Elasticity of Demand

Sonu Malik DPS Vasant Kunj

Introduction

Law of demand gives the inverse relationship between quantity demanded and price of the commodity

Does not give the extent to which a change in price impacts quantity demanded
Elasticity of demand measures the degree of responsiveness of demand to a change in the price of the commodity

Degrees of Elasticity
Relatively Inelastic Demand % Qd < % P
D Price per unit

ep < 1

D 0 Quantity demanded

Demand schedule for wheat Price (per kg) 2 5 Demand (kg) 12 10

Degrees of Elasticity
Relatively Inelastic Demand % Qd < % P
D Price per unit Price per unit

Relatively Elastic Demand % Qd > % P

ep > 1

ep < 1

D D 0 Quantity demanded 0 Quantity demanded

Demand schedule for wheat Price (per kg) 2 5 Demand (kg) 12 10

Demand schedule for air conditioners Price (per AC) 12,000 15,000 Demand (No.) 20 10

Degrees of Elasticity
Perfectly Inelastic Demand
P does not lead to any Qd
D Price per unit ep = 0

D Quantity demanded

Demand schedule for medicine

Price (per tablet) 5

10 20

Demand (tablets) 10
10 10

Degrees of Elasticity
Perfectly Inelastic Demand
P does not lead to any Qd
D Price per unit Price per unit ep = 0 ep = D

Perfectly Elastic Demand

Very small P leads to a very large Qd

D Quantity demanded

Quantity demanded

Demand schedule for medicine

Demand schedule for chocolates Price (per kg) 5 5 Demand (kg) 0 45

Price (per tablet) 5

10 20

Demand (tables) 10
10 10

Degrees of Elasticity
Unitary Elastic Demand % Qd = % P
Price per unit

D
ep = 1

Demand curve : Rectangular hyperbola Area under the demand curve is always constant
D

2 Quantity demanded 0 10 25

Expenditure on commodity remains constant

Expenditure (Rs) 50 50

Demand schedule for pulses Price (per kg) 2 5 Demand (Kg) 25 10

Measures for Calculating Elasticity of Demand

Proportionate or Percentage Method

Total Outlay or Expenditure Method

Geometric Method

Proportionate or Percentage Method

Measures the value of elasticity mathematically

Gives an exact value to the elasticity of demand

ep =

% change in quantity demanded % change in price Change in quantity demanded

ep=

Change in price

Original price Original quantity demanded

Proportionate or Percentage Method

Price p1 p2 Quantity Demanded q1 q2 ep= % change in quantity demanded % change in price

Proportionate or Percentage Method

Price p1 p2

Quantity Demanded q1 q2 ep= % change in quantity demanded % change in price q2 - q1 q1 x 100

% change in quantity demanded =

Proportionate or Percentage Method

Price Quantity Demanded

p1
p2

q1
q2

ep=

% change in quantity demanded % change in price q2 - q1 q1 x 100

% change in quantity demanded = % change in price = p2 - p1 p1

x 100

Proportionate or Percentage Method

Price p1 p2

Quantity Demanded q1 q2 ep= % change in quantity demanded % change in price q2 - q1 q1 x 100

% change in quantity demanded = % change in price = q2 - q1 x 100 q1 e p= p2 - p1 x 100 p1 p2 - p1 p1 x 100

Proportionate or Percentage Method

Price Quantity Demanded

p1
p2

q1
q2

ep=

% change in quantity demanded % change in price q2 - q1 x 100 q1

% change in quantity demanded =

% change in price = e p= q2 - q1 q1 p2 - p1 p1 x 100 = x 100 p2 - p1 p1 x 100

q2 - q1
p2 - p1

p1 q1

Proportionate or Percentage Method

Price
p1 p2

Quantity Demanded
q1 q2 ep= % change in quantity demanded % change in price q2 - q1 q1 x 100

% change in quantity demanded =

p -p % change in price = 2 1 x 100 p1 q2 - q1 q2 - q1 x 100 q1 . = e p= p2 - p1 p2 - p1 x 100 q p . p1 = p q

p1 q1

Where q = change in quantity demanded p = change in price p = original price q = original quantity demanded

Price elasticity of demand

Price 12

Price 12 10 8 6 4 2 0

Quantity 0 10 20 30 40 50 60

10

D
0
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

Price 12 10 8 6 4 2 0

Quantity 0 10 20 30 40 50 60

10

D
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

10

a
b

Price 12 10 8 6 4 2 0

Quantity 0 10 20 30 40 50 60

D
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

ep= a Q
b
D

Q D P

P QD

10

= 20 10 = 10

QD = 10
4

D
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

ep= a
P = - 2

Q D P
D

P QD

10

Q P

= 20 10 = 10 = 8 10 = - 2

QD = 10
4

D
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

ep= a
P = -2

Q D P

P QD

10

Q D = 20 10 = 10 P = 8 10 = - 2 Q D = 20

QD = 10
4

QD = 20

D
40 50 60

10

20

30

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

P=8

ep=
P = -2

Q D P

P QD

10

Q D = 20 10 = 10 P = 8 10 = - 2 Q D = 20 P = 8

QD = 10
4

QD = 20

D
40 50 60

10

20

30

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

P=8

ep=
P = -2

Q P 10 -2 .

P Q

10

ep=

8
20 (elastic)

= -2
6

Q = 10
4

Q = 20

D
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price 12

Price
12 10 8 6 4 2 0

Quantity
0 10 20 30 40 50 60

10

D
0
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

Price
12 10 8 6 4 2 0 b

Quantity
0 10 20 30 40 50 60

10

D
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

Price
12 10 8 6 4 2 0 b

Quantity
0 10 20 30 40 50 60

10

a
D
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

ep= Q
D

Q D P

P QD

10

= 40 50 = - 10

QD = - 10

a
D
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

ep= Q P
D

Q D P

P QD

10

= 40 50 = - 10 = 42=2

P = 2
4

QD = - 10

a
D
0 10 20 30 40 50 60

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

ep=

Q D P

P QD

10

Q D = 40 50 = -10 P = 4 - 2 = 2 Q D = 40
P = 2

QD = - 10

QD = 40 D
60

10

20

30

40

50

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

ep=

Q D P

P QD

10

P=4 P = 2

Q D = 40 - 50 = -10 P = 4 2 = 2 Q D = 40 P = 4
b

QD = - 10

QD = 40 D
60

10

20

30

40

50

70

Quantity demanded per unit time

Price elasticity of demand

Price Price (Rs) 12

ep= ep=
P=4 P = 2

Q D P - 10 2 .

P QD

10

4
40 (inelastic)

ed = - 0.5
b

QD = - 10

QD = 40 D
60

10

20

30

40

50

70

Quantity demanded per unit time

Proportionate or Percentage Method

Value of price elasticity of demand is always negative Highlights the inverse relationship between quantity demanded and price of a commodity

Point or Geometric Method

Different points on a demand curve have different elasticity ep = =

Lower segment Upper segment AN AM

Price per unit

N Quantity demanded per unit of time

Point or Geometric method

If A is the mid point of demand curve MN

Point A: unitary elastic

Price per unit

ep = 1

0 Quantity demanded per unit of time

Point or Geometric method

If A is the mid point of demand curve MN

Point A: unitary elastic Point M: Perfectly elastic

Price per unit

M ep =

ep = 1

0 Quantity demanded per unit of time

Point or Geometric method

If A is the mid point of demand curve MN

Point A: unitary elastic Point M: Perfectly elastic

Price per unit

M ep =

Point N: Perfectly inelastic

ep = 1

ep = 0 0 Quantity demanded per unit of time

Point or Geometric method

If A is the mid point of demand curve MN

Point A: unitary elastic Point M: Perfectly elastic

Price per unit

M ep =

Point N: Perfectly inelastic

ep = 1

Any point between A and N: Relatively inelastic

A
ep < 1

0 Quantity demanded per unit of time

ep = 0

Point or Geometric method

If A is the mid point of demand curve MN

Point A: unitary elastic Point M: Perfectly elastic

Price per unit

M ep =
ep > 1

Point N: Perfectly inelastic

ep = 1

Any point between A and N: Relatively inelastic Any point between A and M: Relatively elastic

A
ep < 1

0 Quantity demanded per unit of time

ep = 0

Factors influencing Elasticity of Demand

Nature of the Commodity

Necessities : relatively inelastic

Luxuries : relatively elastic More substitutes : relatively elastic Less substitutes : relatively inelastic Easy to postpone consumption : relatively elastic Difficult to postpone consumption : relatively inelastic

Availability of Substitute goods

Postponement of Consumption

Factors influencing Elasticity of Demand

Proportion of Expenditure

Large proportion of expenditure : relatively elastic Small proportion of expenditure : relatively inelastic Several uses : relatively elastic Few uses : relatively inelastic

Uses of the commodity

Tastes preferences and habits

Habit or preferred commodity : relatively inelastic

Indifferent to commodity : relatively elastic

Importance of Elasticity of Demand

To a Producer

Inelastic demand : price Elastic demand : price

revenue for producer revenue for producer

To Finance Minister

Inelastic demand :

tax revenue for government

revenue for government

Elastic demand : tax

In International Trade

Inelastic demand : Elastic demand :

price price

revenue for exporter revenue for exporter

Thank You!