Principles of economics openstax chapter5

College
Principles
ofPhysics
Economics
Chapter
# Chapter
Title
Chapter
5 Elasticity
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Elasticity

Elasticity: the responsiveness of quantity to a change in another
variable (i.e., price, income, price of other goods)
Price Elasticity of Demand: the responsiveness of quantity demanded
to a change in the price
Price Elasticity of Supply: the responsiveness of quantity supplied to a
change in the price


Elasticity Formula

ΔQ
Q

%ΔQ
Elasticity =

=

%ΔP

ΔP
P

Because the demand curve is downward sloping and the supply curve is upward sloping the
elasticity of demand is negative and the elasticity of supply is positive. Often these signs are
ignored.


Elasticity Formula

ΔQ
Q

%ΔQ
Elasticity =

=
%ΔP

ΔP
P

Arc Elasticity =

(Q2 – Q1)/(Q2 + Q1)
(P2 – P1)/(P2 + P1)

Elasticity Formula

Q1 = 2,800, P1 = 70 and Q2 = 3,000, P2 = 60

%ΔQ = (3,000 – 2,800)/(3,000 + 2,800) = 200/5,800 = 1/29

%ΔP = (60 – 70)/(60 + 70) = -10/130 = -1/13

Elasticity coefficient = (1/29)/(-1/13) = -13/29 = -0.45


Elasticity Terminology

Elastic: %ΔQ > %ΔP, elasticity coefficient > 1 Consumers show a strong
reaction to a price change.

Inelastic: %ΔQ < %ΔP, elasticity coefficient < 1: Consumers show a weak
reaction to a price change.

Unitary Elastic: %ΔQ = %ΔP, elasticity coefficient = 1 Consumers reaction to a
price change is neutral.


The Price Elasticity of Demand

Elasticity and the slope of the demand curve are not the same concepts,
but they are related.
With a linear demand curve, the elasticity coefficient is greater at high
prices; the upper segment of a linear demand is price elastic
With a linear demand curve, the elasticity coefficient is smaller at low

prices; the lower segment of a linear demand is price inelastic


Price elasticity of demand

The mid-point of a linear demand is unitary elastic.
The upper segment of a linear demand is elastic.
The lower segment of a linear demand is inelastic.


Determinants of Elasticity

Number of and Closeness of Substitutes:

The more alternatives you have, the less likely you are to pay high prices and
the more likely you are to buy a substitute (e.g., candy bars).
Passage of Time:

The longer you take to come up with alternatives to paying high prices, the more
like you choose those alternatives (e.g., gasoline).

Importance in Consumer Budget:

The greater the portion of the budget an item takes up, the greater is the
elasticity coefficient (e.g., housing vs. salt).


Elasticity Examples
Inelastic Goods

Price Elasticity of Demand

Eggs

0.06

Food

0.21

Health Care Services

0.18

Gasoline (short-run)

0.08

Gasoline (long-run)

0.24

Highway and Bridge Tolls

0.10

Unit Elastic Good (or close to it)
Shellfish

0.89

Cars

1.14

Elastic Goods
Luxury Car

3.70

Foreign Air Travel

1.77

Restaurant Meals

2.27


Price elasticity of supply

The price elasticity of supply is calculated as the percentage change in quantity divided by
the percentage change in price.


Perfectly elastic

If %ΔP = 0, elasticity coefficient =

∞

The demand/supply is perfectly elastic, a horizontal line at the given price,


Perfectly inelastic

If %ΔQ = 0, elasticity coefficient = 0
The demand/supply is perfectly inelastic, a vertical line at the given quantity


Unitary elastic demand

A demand curve with constant unitary elasticity will be a curved line. Notice how price and
quantity demanded change by an identical amount in each step down the demand curve.


Unitary elastic supply

A constant unitary elasticity supply curve is a straight line reaching up from the origin. Between each
point, the percentage increase in quantity demanded is the same as the percentage increase in
price.


Demand Elasticity & price change

Cost-saving gains cause supply to shift out to the right from S 0 to S1; that is, at any
given price, firms will be willing to supply a greater quantity.

Figure (a): The demand is inelastic, the result of this cost-saving technology is a
substantially lower price.

Figure (b): The demand is elastic, the result of this cost-saving technology is a
substantially larger quantity.


Demand Elasticity & price change


Demand Elasticity & Sales Tax

An excise tax introduces a wedge between the price paid by consumers (P c) and the price
received by producers (Pp).

Figure (a): Demand is more elastic than supply, the burden of tax is on producer as P e – Pp
> Pc – Pe

Figure (b): Demand is less elastic than supply, the burden of tax is on consumer as P c – Pe
> Pe – Pp


Demand Elasticity & Sales Tax