Elasticity of Demand

… a core concept in Economic Analysis and Atlas102

Click for MRU video

Click for MRU video

Concept description

The elasticity of demand is a measure of how responsive the quantity demanded is to a change in price:

Elasticity of demand = the percentage change in quantity demanded divided by the percentage change in price

If the absolute value of the elasticity of demand is <1,  the demand curve is inelastic; if it is >1 the demand curve is inelastic; if it is =1, the demand curve is unit elastic.

Alex Tabarrok elaborates in his MRU video (link above right, reference below). He notes that, although elasticity is not exactly the same a the slope of the line, they are related and presents the following simple rule: If two linear demand curves run through a common point, then at any given quantity, the curve that is flatter is more elastic.

ElasticityOfDemandNonFullscreen

Determinants of the elasticity of demand

Tabarrok lists the following determinants:

  1. Availability of substitutes (the fundamental determinant)
    1. For goods with fewer substitutes, consumers find it HARD to adjust quantity demanded much when prices change, making demand inelastic
    2. For goods with many substitutes, switching brands when prices change is EASY, making demand elastic
  2. Time horizon
    1. Immediately following a price increase, consumers may not be able to alter their consumption patterns, making demand inelastic
    2. Over time, however, consumers can adjust their behaviour by finding substitutes, making demand elastic
  3. Classification of the good
    1. The broader the classification (e.g., aspirin), the less likely consumers will be able to find a substitute, making demand inelastic
    2. The narrower the classification (e.g., Bayer aspirin), the more likely consumers will be able to find a substitute, making demand elastic 
  4. Necessity of the good to the consumer
    1. For necessities, consumers do not change quantity demanded much when price changes, making demand inelastic
    2. For luxuries, consumers will alter their behaviour when the price rises, making demand elastic
  5. Size of the purchase relative to consumer’s budget
    1. Consumers are less concerned about price changes when the good feels inexpensive, making demand inelastic
    2. Consumers become much more concerned about price when the good feels expensive, making demand elastic

This can be summarized in the following table:

Less elastic

More elastic

Fewer substitutes More substitutes
Short run (less time) Long run (more time)
Broader classification Narrower classification
Necessities Luxuries
Small part of budget Large part of budget
Practice questions

See http://www.mruniversity.com/node/186776 and http://www.mruniversity.com/node/186777, accessed 28 April 2016.

  1. Which of the following two goods is more likely to be inelastically demanded?
    1. D
  2. If the elasticity of demand for college textbooks is -0.1, and the price of textbooks increases by 20%, how much will the quantity demanded change, and in what direction?

Source

Alex Tabarrok, Elasticity of Demand, Marginal Revolution University, 14-minute video, at http://www.mruniversity.com/courses/principles-economics-microeconomics/elasticity-demand-definition, accessed 28 April 2016.

Atlas topic and subject

Consumer Theory and Elasticity of Demand and Supply (core topic) in Economic Analysis.

Page created by: Ian Clark, last modified on 28 April 2016.

Image: Minute 0.50 of MRU Video, at http://www.mruniversity.com/courses/principles-economics-microeconomics/elasticity-demand-definition, accessed 28 April 2016.