Introduction to elasticity of demand.

1. ELASTICITY OF
DEMAND

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• The term Elasticity refers to responsiveness or change.
• Elasticity of demand is the responsiveness of the quantity
demanded of a commodity to changes in one of the variables
on which demand depends.
• The variables on which demand can depend on are: Price of
the commodity, Prices of related commodities,
Consumer’s income, etc.

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• Definition of Elasticity of Demand :
According to Prof. Alfred Marshal,
Elasticity of demand is great or small according to the amount demanded which
rises much or little for a given fall in price and quantity demanded which falls much
or little for a given rise in price.
• Let’s look at example :
1. Due to government subsidy, the price of onion falls from Rs. 10/kg to Rs. 9/kg.
Due to this, people would buy 5 kgs instead of 3 kgs.
In the case above, you can notice that as the price decreases, the demand increases.
Hence, the demand for onion responds to price changes.

4. Types of Elasticity of Demand
1. Income Elasticity
The income elasticity of demand is the degree of responsiveness
of the quantity demanded to a change in the consumer’s
income.
EY = Percentage change in quantity demanded
Percentage change in income
Example : If a consumer’s income rises from 50,000 to 70,000, he
would set up an AC at his home inspite of price remaining the
same because his income rises.

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2. Cross Elasticity of demand
It is the change in demand of commodity X due to a
change in the price of commodity Y.
Ec = Percentage change in quantity demanded of A
Percentage change in price of B
( A = Original commodity, B = Other commodity )
Example : For two alternative brands, Starbucks Coffee
and Costa Coffee, If the price of Costa Coffee increases,
more consumers will switch to an alternative brand such
as Starbucks.

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3. Price Elasticity
The price elasticity of demand is the response of the quantity
demanded to change in the price of a commodity. It is assumed
that the consumer’s income, tastes, and prices of all other
goods are steady. It is measured as a percentage change in the
quantity demanded divided by the percentage change in price.
Ed = Percentage change in quantity demanded
Percentage change in price.
Example : Due to government subsidy, the price of onion falls from
Rs. 10/kg to Rs. 9/kg. Due to this, people would buy 5 kgs instead of 3
kgs.
In the case above, you can notice that as the price decreases, the
demand increases. Hence, the demand for onion responds to price
changes.

7. 1. Perfectly Elastic Demand
When the percentage change in quantity demanded is infinite even if the percentage change in price
is zero, the demand is said to be perfectly elastic. Endless demand at given price.
Example : We can take example of bikes market. In today’s
Indian bike market. The demand for bikes is increasing
day by day without any effect of price change.
Observe the graph, price of the goods raised from P to P1
are remained constant. But the demand curve of the
products is increasing from Q1 to Q2 and so on.

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2. Perfectly Inelastic Demand
Change in price has no effect on quantity demanded by the people.
Example: Emergency services like medicines have perfectly inelastic demand.
The price of medicines may increase or decrease;
there will be no change in the demand for medicines.
Observe the graph, price of the goods changing or
raises from P1 to P2 and P3 but there
is no change in demand at Q.

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3. Relatively Elastic Demand
Percentage change in demand is greater than percentage change in price.
Example : Air-travel for vacationers is very sensitive
to price. An increase in the air fare will lead the vacationer
to choose another mode of transportation like car or lead
him to postpone the vacation plan. Thus for a rise in air fare
for the vacationers we will see a relatively more drastic
reduction in quantity demanded.
Observe the graph, price of the goods increased from
P1 to P2 and eventually the demand for the goods
decreases from Q1 to Q2. But the proportionate change
in price is less than the proportionate change in demand

10. 4. Relatively Inelastic demand
More change in the price of the goods but less change in demand for the goods.
Example: If the price of petrol increases,
people will not stop using it and if the price
of petrol decreases, people won’t buy the
stock of petrol. They will buy only what they need.
( Even though the price changes to great extent,
There will not be much change in demand)
Observe the graph, price of the goods increased
from P1 to P2 and eventually the demand for the
goods decreases from Q1 to Q2. The proportionate
change in price is more than
the proportionate change in demand.

11. 5. Unitary Elastic demand
The proportion of change in demand is equal to proportion of change in price.
Observe the graph, price of the goods
increased from P1 to P2 and eventually
the demand for the goods decreases from Q1 to Q2.
The proportionate change in price is equal the proportionate change in
demand

12. Ratio or Percentage Method
• Developed by Prof. Alfred Marshall
• Measured by percentage change in demand by
percentage change in price.
• Also known as Arithmetic Method.
• Formula Ed : % change in quantity demanded
% change in price.
• Mathematically, formula can be written as

13. Total Expenditure Method
• Developed by Prof. Alfred Marshall.
• Total Expenditure before and after the price changed is compared.
• Total Expenditure = Price × Quantity Demanded
• There are 3 situations in this method :
1. Change in Price, Decrease in Total Expenditure ( Ed < 1 )
2. Change in Price, But No change in Total Expenditure ( Ed = 1 )
3. Change in Price, Increase in Total Expenditure ( Ed > 1 )

14. Reasons / Factors Influencing Elasticity of Demand
Nature of Commodity :
• In economics, goods are of 3 types ( essential, comforts and luxuries ).
• For essential goods, demand doesn’t changed like medicines, so demand is inelastic.
• For comforts and luxuries goods, demand changes like furniture, perfumes,etc, so
demand is elastic.
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2 Availability of Substitutes :
• Substitutes means alternatives of the product.
• If alternatives are available, demand is elastic. Example : If lemon juice is
cheaper than sugarcane juice. People will go for lemon juice.
• If alternatives are not available, demand is inelastic. Example : Salt doesn’t
have any alternatives. People have to buy salt itself at any cost.

15. 3 Number of Uses :
• Single use product = Less change in Demand = Less inelastic. Example : Chalks,
Balloons, Straws,etc
• Multi use product = More change in Demand = More elastic. Example : Clothes,
Bags, etc.
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Habits :
• Certain habits make demand inelastic.
• Example: A person having the habit of eating fruits daily, for him, the
demand would not be changed even if price of fruits increases or decreases.
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Durability :
• Durable goods = Change in Demand = Elastic demand Eg : TV, cars, etc.
• Perishable goods = No change in Demand = Inelastic demand Eg: Milk,
vegetables, etc.

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Complementary Goods :
• Complementary goods are joint goods. Eg : Cereals and Milk, DVD and DVD
player.
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Income of a Consumer :
• High Income = No Change in Demand = Inelastic demand.
• Normal Income = Change in Demand = Elastic demand.
• Very Low Income = No Change in Demand = Inelastic demand
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Urgency of Goods :
• More urgent = No change in Demand = Inelastic demand. Eg: Medicines.
• Less urgent = Change in Demand = Elastic demand. Eg: Cars, TV, etc.

17. Importance of Elasticity of Demand
• Producers : Price decision based on demand. Inelastic demand ( No change in demand ) =
High price. Elastic demand ( Change in demand ) = Normal price.
• Government : Tax decisions based on elasticity of demand. Inelastic demand ( No change
in demand ) = High Tax. Elastic demand ( Change in demand ) = Low Tax.
• For Factors Pricing : Factors Pricing means the price of factors of production I.e.land,
labour, capital and entrepreneur. Inelastic demand ( No change in demand ) = High price
and vice versa. Eg : Labour producing medicines will demand high salary for their work,
because medicines have inelastic demand.

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• Foreign Trade : Decisions of terms and conditions of foreign trade are based on
elasticity of demand. Inelastic demand ( No change in demand ) = High price and vice
versa. Eg : Organization of Petroleum Exporting Countries (OPEC) have raised th prices
of oil many times because of inelastic demand, people will buy it even if prices are
rising.
• Public Utilities : Public Utilities like railways which are having inelastic demand,
government can increase or decrease the price. But there will be no change in
consumer demand.
• Proportion of Expenditure : It means the portion of Expenditure in the whole income,
will have inelastic demand. Eg : Newspapers are small portion of expense in the whole
income. People will buy it whether the price increase or decrease because it is a small
portion of expense.