ECON111 Lecture Notes - Lecture 4: Inferior Good, Demand Curve, Normal Good
Elasticity
Price Elasticity of Demand
This measures the responsiveness of the quantity demanded to a given change in price. As shown
below, the same increase in supply can have drastically different impacts on the price and quantity
demanded.
This responsiveness is most easily visible through the slope of the graph. When the slope of the
demand curve is steep, the demand is less elastic – the quantity demanded is only slightly responsive
change in price. When the slope of the demand curve is flat, the demand is more elastic – the
quantity demanded is very responsive to the change in price.
In this example, we can compare slopes, but this is not always possible, as slope depends on the
units in which we measure the price and quantity. Often, we want to compare the elasticity of
different goods and services measured in unrelated units. So, price elasticity is calculated as a units
free measurement:
* The average quantity demanded is found using the original and the new quantity demanded
* the average price charged is found using the original and new price charged
By using the average price and average quantity, we get the same elasticity value regardless of
whether the price rises or falls. Moreover, note that the formula yields a negative value, because
price and quantity move in opposite directions. But it is the magnitude, or absolute value, that
reveals how responsive the quantity change has been to a price change.
When the price elasticity of demand is:
• Less than 1: demand in inelastic and the percentage change in the quantity demanded is
smaller than the percentage change in price. This is true of necessities like food and housing.
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• Greater than 1: demand is elastic and the percentage change in the quantity demanded is
greater than the percentage change in price. This is usually true of expensive products, like
cars, holidays, and furniture.
• Equal to 1: demand is unit elastic
• 0: demand is perfectly inelastic and the quantity demanded remains constant regardless of a
change in price. This is true products like medicine.
• Infinite: demand is perfectly elastic and quantity demanded changes by an infinitely large
percentage in response to a small price change. E.g. soft drinks in vending machines
Those last 3 cases are depicted below.
The elasticity of demand changes along a linear curve.
Note that at the mid-point of the demand curve, demand is unit elastic. At prices above the mid-
point of the demand curve, demand is elastic. And, at prices below the mid-point of the demand
curve, demand is inelastic.
Total Revenue and Elasticity
When the price changes, total revenue is also impacted. But, a rise i price does’t always increase
total revenue as the quantity demanded could go down. The change in total revenue due to a
change in price depends on the elasticity of demand:
• If demand is elastic, a 1 percent price cut increases the quantity sold by more than 1
percent, and total revenue increases.
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Document Summary
This measures the responsiveness of the quantity demanded to a given change in price. As shown below, the same increase in supply can have drastically different impacts on the price and quantity demanded. This responsiveness is most easily visible through the slope of the graph. When the slope of the demand curve is steep, the demand is less elastic the quantity demanded is only slightly responsive change in price. When the slope of the demand curve is flat, the demand is more elastic the quantity demanded is very responsive to the change in price. In this example, we can compare slopes, but this is not always possible, as slope depends on the units in which we measure the price and quantity. Often, we want to compare the elasticity of different goods and services measured in unrelated units. So, price elasticity is calculated as a units free measurement:
