Chapter 4

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University of Toronto Scarborough
Economics for Management Studies
Gordon Cleveland

Chapter 4: Elasticity The laws of demand and supply predict the direction of changes in equilibrium price and quantity in response to various shifts in demand and supply. 4.1 PRICE ELASTICITY OF DEMAND Demand is said to be elastic when quantity demanded is quite responsive to changes in price. When quantity demanded is relatively unresponsive to change in price, demand is said to be inelastic. The more responsive the quantity demanded is to changes in price, the less the change in equilibrium price and the greater the change in equilibrium quantity from any given shifts in the supply curve. The Measure of Price Elasticity The slope of a demand curve tells us the amount by which price must change to cause a unit change in quantity demanded. If initial prices and quantities are the same in both cases, the larger absolute change is also the larger percentage change. The price elasticity of demand (demand elasticity) is a measure of the responsiveness of quantity demanded to a change in the commoditys own price. Equation: % change in quantity demanded % change in price The Use of Average Price and Quantity in Computing Elasticity Changes in price and quantity are measured in terms of the average values of each because averages avoid the ambiguity caused by the fact that when a price or quantity changes, the change is a different percentage of the original value than it is of the new value. Using average values of price and quantity means that the measured elasticity demand between any two points on the demand curve is pendent of whether the movement is from 1 to 2 or 2 to 1. Algebraic formulas: [(Q 1 ) 2average Q] [(P 1 ) 2average P]
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