UNIT 7 & 8: PART 4
ELASTICITY OF DEMAND
PRICE ELASTICITY OF DEMAND:
- How sensitive is the quantity demanded (𝑄𝑑) for a certain product to a change in that
product’s price?
o Firms want to know how their sales quantity will react to price changes.
o Governments want to know how markets will react to taxes.
- Price-elastic demand has a large 𝑄𝑑 response to a given price change.
- Price-inelastic demand has a small 𝑄𝑑 response to a given price change.
The slope of a demand curve measures (inversely) quantity response to price change:
But the slope depends on the units of measurement, e.g. measuring quantities in kilograms
instead of tonnes will make the slope 1000 times flatter.
A better (unit-free) measure uses the ratio of percentage changes:
- With what percentage will quantity demanded change given a 1 per cent increase in
price?
% change∈quantity demand
- Ɛ= =¿
% change∈ price
- Work with percentage changes and NOT change in absolute numbers
- Minus sign: The CORE text adds a minus sign in front of the formula as above. Most
other textbooks do not include the minus sign, so that the formula gives a negative
answer (because 𝑄𝑑 and 𝑃 move in opposite directions). However, by convention
economists refer to the number as a positive number, e.g. if you do not include the
minus sign in the formula and get an answer of −4, you would still say, “the price
elasticity of demand is four”; you would also say “the elasticity of demand is larger
than one” (despite −4 < −1).
- Percentage change calculation: “multiplying by 100” optional
ELASTICITY OF DEMAND
PRICE ELASTICITY OF DEMAND:
- How sensitive is the quantity demanded (𝑄𝑑) for a certain product to a change in that
product’s price?
o Firms want to know how their sales quantity will react to price changes.
o Governments want to know how markets will react to taxes.
- Price-elastic demand has a large 𝑄𝑑 response to a given price change.
- Price-inelastic demand has a small 𝑄𝑑 response to a given price change.
The slope of a demand curve measures (inversely) quantity response to price change:
But the slope depends on the units of measurement, e.g. measuring quantities in kilograms
instead of tonnes will make the slope 1000 times flatter.
A better (unit-free) measure uses the ratio of percentage changes:
- With what percentage will quantity demanded change given a 1 per cent increase in
price?
% change∈quantity demand
- Ɛ= =¿
% change∈ price
- Work with percentage changes and NOT change in absolute numbers
- Minus sign: The CORE text adds a minus sign in front of the formula as above. Most
other textbooks do not include the minus sign, so that the formula gives a negative
answer (because 𝑄𝑑 and 𝑃 move in opposite directions). However, by convention
economists refer to the number as a positive number, e.g. if you do not include the
minus sign in the formula and get an answer of −4, you would still say, “the price
elasticity of demand is four”; you would also say “the elasticity of demand is larger
than one” (despite −4 < −1).
- Percentage change calculation: “multiplying by 100” optional
