significance of price elasticity of demand – market research
price elasticity –elastic, inelastic and unit elastic –calculation of elasticity using total outlay method
factors affecting elasticity of demand –necessities and luxuries –existence of close substitutes –proportion of income spent on the good –the length of time since a price change
Price elasticity of supply
elastic supply, inelastic supply
factors affecting elasticity of supply (no calculations are required)
You will learn to: Examine economic issues
examine the forces in an economy that tend to cause prices to rise
Apply economic skills
calculate the price elasticity of demand using the total outlay method
The Price Elasticity of Demand
We've already looked at price elasticity of demand and how it measures the responsiveness or sensitivity of the quantity demanded of a particular product to changes in its price. Now we're moving on to understanding its significance for businesses, consumers and governments and how we can measure it.
Run through MRU's course of elasticity to learn about elasticity and its applications.
The simplest way to measure price elasticity is to work out the effect of changes in price on the total revenue. This is the most straightforward way of identifying whether demand is relatively elastic, relatively inelastic or unitary elastic to price changes.
Total outlay is calculated by multiplying the price by the quantity that would be demanded at that price.
These are the basic rules:
If price goes UP and revenue goes UP, then demand is INELASTIC
If price goes UP and revenue goes DOWN, then demand is ELASTIC
If price goes UP and revenue stays SAME, then demand is UNIT ELASTIC
Try out this new knowledge and complete the calculations in the form below in the Google form. These curves can help you remember what each type of elasticity looks like:
Reference: Riley, T. (2020) "Year 11 Economics" p. 120
Elasticity isn't uniform
Did you recognise that elasticity isn't the same all along the demand curve? Can you explain why the demand will be elastic above the equilibrium price?
Draw this diagram in your workbook:
Reference: Riley, T. (2020) "Year 11 Economics" p. 119
The Determinants of the Elasticity of Demand
These are several factors that can cause the price elasticity of demand to change or to be different for different goods. Reference: https://www.csun.edu/sites/default/files/micro5.pdf
1. The existence of substitutes. If you can easily switch from one good to another, the price elasticity of demand for either good tends to be elastic. The price elasticity of demand for Pepsi will be elastic because you can buy Coca-Cola instead. If there are no good substitutes, the price elasticity of demand tends to be inelastic.
2. Necessities vs. Luxuries. If you think something is a necessity, your demand will tend to be more inelastic; for something you think is a luxury, your demand will tend to be more elastic.
3. Definition of the market. Demand for Fords is more elastic than demand for cars in general. Why? There are more substitutes for Fords than for cars in general. If the price of a Ford goes up, you can just buy some other kind of car. If the price of all cars goes up, maybe you can buy a truck or a motorcycle instead, but that’s not really the same as a car. This is why the elasticity of demand for Fords will be higher than that of all cars in general. The way you define the market affects how the elasticity will turn out. In general, the broader the market, the lower the elasticity of demand.
4. Time period under consideration. The longer the time period you look at, the more elastic demand will become. This is because you will have more time to find substitutes.
Reference: Riley, T. (2020) "Year 11 Economics" p. 118
The Elasticity of Supply
Run through MRU's discussion of the main determinants of the elasticity of supply:
Economics affects the behaviour of people across time and geography and in this case study of the modern slavery, we see how understanding the nature of the supply curve of slaves, in particular how elastic that curve is, can help evaluate the policies of government and aid agencies in trying to solve this terrible problem.
Firstly, let's look at the history of this curse of our modern world.
This discussion takes you through the Modern Slavery Redemption Program and helps you understand the significance of the elasticity of a curve of slaves and its affect on the success of this program.
Is it helping? Watch and decide. Answer the questions when prompted to check your understanding.