Elasticity and it’s Application
The Elasticity of Demand
Elasticity: a measure of the responsiveness of quantity demanded or quantity supplied to one of its
The Price Elasticity of Demand and Its Determinants:
Price Elasticity of Demand: a measure of how much the quantity demanded of a good responds to
a change in the price of that good, computed as the percentage change in quantity demanded
divided by the percentage change in price.
Elastic good: if the quantity demanded responds substantially to changes in the price.
Inelastic good: if the quantity demanded responds only slightly to changes in price.
Factors That Effect Elasticity:
Availability of Close Substitutes:
Goods with a close substitute are more elastic, because if the price rises in one good consumers
will quickly switch to the other good, dramatically dropping the demand for the first good.
Necessities versus Luxuries:
Necessities have inelastic demands (the price of toothpaste rises, the demand does not change
Luxuries have elastic demands (the price of sailboats rise, people will stop buying sailboats)
Definition of the Market:
Narrowly defined markets are more elastic, easier to find substitutes (ice cream market has many
Widely defined markets are inelastic, harder to find substitutes (the food market as a whole cannot
Goods have a more elastic demand over a longer period of time (as gas prices rise, in the first few
months people slightly reduce there gas intake, over years they buy more fuel efficient cars etc.
which significantly reduces the demand for gas) Computing the Price Elasticity of Demand
Price elasticity of demand = Percentage change in quantity demanded
Percentage change in price
The Midpoint Method
Price elasticity of demand = (Q2Q1)/(Q2+Q1)/2
= end value – start value
The Variety of Demand Curves
Inelastic: when the elasticity is less than 1
Elastic: when the elasticity is greater than 1
Unit Elasticity: when the elasticity is 1
The flatter the demand curve that passes through a given point, the greater the price elasticity of
The steeper the demand curve that passes through a given point, the smaller the price elasticity