The Elasticity of Demand : The Elasticity of Demand The Concept of Elasticity : The Concept of Elasticity Elasticity is a measure of the responsiveness of one variable to another.
The greater the elasticity, the greater the responsiveness. Elasticity – the concept : Elasticity – the concept If price rises by 10% - what happens to demand?
We know demand will fall
By more than 10%?
By less than 10%?
Elasticity measures the extent to which demand will change Types of Elasticity : Types of Elasticity Price elasticity of demand
Income elasticity of demand
Cross elasticity Price Elasticity : Price Elasticity The price elasticity of demand is the percentage change in quantity demanded divided by the percentage change in price. Degree of price elasticity of demand : Degree of price elasticity of demand Perfectly elastic demand
More elastic demand
Less elastic demand Perfectly elastic demand : Perfectly elastic demand It refers to that situation in which a small change in price will cause an infinitely change in demand O Q1 Q2 Q3 D E=∞ P D PRICE QUANTITY Perfectly Inelastic Demand : Perfectly Inelastic Demand It refer to that situation in which there is no change in demand as a result of change in price E=0 Unitary elastic demand : Unitary elastic demand It refers to a situation where demand changes in exact proportion to the changes in price . If the price becomes double ,the demand falls by the half and if price falls by half ,demand double . Price Q Q1 y x E=1 ∆Q/Q = ∆ P/P More elasticity Demand : More elasticity Demand it refers to a situation in which change in demand is more than a proportionate change in price. o Q Q1
Demand Y X More elastic E >1 Price ∆Q/Q > ∆ P/P Less elastic demand : Less elastic demand It refers to a situation in which the changing demand is less than proportionate change in price . The demand for articles of necessity is of this type. P P1 E< 1 ∆Q/Q < ∆ P/P Factors determining the price elasticity of demand : Factors determining the price elasticity of demand Nature of commodity
Varity of uses
Postponement of use
Range of prices
Proportion of the income spent on a commodity
Classes of buyers Income elasticity of demand : Income elasticity of demand Income elasticity of demand is the rate at which quantity bought changes, as a result of change in the income of the consumer, other things being equal .
It shows how the quantity demanded will change ,when the income of the consumer changes, other things remaining constant. Slide 14: EY =∆Q * Y
Y Q EY= Quantity Income 0 Q Q1 D D kinds of the income elasticity of demand : kinds of the income elasticity of demand Positive income elasticity of demand :when the amount demanded of a company a commodity increase with increase in income of the consumer and decrease with decrease income. Quantity income y2 y y1 O Q2 Q Q1 Negative income elasticity of demand : Negative income elasticity of demand When the amount demanded of commodity diminishes with an increase in the income of the consumer and increase with a fall in income. Income y2 y y1 Quantity DY DY Zero income elasticity of demand : Zero income elasticity of demand When the demand for a commodity does not respond to changes in income of the consumer the income elasticity of demand is zero. y y2 y1 Income Quantity O Q Cross elasticity of demand : Cross elasticity of demand When the demand for a commodity changes with a change in the price of another related commodity ,the case is of cross demand . Measurement of cross elasticity of demand Kinds of cross elasticity of demand : Kinds of cross elasticity of demand Positive cross elasticity
Negative cross elasticity
Zero cross elasticity Positive cross elasticity : Positive cross elasticity With the rise or fall in the price of commodity the quantity demanded of related commodity increases or decrease
E.g. substitute Demand for tea Price of coffee P P1 O Q Q1 Negative cross elasticity : Negative cross elasticity With the rise in the price of commodity the quantity demanded of related commodity decrease. p Quantity Dc Dc p1 Zero cross elasticity of demand : Zero cross elasticity of demand When with the change in the price of a commodity there is no change in demand of other commodity ;then cross elasticity of demand is zero. p p2 p1 Price of butter Demand for petrol O Q Measurement of price elasticity of demand : Measurement of price elasticity of demand Total expenditure method
Percentage or proportionate
Revenue method Total Expenditure method : Total Expenditure method This method was evolved by Dr. Marshall
There are three measures of elasticity of demand
Greater than unity
Equal to unity
Less than unity Total expenditure method : Total expenditure method Percentage or proportionate : Percentage or proportionate This method was propounded by Dr. Flux.
According to this method the elasticity of demand can be measured with the help of the following formula:
PE= % change in demand
% change in price Point method : Point method This method suggested by Dr. Marshall.
This method is also known as point elasticity .
This method is useful when there is minute changes in price and quantity demanded. Arc method : Arc method When elasticity is computed between two separate points on a curve, the concept ids called arc elasticity . p p1 demand price Revenue method : Revenue method E = A