.40 or average
.30 revenue curve

.20 D
.10

0 1 2 3 4 5 6 7 8 9 10 11
Quantity
 1.10 Elastic
demand

.80

ELASTICITY AND TOTAL

Unit

Price
elastic
.55
Inelastic
demand

0 Quantity
55 110
3.00 Maximum
total revenue
Total Revenue
REVENUE

When demand
is inelastic,
When demand is price cut decreases
elastic, price cut total revenue
increases total
revenue
Quantity
0 55 110
TOTAL REVENUE TEST
• PED > 1, total revenue will decrease as price increases. P and TR moves in
opposite directions. Producers can increase total revenue ( TR = Price x
Quantity) by lowering the price.

• PED < 1, total revenue will increase as price increases. P and TR moves in
the same direction. Producers can increase total revenue by raising the price.

• Revenue is maximized when elasticity of demand = -1.

SAMPLE PROBLEM:
• If the price falls from 6 to 4, the quantity demanded rises from 8000 to 12000.

1. Calculate the price elasticity of demand by using midpoint method. Show your complete
solution. (2 points)
2. What happens to the total revenue due to the price change? Show and explain. (2 points)

• The equation for a demand curve is Q = 15, 000 -50P. Find the price elasticity of
demand as price rises from 10 to 100.

• The equation for a demand curve is P = 48 – 3Q. What is the elasticity in moving
from a quantity of 5 to a quantity of 6?