Elasticity of Demand & Supply
Businesses need to measure the
responsiveness of quantity demanded to
price so that they can:
• Make decisions on pricing of products
and/or
• Whether to develop new models of their
product
They measure elasticity by
means of a concept called
“elasticity”
Demand
• A curve indicating a sharp response to
change in price is said to be “elastic”
• A curve involving a small response to
change in price is called “inelastic”
(Price) Elasticity of Demand
• The ratio of the percentage change in
quantity demanded to the percentage
change in price
Elasticity of Demand = % change in quantity demanded
% change in price
ie. Gas station sells 10 million litres/month at $.50, raise price to
$.54/litre, quantity demanded drops to 9.5 million litres
Calculating per cent change in quantity:
• Use the average between the original quantity
sold and the quantity after the price change
ie. Demand fell from 10 to 9.5, the average quantity demanded is 9.75.
Change in quantity is -0.5
Per cent change demanded is:
-0.5 x 100 = -5.128% or 5.13%
9.75
This number serves as the numerator
Calculating per cent change in price:
•
•
•
•
Original price was $.50, increased to $.54
Difference of $.04
Average price is $.52
The per cent change in price in this
example is:
4 x 100 = 7.69%
52
This number serves as the denominator
Coefficient of Demand:
• Now we can use the formula to determine
the coefficient of demand:
%QD = 5.13% = 0.667 or 0.67
%PD
7.69%
The answer is known as: the coefficient of
demand
Can we use Slope as a Determinant of Elasticity?
• May seem that the slope of the demand curve
conveys information we need
• But slope won’t do the job because it depends
on the units of measurement
• Since there are no standardized units of
measurement, economists use the elasticity
measure because it deals with percentage
changes in price & quantity
Elasticity Formula
• The elasticity formula solves the units
problem because percentages are
unaffected by units of measurement
• Ex. If your height doubles between ages 5
and 15, it goes up 100 percent whether
measured in inches or in centimetres