the concept of elasticity 2

8/6/2019 The Concept of Elasticity 2

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The Concept

ofElasticity

MS. LEVIENE DIVINAGRACIA,MM


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The Concept of Elasticity

Elasticity is a measure of the sensitivity or responsiveness

of quantity demanded or quantity supplied to changes in

prices or other factors.

The greater the elasticity, the greater the responsiveness.2


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ELASTICITY OF DEMAND

Indicates the extent to

which changes in price

or other factors cause

changes in the quantitydemanded.

Classified as:

Price elasticity of demand

Income elasticity of

demand

Cross elasticity of demand3


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Price Elasticity

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Theprice

elasticity of

demandis used to

determine theresponsiveness of

demand to changes

in the price of thecommodity.

priceinchangePercentage

demandedquantityinchangePercentage=ED


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Sign ofPrice Elasticity

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According to the law of

demand, whenever the

price rises, the

quantity demanded

falls. Thus theprice

elasticity of demand

is always negative.

Because it is always

negative, economists

usually state the value

without the sign.


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What Information Price Elasticity

Provides

Price elasticity

of demand andsupply gives the

exact quantity

response to a

change in price.

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Classifying Demand and Supply

as Elastic, Inelastic orUnitary Demand is elasticwhen

quantity bought is affected

greatly by changes in theprice.

the percentage change in

quantity is greater than the

percentage change in

price. E> 1

The demand for common

luxuries and goods capable

of many uses like paper is

elastic. 7


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Demand is inelastic

when a percentage

change in price creates a

lesser change in quantity

demanded.

the elasticity coefficient is

less than 1. E< 1

The demand for

necessities like food,

clothing, and shelter is

inelastic.

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as Elastic, Inelastic orUnitary


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Demand is unitarywhen

a change in price creates

an equal change inquantity demanded.

the elasticity coefficient is

less than 1. E= 1

Semi-luxury items aregoods considered withunitary elasticity. E.g.designer clothes,watches, and bath soap.

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as Elastic, Inelastic orUnitary


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Implications ofPrice Elasticity of

Demand

If the price

elasticity of

demand is greaterthan 1, the price

should be lowered;

if less than 1, theprice should be

increased.

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Income Elasticity of Demand

Income elasticity of

demand refers to the

determination of the

responsiveness of demand

to a change in consumerincome.

When elasticity is >1,

demand is income elastic;

when


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Cross Elasticity of Demand

The responsiveness of the

quality demanded of a

particular good to changes

in the price of another good.

If cross elasticity is positive,

the goods are substitutes; if

it is negative, then the

goods are complements.

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goodsecondtheofpricein thechangePercentage

goodfirsttheofdemandedquantityinchangePercentage=ED


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Determinants of Demand

Elasticity 1. The price of the

good in relation to

the consumers

budget. Consumers are more

sensitive to price

changes of goods that

take a big amount of

their budget.

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Elasticity 2. The availability

of substitutes.

The more and

closer substitutes

are, the more

people will switchto substitutes,

when the price of

the goods rises.

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Elasticity 3.The type of

good.

Whether it is

a luxury good

or a

necessity.

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Elasticity 4. The time under

consideration.

Demand for a

good becomes

more elastic over

a long period oftime.

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Determinants of Supply Elasticity

1. Feasibility and

cost of storage.

Regardless of price,

perishable goods like

vegetables must be

brought to the market.

If storage cost is high,

even if it is available,

the sellers have nochoice but to sell at

prevailing prices.

Supply is inelastic.

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2. The ability of

producers to

respond to pricechanges. If the producers can

easily increase or

decrease output whenprices rise or fall,

supply is elastic.

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3. Time. With the passage of

time, especially for long

periods, supply tends to

be elastic.

If there is a rise in prices,

the producers may not

be able to makeadjustments quickly, but

given sufficient time, they

may be able to produce

more.20


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Figure 2: Extreme Cases ofDemand

D

Perfectly InelasticDemand

(a)

Quantity

Priceper

Unit

1

2

3

$4

20 40 60 80 100

(b)

D

Quantity20 40 60 80 100

1

2

3

$4

Priceper

Unit

Perfectly ElasticDemand


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Figure 3: Relationship between demand

slope and elasticityElasticityElasticity = |(1/slope)*(P/Q)|= |(1/slope)*(P/Q)|

Quantity

PRICE

Perfectly elastic

Perfectly inelastic

Relatively Inelastic Demand

Relatively Elastic Demand


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What Affects Price Elasticity of Supply?

Supply will tend to be more elastic when

suppliers can switch to producing alternate

goods more easily

How easy? Depends on

Nature of the good itself

Narrowness of the market definitionespecially geographic

narrowness

Time horizonlonger we wait after a price change, greaterthe supply response to a price change


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Price Elasticity of Supply Extreme cases of supply elasticity

Perfectly inelastic supply curve is a vertical

line

Many markets display almost completely inelastic

supply curves over very short periods of time

Perfectly elastic supply curve is a horizontal

line


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Figure 10: Extreme Cases of Supply

S

(a)

QuantityperPeriod

Priceper

Unit

P1

P2 S

(b)

QuantityperPeriod

Priceper

Unit

Perfectly InelasticSupply

Perfectly ElasticSupply

the concept of elasticity 2

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