Demand Elasticity
Why is understanding elasticity of
demand important?
• The Law of Demand states what?
• It does not tell us how large or small of a
change
• How much more or less (quantity demanded)
of a product people will demand as prices
change.
Elasticity = Sensitivity
…to changes in price.
ELASTICITY OF DEMAND
• THE EXTENT TO WHICH A CHANGE IN
PRICE CAUSES A CHANGE IN THE
QUANTITY DEMANDED
• Name a product that you would still buy
regardless of price and a product that
you wouldn’t buy if the price changed.
If demand is…
• Elastic, buyers are MORE SENSITIVE to P.
• Inelastic = LESS sensitive
ELASTIC DEMAND
 SMALL CHANGE IN PRICE CAUSES LARGE
CHANGE IN QUANTITY DEMANDED
 “FLATTER” DEMAND CURVE
 EXAMPLE: NEIGHBORING GAS STATIONS
(PENNY WARS)
Elastic
• Elastic demand curves are flatter.
• Elastic means stretchy.
• “Stretch it out flat.”
P
D
Q
INELASTIC DEMAND
 CHANGE IN PRICE CAUSES SMALLER CHANGE
IN QUANTITY DEMANDED
 MORE VERTICAL DEMAND CURVE
 EXAMPLES: INSULIN,
GAS AFTER KATRINA
Inelastic
•
•
•
•
Inelastic starts with the letter “I”.
“I” is a vertical line.
Inelastic demand curves are STEEP.
Inelastic “I” Steep Curve
I
P
D
Q
TOTAL RECEIPTS TEST
• TR = PRICE OF PRODUCT X QUANTITY
SOLD
 IF PRICE AND REVENUE MOVE IN OPPOSITE
DIRECTIONS, IT HAS ELASTIC DEMAND
 IF PRICE AND REVENUE MOVE IN THE SAME
DIRECTION, IT IS INELASTIC
• IF THERE IS NOT CHANGE IN REVENUE, IT IS
CALLED UNIT ELASTIC
• PAGE 103 – FIGURE 4.5
WHY IS ELASTICITY IMPORTANT?
 1. PRICING POLICY – GIVES PRODUCERS AN
IDEA OF HOW TO CHANGE PRICES TO
MAXIMIZE PROFITS
 2. TELLS GOV’T WHAT TO TAX – SIN TAXES,
EXCISE TAXES
ELASTICITY
• HOW DO WE DETERMINE ELASTICITY?
• PAGE 106 - 107
DEMAND IS ELASTIC IF THE ANSWER TO
THE FOLLOWING QUESTIONS IS YES:
:CAN THE PURCHASE BE DELAYED?
ARE THERE SUBSTITUTE GOODS?
DOES THIS PURCHASE USE A LARGE
PORTION OF INCOME?