3. The concept of elasticity of supply and demand in terms of price and income. Cross Elasticity
There are two main types of elasticity of demand (a measure of the response of one variable to a change in another): by price and by income. In the first case, you can determine how much the volume of demand for a product changes when its price changes. Price elasticity of demand is defined as the percentage change in quantity demanded divided by the percentage change in price. This indicator is calculated using a coefficient that shows the percentage change in the volume of demand for a product when the price of the product changes by 1%.
E D =(ΔQ / Q 2 ) / (ΔP / P 2 ),
where E D – coefficient of price elasticity of demand;ΔQ = Q 2 – Q 1 ; ΔP = P 2 – P 1; P 1 – initial price, P 2 – new price; Q 2 – new volume of demand; Q 1
The following types of price elasticity of demand are distinguished:
Demand with unit price elasticity occurs if price and quantity demanded change by the same percentage. Demand is unit elastic when a 1% change in price causes a 1% change in sales of the product. If the elasticity of demand from the price of a product is equal to one, then a decrease in the latter, for example by 5%, will lead to an increase in demand by 5%. In this case, the consumer’s expenses for purchasing this product before and after the price reduction remain unchanged, since at a lower price he will buy more of it;
Inelastic demand occurs when the quantity demanded changes by a smaller percentage than the price. If price elasticity is less than one, then an increase in the price of a product, for example by 5%, will lead to a decrease in demand by 3%. Low elasticity will lead to increased consumer spending;
Completely inelastic demand is observed when its value will always be constant, regardless of changes in the price of a unit of goods. This situation is typical for monopolies, which, by creating an artificial shortage, inflate prices. The elasticity coefficient is equal to zero. Consumers purchase a fixed quantity of a good regardless of its price;
Elastic demand occurs when demand changes by a greater percentage than price. If price elasticity is greater than one, then a 5% decrease in price will cause demand to increase by 10%. High price elasticity. demand will increase consumer spending when the price of a product decreases, since the volume of purchases will sharply increase;
Perfectly price elastic demand occurs when a change in price causes a change in demand by an unlimited amount. This means that if the unit price exceeds 5%, then not a single unit of the product will be sold. At a price of 5% and below, an infinite number of goods can be sold. An increase in price scares off an infinite number of buyers, and a decrease in price increases demand by an unlimited amount. The price elasticity coefficient is equal to infinity. With infinitely elastic demand, a minimal reduction in price encourages buyers to increase their purchases to the limit of their ability.
It should be noted that situations with completely inelastic or completely elastic demand almost never occur in economic practice. For an economist they are of purely theoretical interest.
Factors affecting the price elasticity of demand include:
1. Availability of substitute goods. The more products on the market that satisfy the same need, the more opportunities the buyer has to refuse to purchase this particular product, and in the event of an increase in its price, the higher the elasticity of demand for this product.
2. Time factor. In the short run, demand tends to be less elastic than in the long run.
3. The significance of the product for the consumer.
4. Availability of goods and services. The higher the degree of commodity shortage, the lower the elasticity of demand for this product. In conditions of shortage, the consumer is deprived of the opportunity to choose and is forced to purchase goods at the current price.
5. The degree of intensity of need satisfied by a given product or service. If the demand for a particular product is very high, then the price level does not significantly affect the volume of its consumption. The volume of consumption of bread and salt will not change significantly if their prices increase.
Income elasticity of demand. The dynamics of demand responds not only to price changes, but also to changes in consumer income, i.e. income elasticity of demand. The latter shows changes in demand for a product depending on consumer income and can be expressed by the following formula:
Q 2 - Q 1 I 1 + I 2
E DI = I 2 - I 1 Q 1 + Q 2 ,
where E DI – demand elasticity coefficient for income; I 1 – initial led and rank of income, I 2 – new amount of income; Q 2 – volume of demand after income change; Q 1 – initial volume of demand.
Income elasticity of demand can be determined using a coefficient that shows how much the demand for a product will change if consumer income changes by 1%. The income elasticity of demand is also influenced by subjective consumer factors such as the importance of the product and the conservatism of demand. This indicator characterizes the degree of sensitivity of demand for a particular product to changes in consumer income. For higher category goods, demand usually changes in the same direction as income: as income increases, demand also increases. For lower category goods (bread, potatoes, etc.), an increase in consumer income can cause a fall in demand.
By measuring the income elasticity of demand, you can determine whether a given product belongs to the category of normal (when income growth leads to an increase in demand) or inferior (inferior goods, inferior quality goods, when income growth leads to a decrease in demand).
Cross elasticity of demand. In economic theory, cross elasticity of demand is also distinguished. It shows exactly how the demand for one good changes in response to a change in the price of another good. At the same time, the connection between the price of one product and the demand for another is direct for interchangeable goods (for example, an increase in the price of butter will increase the demand for margarine), while for complementary goods it is inverse (an increase in the price of cameras will reduce the demand for photographic film).
Cross elasticity of demand can be determined using a coefficient that shows by what percentage the demand for one product will change when the price of another product changes by 1%.
E DAB = Q 2A – Q 1A / P 2B – P 1B * P 1B + P 2B / Q 1A + Q 2A,
where P 1 B P 2 B – new price of product B; Q 1 A - initial volume of demand for product A; Q 2 A – new volume of demand for product A.
Cross price elasticity of demand can be positive, negative or zero. The first is characteristic of interchangeable goods, since an increase in the price of one product (coffee) causes an increase in demand for another (tea). The second is characteristic of complementary goods, due to the fact that an increase in prices for one product (camera) causes a decrease in demand for another product (photographic film). The zero form of cross elasticity is characteristic of goods that are neutral in relation to each other.
Elasticity of supply measures the degree to which suppliers of goods react to price changes. Supply is elastic when it changes more than price. Conversely, supply is inelastic if changes in supply are less than changes in price. The dependence of the supply value on price changes is different for different groups of goods. The supply of some of them is more sensitive to price changes, others - less. The degree of sensitivity of producers to price changes, or otherwise called the supply elasticity coefficient, is determined using a methodology similar to calculating the demand elasticity coefficient. The price coefficient is determined as a percentage as the ratio of the change in the volume of products offered to the change in price. In other words, the elasticity of supply coefficient expresses the change in the production and supply of goods when the price of a product increases or decreases by 1%.
Q 2 - Q 1 P 1 + P 2
E D S = P 2 - P 1 Q 1 + Q 2 ,
where EDS – elasticity coefficient proposed and I; P 1 – original price, P 2 – new price; Q 2 – volume of supplyafter price change; Q 1 – initial supply volume.
The elasticity of supply also depends on other factors. These are production capacity reserves; inventory level; the amount of time producers have to respond to price changes (the more free capacity, inventory and time, the greater the opportunity to increase supply); the ability of the product to be stored for a long time, as well as the cost of its storage. If a product cannot be stored for a long time due to consumer properties, then a decrease in price on the market will have a slight effect on supply. Supply will be of low elasticity, i.e. coefficient less than 1 (fresh fish, meat, etc.). The supply for products whose storage is expensive for the seller is also inelastic. The elasticity of supply changes under the influence of technological progress, changes in the quantitative and qualitative composition of the resources used. Increasing scarcity of resources used in the production of a particular product leads to a decrease in the elasticity of supply.
Since supply is associated with changes in the production process, it is slower to adjust (accommodate) to price changes than demand. Therefore, the time factor is the most important in determining the elasticity index. Typically, when assessing the elasticity of supply, the following time periods are considered: instantaneous, short-term, medium-term and long-term.
During instant The sales period is subject to already produced goods, which go on sale at an established market price, i.e. supply must adjust to demand. This period is so short that producers do not have time to respond to changes in demand and prices. For example, a farmer who brought his entire harvest of cucumbers to the market is powerless to respond to an increase in demand and price. In an instantaneous time period, supply is fixed.
Analysis of time periods allows us to conclude that supply, like demand, becomes more elastic with increasing time intervals within which its dynamics are considered. The elasticity of supply is usually higher over long periods than over short periods of time.
Along with the price elasticity of supply, there is also the income elasticity of supply, which characterizes the degree of change in the supply of a given product as a result of a change in the income of its manufacturer, all other things being equal. In addition, cross elasticity of supply is distinguished - the degree of change in the volume of supply of a given product as a result of a change in the price of another product.
E s AB = Q 2A – Q 1A / P 2B – P 1B * P 1B + P 2B / Q 1A + Q 2A,
where P 1 B – initial price of product B; P 2 B – new price of product B; Q 1 A - initial quantity supplied for product A; Q 2 A – the new supply volume for product A.
The value of the coefficient of cross price elasticity of supply is also different for different goods.
1.Interchangeable goods. An increase in the price of a substitute product causes a reduction in the production of the product in question (and vice versa), i.e. Unlike demand, the price of one product and the supply of another product in this case change in different directions, and the value of the cross-elasticity coefficient of supply will be negative ( ESAB < 0).
2. Complementary products. If the price of a complementary good increases, producers increase production of the good in question (and vice versa). In this case, the price of one product and the supply of another product change in the same direction, i.e. the coefficient of cross elasticity of supply will have a positive value ( ESAB > 0).
3. Independent products. As with demand, a change in the price of one good does not cause a change in the supply of another good. The coefficient of cross elasticity of supply in this case will be equal to zero ( ESAB = 0).
Elasticity- the degree of response of one variable in response to a change in another associated with the first quantity.
A quantitative measure of elasticity can be expressed through the elasticity coefficient.
Elasticity coefficient is a numerical indicator showing the percentage change in one variable as a result of a one percent change in another variable. Elasticity can vary from zero to infinity.
Types of elasticity. The following types of elasticity are distinguished:
- price elasticity of demand;
- income elasticity of demand;
- price elasticity of supply;
- cross price elasticity of demand;
- point elasticity of demand;
- arc elasticity of demand;
- elasticity of the price-wage ratio;
- elasticity of technical substitution;
- straight line elasticity.
Economic theory considers the elasticity of supply and demand.
Price Elasticity of Demand.
It shows the extent to which the consumer reacts to price changes.
E(p) - price elasticity of demand;
d Qd (%) - percentage change in demand;
d P(%) - percentage change in price.
E>
E< 1 - неэластичный спрос (на
предметы первой необходимости);
Elasticity of demand
The division of elasticity into these forms is quite arbitrary, since different goods have different elasticity coefficients. Thus, staple foods have low price elasticity of demand. Luxury goods, on the other hand, have higher price elasticity. Elasticity may vary depending on the time factor, on population groups, and on the availability of substitute goods.
Income elasticity of demand u.
This is a numerical parameter that shows what the consumer’s reaction is to changes in his income while prices remain unchanged.
,Where:
d Y (%) - percentage change in income
The meaning of income elasticity is closely related to the concept of normal goods and inferior goods. For normal goods, an increase in income causes an increase in demand. Since in this case income and demand change in the same direction, the income elasticity of demand is positive. On the contrary, for goods of inferior quality, an increase in income causes a decrease in demand. Income and demand move in opposite directions, so in this case the income elasticity of demand is negative. For certain groups of goods (salt, matches), demand does not increase with increasing income; elasticity is zero.
3. Cross elasticity.
It characterizes the sensitivity of demand for one product when prices for another change.
,Where:
E (k) - cross elasticity;
d Q1 (%) - percentage change in demand for one product;
d P2 (%) - percentage change in the price of another product.
Using the elasticity coefficient, the following types of cross elasticity can be determined:
a) E (k) > 0 for substitute goods;
b) E(k)< 0 для товаров-
комплементов;
c) E (k) = 0 for indifferent (independent) goods.
Elasticity of supply appears in the following main forms:
- Elastic supply is when quantity supplied changes by a greater percentage than price. This form is typical for a long period;
- inelastic supply, when quantity supplied changes by a smaller percentage than price. This form is typical for a short period;
- Absolutely elastic supply is characteristic of a long period. The supply curve is strictly horizontal;
- Absolutely inelastic supply is typical for the current period. The supply curve is strictly vertical.
Elasticity of supply of goods (by price) is the percentage relationship between the change in price and the change in supply.
One of the determining elements of the elasticity of supply of any product or service is the mobility of the factors of its production and output, i.e. the ease with which the necessary factors of production can be attracted from other industries. The second important factor is time. As with demand, price elasticity of supply tends to increase over long time horizons. This is partly due to the mobility of resources, but also depends on the technologies used, the state of the production base, etc. Over time, the adaptation of producers to market conditions improves the market opportunity to match the output of their products to increased demand, which leads to an increase in the elasticity of supply.
The theory of elasticity of supply and demand has important practical significance. Elasticity of demand is an important factor influencing a company's pricing policy. Another example of the actual use of elasticity theory is government tax policy, as well as employment policy.
Forms of elasticity. Price elasticity of demand appears in the following main forms:
E > 1 - elastic demand (for luxury goods);
E< 1 - неэластичный спрос (на предметы первой необходимости);
E = 1 - demand with unit elasticity (depends on individual choice);
E = 0 - completely inelastic demand (salt, medicines);
E is perfectly elastic demand (in a perfect market).
Ministry of Education and Science of the Russian Federation
State educational institution of higher professional education
Tyumen State University of Architecture and Civil Engineering
Department of Economics
Test
In the discipline "Economic Theory"
Tyumen 2010
2. Long-run production function, marginal rate of technological substitution
4. References
1. Elasticity of demand, types of elasticity of demand, change in elasticity of demand
Elasticity of demand is the degree of sensitivity of demand to changes in the price of a product. The measure of this change is the elasticity of demand coefficient. It is defined as the ratio of the change in the volume of demand (the quantity of goods purchased) to the change in its price. Expressed as a percentage, denoted by the letter E.
E=% increase or decrease in volume of demand/% decrease or increase in the price of the product
Elasticity of demand characterizes the degree to which the volume of goods purchased depends on fluctuations in market prices. When a decrease in price causes such an increase in purchases of a product that total revenue increases, then we speak of elastic demand (elasticity is greater than one). When the price reduction is compensated by sales volume, so that total revenue remains unchanged, we speak of unit elasticity (elasticity equal to one).
Finally, when a decrease in the price of a product causes a slight increase in demand, and total revenue decreases, we should speak of inelastic demand (elasticity less than one).
The elasticity of demand depends on many factors: 1) the availability of substitute goods. One of the most inelastic goods is salt, because it cannot be replaced by anything; 2) the share of the cost of the product in the consumer’s budget; 3) the amount of income of buyers. In this case, the price may not change, but solvency changes. The more expensive the product, the more elastic the demand for it; 4) product quality. The higher the quality, the less elastic the demand; 5) the degree of need for the product. Demand for food products is less elastic, and for luxury goods it is more elastic; 6) the amount of inventory of goods; 7) consumer expectations.
There is a distinction between price elasticity of demand and income elasticity of demand.
Price elasticity of demand shows by what percentage the quantity demanded will change if the price changes by 1%. The price elasticity of demand is influenced by the following factors:
· Availability of competitor products or substitute products (the more there are, the greater the opportunity to find a replacement for a product that has become more expensive, i.e., the higher the elasticity);
· Unnoticeable price level changes for the buyer;
· Conservatism of buyers in tastes;
· Time factor (the more time the consumer has to choose a product and think about it, the higher the elasticity);
· The share of the product in the consumer’s income (the greater the share of the price of the product in the consumer’s income, the higher the elasticity).
Depending on these indicators there are:
Inelastic demand (Ep(D)< 1) – рыночная ситуация, при которой изменение цены на 1 % вызывает незначительное изменение объема (QD).
· Elastic demand (Ep(D) > 1) – a market situation in which a change in P by 1% (Dp=1%) causes a significant change in QD.
· Unit elasticity demand (Ep(D) = 1) is a market situation in which a 1% change in price causes a 1% change in QD.
· Absolutely inelastic demand, meaning the absolute insensitivity of the volume of demand to changes in price (Ep(D) = 0): a change in P by 1% or more does not affect the change in QD.
Income elasticity of demand shows by what percentage the quantity demanded will change if income changes by 1%. It depends on the following factors:
· The importance of the product for the family budget.
· Whether the product is a luxury item or a necessity item.
· Conservatism in tastes.
If ej< 0, товар является низкокачественным, увеличение дохода сопровождается падением спроса на этот товар.
If e I > 0, the product is called normal; as income increases, the demand for this product also increases.
Among normal goods, three groups can be distinguished. Essential goods, demand for which is growing slower than income growth (0< e I < 1) и потому имеет предел насыщения. Предметы роскоши, спрос на которые опережает рост доходов (e I >1) and therefore has no saturation limit. Goods for which the demand grows as income grows (e I = 1) are called goods of “secondary necessity.” This classification does not coincide with the frequently encountered classification of needs according to their priority, since needs exist and are satisfied comprehensively and have no priority. Note that for persons with different income levels (or for the same person with a changing income level), the same goods can turn out to be either luxury goods or essential goods.
By measuring the income elasticity of demand, you can determine whether a given product belongs to the category of normal or low-value. The bulk of consumed goods belong to the normal category. As our incomes increase, we buy more clothes, shoes, high-quality food products, and durable goods. There are goods for which demand is inversely proportional to consumer income. These include: all second-hand products and some types of food (cheap sausage, seasoning).
(cross elasticity of demand)
It is the ratio of the percentage change in demand for one good to the percentage change in the price of some other good. A positive value means that these goods are interchangeable (substitutes), a negative value shows that they are complementary (complements)
Factors influencing the elasticity of demand
An important point that affects the elasticity of demand is the availability of substitute goods. The more products on the market that are recognized as satisfying the same need, the more opportunities there are for the buyer to refuse to purchase this particular product if its price increases, the higher the elasticity of demand for this product.
For example, the demand for bread is relatively inelastic. At the same time, the demand for certain types of bread is relatively elastic, since with an increase in the price of, for example, Borodino bread, the buyer can switch to another type of rye bread, etc. The demand for cigarettes, medicines, soap and other similar products is relatively inelastic. However, if we consider the elasticity in relation to certain types of cigarettes, types of soap, etc., then it will be significantly higher [L4, p. 137].
The same pattern applies to products manufactured by a separate company. If there are a significant number of competitors on the market producing similar or similar products, then the demand for the products of this company will be relatively elastic. In conditions of perfect competition, when many sellers offer the same products, the demand for each individual firm's product will be perfectly elastic.
Another important factor affecting price elasticity is the time factor. In the short run, demand tends to be less elastic than in the long run. For example, the demand for gasoline by individual car owners is relatively inelastic, and price increases, especially during the summer season, are unlikely to reduce demand. However, it can be assumed that in the fall a significant part of car owners will put their cars in garages, the demand for gasoline will decrease, and the volume of its sales will decrease. In addition, by next summer some of them will begin to use commuter trains. Although the demand for gasoline is relatively inelastic in both cases, the elasticity is higher in the long run.
This tendency for elasticity to change over time is explained by the fact that over time, each consumer has the opportunity to change his consumer basket and find substitute goods.
Differences in the elasticity of demand are also explained by the importance of a particular product for the consumer. The demand for necessities is inelastic; demand for goods that do not play an important role in the consumer's life is usually elastic. Indeed, if prices rise, we may refuse an extra pair of shoes, jewelry, or furs, but we are unlikely to reduce our purchases of bread, meat, and milk. As a rule, the demand for food is inelastic, and now, with the population’s declining standard of living, an increasing portion of the average Russian family’s income is spent on their purchase.
Changes in the elasticity of demand occur under the influence of a number of factors:
§ availability of substitute goods (elasticity increases with a large number of goods with similar consumer properties),
§ breadth of possibilities for using a given product (the more possibilities for use, the higher the elasticity),
§ the share of income spent by the buyer on this product. The higher it is, the higher the elasticity of demand;
The concept of elasticity plays an important role in studying possible reactions on the part of economic agents to price changes.
Elasticity shows the degree of reaction of one quantity to a change in another, for example, a change in the volume of demand due to a change in price. Such a reaction can be weak or strong, and, naturally, the demand and supply curves will change their shape. Let's start getting acquainted with the elasticity apparatus with the elasticity of demand.
Elasticity- a dimensionless quantity, the value of which does not depend on the units in which we measure prices, volume or other quantities.
Elasticity of Demand (Ed) is the sensitivity of demand to a change in one of its variables, defined as the ratio of the percentage change in the quantity of demand to the percentage change in the variable.
There is price elasticity of demand, income elasticity of demand and cross elasticity.
Price elasticity of demand (E p d) is the sensitivity of demand to price changes, defined as the ratio of the percentage change in quantity demanded to the percentage change in price.
In Fig. 22 shows two demand curves, in the first case of price changes from 7 before 4 rubles. did not lead to a sharp increase in demand ( E d = 0.3), in the second case, demand increased sharply ( E d = 1.22).
Figure 22 - Price elasticity of demand
Inelastic demand Demand is the quantity of demand that changes only slightly when the price changes.
Elastic demand is the demand for a product whose volume changes significantly when the price changes.
So, price elasticity of demand ( E p d) shows the degree of impact of price changes on changes in the quantity of products demanded.
Elasticity is defined as the ratio of the percentage change in quantity demanded to the percentage change in price.
Price elasticity of demand, as a rule, is negative value, since as the price rises, the volume of demand falls, but in economic theory it is customary to use the absolute value of this indicator, so the “minus” sign is sometimes not put, but is taken into account in calculations.
The elasticity coefficient shows, by what percentage does the volume of demand for a product change as a result of a change in its price by 1%.
For example, E r d = -2. This means that a decrease in price (increase) by 1% leads to an increase (decrease) in quantity demanded by 2%.
The elasticities of mutually inverse functions are reciprocal quantities:
Where E P d- coefficient of price elasticity of demand,
E d P- coefficient of price elasticity according to demand.
Let us explain the above with an example.
Let the price elasticity of demand be -0.6 (a 1% decrease in price will lead to an increase in quantity demanded by 0.6%). Let us determine the price elasticity coefficient based on demand:
- this means that a 1% increase in quantity demanded will cause the price to rise by 1.66%
The elasticity of the linear demand function varies from 0 to -∞.
There are five types of elasticity:
1) Perfectly elastic demand- the volume of demand does not change with any change in price, for example, the demand for food (). This is typical of momentary equilibrium. In this case, the demand function is presented as - Q D = a.
2) Inelastic demand- the value of price elasticity is less than one and varies within . The quantity demanded as a percentage changes more slowly than the price as a percentage changes, i.e. When price changes by 1%, quantity demanded changes by less than 1%. This situation is typical for instantaneous equilibrium, the demand curve will be represented by the equation - Q D = a - R.
3) Unit elasticity- when the price changes, the quantity of millet changes by the same amount, i.e. when the price changes by 1%, the quantity demanded changes by 1% ().
4) Elastic demand- the value of price elasticity is greater than one and varies within . The quantity demanded as a percentage changes faster than the price changes as a percentage, i.e. when the price changes by 1%, the quantity demanded changes by more than 1% (). This is typical for long-term equilibrium and the curve is presented as follows - Q D = a - Pb.
5) Infinitely Elastic Demand- the volume of demand can change indefinitely with a slight change in price, for example, an increase in demand with an increase in income ().
The degree of elasticity of demand is influenced by a number of factors:
1) availability of substitutes: the more substitute goods there are, the more elastic the demand for this product;
2) share of goods in the consumer budget: the higher the share, the higher the price elasticity;
3) amount of income;
4) type of product: is the product luxury item (demand for such goods is elastic) or essential item (their demand is inelastic);
5) stock size: the larger the supply, the more elastic the demand;
6) period under review: in the short run the good is inelastic, in the long run it is elastic. For example, in the short term, electricity consumption is inelastic, since we can quickly abandon existing electrical appliances, but in the long term, it is quite elastic, since we will replace electrically intensive appliances with more economical ones.
Distinguish between point and arc elasticity- for small changes in price or volume of demand or in the case of calculating elasticity in a specific situation (point), the point elasticity formula is used, and for significant changes - arc elasticity
Arc elasticity- this is an indicator of the average response of the volume of demand to a change in the price of a product over a certain segment D 1 D 2(Fig. 22). It is determined taking into account the midpoint.
Figure 22 - Graphic interpretation of arc elasticity of demand
Point elasticity- characterizes the relative change in one factor, for example, the volume of demand, with an infinitesimal change in another, for example, price.
To calculate it, use the following formulas:
or, taking the derivative of the demand function:
where is the derivative of the demand function with respect to price,
P 1- price at a specific point,
Q 1- the volume of demand at a specific point.
Point elasticity can also be determined graphically by drawing a tangent to the demand curve at the desired point. The slope of the demand curve at any point is determined by the tangent of the tangent angle with the OX axis (Fig. 23). It is mistakenly believed that the value of point elasticity is inversely proportional to the tangent of the angle of inclination α; in the formula for point elasticity, only the value () is inversely proportional to the tangent of the angle of inclination α.
Figure 23 - Graphical interpretation of point elasticity
The slope of the demand curve will be constant throughout its entire length, identified in the form of a price coefficient b(the demand curve is given by the linear function Q D = a - Pb) which is the reciprocal of the slope of the demand curve, i.e.
Let's substitute this expression into the classic point elasticity formula and get:
Elasticity- This degree of response to changes in demand volume
in response to changes in price and other influencing factors. A quantitative measure of elasticity can be expressed through the elasticity coefficient.
Demand elasticity coefficient- this is a numerical indicator that shows by what percentage the volume of demand for a product changes as a result of a change in its price by 1% and is calculated as follows:
where Δ Q D- change in demand;
Δ P- price change.
There are several forms elasticity of demand (elasticity can vary from zero to infinity):
- Elastic demand (E D> 1) is a situation in which the quantity demanded changes to a greater extent than the price. If demand is elastic, a change in price will lead to the opposite change in revenue.
Inelastic demand ( E D < 1) - это ситуация, при которой величина спроса изменяется в меньшей степени, чем цена. If demand is inelastic, a change in price affects revenue in the same direction.
Unit elasticity of demand ( E D= 1) is a situation in which a 1% change in price causes a 1% change in demand. With unit elasticity, revenue does not change with changes in price.
A graphical representation of unit, elastic and inelastic demand is presented in Figure 8.
Figure 9 - Perfectly elastic and perfectly inelastic demand
The division of elasticity into the above forms is arbitrary, since different goods have different coefficients of elasticity of demand.
There are price elasticities of demand, income elasticities, and cross elasticities.
Price Elasticity of Demand. Price (direct) elasticity of demand shows how much the quantity demanded of a good will change in response to a change in the price of that good. Point elasticity is measured at one point on the demand curve and is calculated using the formula:
where Δ Q D- change in demand equal to Q D 2 - Q D 1 ;
Δ R- price change equal to R 2 - R 1 ;
Q D 1 - initial demand;
Q D 2 - final demand;
R 1 - initial price;
R 2 - final price.
Relationship between quantity demanded and price change the opposite, so the elasticity of demand will be negative. But what is important here is not the sign, but its absolute value. Arc elasticity is used when we are dealing with large changes in price or a demand curve that is not a straight line. Economists agreed to take as a starting point average levels prices and quantities of products. Consequently, the arc elasticity of demand is determined by the following formula:
The price elasticity of demand is characterized by the following factors:
Substitutability (the more substitute goods, the more elastic the demand for the price of the analyzed product).
Share in the consumer’s income (the larger the place a product occupies in the consumer’s budget, the higher the elasticity of demand).
Luxuries and necessities (demand for luxuries is elastic, but demand for necessities is inelastic).
Time factor (short-term demand is inelastic, while long-term demand is elastic).
Availability of a good (the higher the commodity shortage, the lower the elasticity of demand for this product).
Income Elasticity of Demand determines the ratio of the relative change in volume of demand to the relative change in income:
where is the average volume of demand for the product;
Average consumer income;
Δ I- change in income equal to I 2 - I 1 ;
I 1 - initial amount of income;
I 2 is the final amount of income.
There are several forms income elasticity of demand:
Positive (> 0), relating to normal goods.
Negative (< 0), относящаяся к товарам низшей категории.
Zero ( = 0), at which the volume of demand is insensitive to changes in income.
Cross elasticity of demand shows how the demand for one product changes A in response to a change in the price of another good IN. Cross elasticity of demand is calculated using the following formula:
where Δ QDA- change in demand for goods A, equal Qda 2 - Qda 1 ;
D P B- change in the price of a product IN, equal P B 2 - P B 1 ;
Average change in volume of demand for a product A, equal to ( QDA 1 + Q DA 2) : 2;
Average change in product price IN, equal to ( P B 1 + P B 2) : 2.
The following are distinguished: forms cross elasticity:
Positive (> 0) when goods are interchangeable.
Negative (< 0), когда товары взаимодополняемые.
Zero ( = 0), when the consumption of one good does not depend on the price of another.
Concept, types and formulas for calculating supply elasticity
Elasticity of supply () is defined as the relative change in the supply of a given product, divided by the relative change in its price and calculated using the formula
,
where Δ Q S- change in supply volume equal to Q S 2 - Q S 1 ;
Q S 1 - initial proposal;
Q S 2 - final offer;
D R- price change equal to R 2 - R 1 ;
R 1 - initial price of the product;
R 2 - final price of the product.
But since in economic theory elasticity is measured using average values, the formula can be written as follows:
Price elasticity coefficient of supply shows by what percentage the quantity supplied of a good will change as a result of a 1% change in the price of this good
Price and quantity supplied move in the same direction, so the elasticity of supply is positive. Elasticity of supply measures the degree to which producers (suppliers) of goods respond to price changes. Supply is elastic when it changes more than price, and vice versa. The forms of supply elasticity are shown in Figures 10 and 11.
Figure 11 - Perfectly elastic and completely inelastic
offer
The elasticity of supply depends not only on the price factor, but also on a number of non-price factors:
- Types of goods and services offered for sale. Goods whose production technology can change quickly have elastic supply, while goods whose production technology cannot change quickly have inelastic price supply.
- Availability of unused production capacity. If the enterprise has all its capacity, then supply will be inelastic. If the enterprise has underutilized capacity, then supply will be elastic.
- Possibility of long-term storage of products. Long-term storage of products implies elastic supply, while short-term storage implies inelastic supply.
- Time period. The longer the time, the more elastic the supply. The time factor is the most important in determining the elasticity of supply.