๐ฏ What is Elasticity?
Elasticity measures responsiveness โ how much one variable responds when another changes. In Economics we ask: when price changes, how strongly does quantity respond?
๐ก Price Elasticity of Demand (PED) = responsiveness of quantity demanded to a change in price.
Price Elasticity of Supply (PES) = responsiveness of quantity supplied to a change in price.
Price Elasticity of Supply (PES) = responsiveness of quantity supplied to a change in price.
โ๏ธ The Formulas
1. Percentage (point) method
Ed = % change in quantity demanded% change in price
Es = % change in quantity supplied% change in price
2. Midpoint (Arc) method
Ed = (QโโQโ) รท [(Qโ+Qโ)/2](PโโPโ) รท [(Pโ+Pโ)/2]
The midpoint method gives the same answer whether price rises or falls between the two points โ use it for exam problems between two prices.
3. Point method (calculus)
Ed = (dQ/dP) ร (P/Q)
Used at a single point on the demand curve โ this is what the interactive Graphs tab shows live.
โ ๏ธ For demand, Q moves opposite to P, so Ed comes out negative. By convention we take the absolute value |Ed|. For supply, both move together, so Es is positive.
๐ Five Degrees of Elasticity
| |E| value | Name | Curve | Example |
|---|---|---|---|
| E = โ | Perfectly elastic | Horizontal line | Perfectly competitive market (one firm's output) |
| E > 1 | Elastic / relatively elastic | Flat-ish slope | Luxuries, branded goods, Pepsi |
| E = 1 | Unitary elastic | Rectangular hyperbola | Constant total spending |
| E < 1 | Inelastic / relatively inelastic | Steep slope | Necessities: salt, rice, medicines |
| E = 0 | Perfectly inelastic | Vertical line | Life-saving drug, no substitutes |
๐ Explore each of these live on the Graphs tab.
๐งฉ Determinants
Why is demand elastic or inelastic?
- Availability of substitutes โ more substitutes โ more elastic (Pepsi vs Coca-Cola).
- Necessity vs luxury โ necessities are inelastic, luxuries elastic.
- Proportion of income spent โ big-ticket items (rent, vehicles) are more elastic; salt takes a tiny share of income โ inelastic.
- Number of uses โ a good with many uses (electricity, milk) has more elastic demand.
- Time horizon โ demand is more elastic in the long run (consumers find alternatives).
- Habits & addiction โ cigarettes, alcohol โ inelastic.
- Breadth of definition โ "food" is inelastic; "a specific brand of biscuit" is highly elastic.
Why is supply elastic or inelastic?
- Time period โ the single biggest factor:
- Market period (very short run): supply is fixed โ perfectly inelastic (fresh fish on a given day).
- Short run: capacity fixed, variable inputs adjustable โ relatively inelastic.
- Long run: everything adjustable, new firms enter โ elastic.
- Spare production capacity โ more idle capacity โ more elastic.
- Storability โ storable goods (grain) can be released when price rises โ more elastic; perishables are inelastic.
- Factor mobility โ if labour/capital can move in easily, supply is more elastic.
- Cost & barriers to entry โ low barriers โ more elastic supply.
๐ฐ Total Revenue Test
Total Revenue TR = P ร Q. Firms and governments use elasticity to predict what happens to revenue when price changes:
| If demand isโฆ | Price โ | Price โ |
|---|---|---|
| Elastic (E > 1) | TR falls | TR rises |
| Unitary (E = 1) | TR unchanged | TR unchanged |
| Inelastic (E < 1) | TR rises | TR falls |
๐ On a straight-line demand curve, TR is maximum where E = 1 (the midpoint). Verify this yourself on the Graphs tab!
๐ Why Elasticity Matters
- Business pricing โ a firm with inelastic demand can raise price and gain revenue; elastic demand means price cuts win revenue.
- Tax incidence โ an excise tax burden falls more on the side of the market that is less elastic. Inelastic demand for cigarettes is why taxes on them raise revenue without cutting consumption much.
- Agriculture (the paradox) โ a bumper harvest can lower farmers' total income: food demand is inelastic, so a big price fall is not matched by a big rise in quantity bought.
- Government policy โ taxing inelastic goods (fuel, tobacco) raises stable revenue; subsidies work differently for elastic vs inelastic supply.
- Devaluation & trade โ elasticity of demand for exports/imports decides whether devaluation improves a country's trade balance.
๐ Related Concepts (know the difference!)
- Income Elasticity of Demand (YED) = %ฮQ รท %ฮIncome. Positive โ normal good; negative โ inferior good; YED > 1 โ luxury.
- Cross Elasticity (XED) = %ฮQx รท %ฮPy. Positive โ substitutes; negative โ complements.
This lesson focuses on price elasticity of demand and supply, but the same responsiveness logic applies to all three.
๐ Elasticity of Demand โ Live Graph
โ
Quantity
โ
Elasticity
โ
Total Rev.
Bar = Total Revenue as a share of its maximum (E = 1 point).
๐ Elasticity of Supply โ Live Graph
โ
Quantity
โ
Elasticity
โ
P ร Q
๐ Two rules to remember
Demand: on a straight-line demand curve, elasticity falls continuously as you slide down it โ elastic at the top, unitary at the midpoint, inelastic at the bottom. Slope โ elasticity!
Supply: slope alone doesn't decide elasticity โ look at where the line cuts the axes. Through the origin โ unitary everywhere; cutting the price axis โ elastic everywhere; cutting the quantity axis โ inelastic everywhere.
๐งฎ Midpoint Elasticity Calculator
Enter any two points on a demand or supply curve. The app applies the midpoint (arc) formula and classifies the result.
Price 1 (Pโ)
Quantity 1 (Qโ)
Price 2 (Pโ)
Quantity 2 (Qโ)
๐ How the answer is built
โ Test Yourself
๐ด Revision Flashcards
Tap the card to flip it. Use these for last-minute revision before exams.