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CHAPTER III: ELASTICITY
 Definition of Elasticity:
Elasticity, a measure of how much buyers and sellers
respond to changes in market conditions, allows us to
analyze supply and demand with greater precision.
I. THE ELASTICITY OF DEMAND
Definition:
A measure of the responsiveness of quantity
demanded to one of its determinants

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1. Price elasticity of demand
a. Definition:
A measure of how much the quantity demanded of a good
responds to a change in the price of that good, computed
as the percentage change in quantity demanded divided by
the percentage change in price.
b. Computing the price elasticity of demand
- The point method of calculating price elasticity
- The midpoint method:

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Note: Because the quantity demanded of a good is
negatively related to its price, the percentage change
in quantity will always have the opposite sign as the
percentage change in price.
For this reason, price elasticities of demand are
reported as negative numbers
 Usually use absolute value
c. Elasticity parameters
* |E| < 1: Less elastic demand
• Comments:
- The demand curve is steep
- The elasticity is less than 1, so that quantity moves
proportionately less than the price (Huge change in
price, small change in quantity demanded).
- The goods is hard to be substituted
- Consumers are not very sensitive to the change in price

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*|E| > 1: Elastic demand
• Comments:
- Flat demand curve
- The elasticity is greater than 1, so that quantity
moves proportionately more than the price (small
change in price, large change in quantity
demanded)
- The goods is easy to be substituted
- Consumers are very sensitive to the change in price
*|E| = 1: Unitary-elastic demand
 Comments
- The percentage change in quantity demanded is
equal to the percentage change in price

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*|E| = 0: Inelastic demand
 Comments
- Demand curve is parallel to the vertical axis
- Price change does not affect quantity demanded
- Consumers are not sensitive to the change in price
- The good is irreplaceable
*|E| = ∞: Perfectly elastic demand
 Comments
- Demand curve is parallel to the horizontal axis
- Change in price affects totally on quantity
demanded
- Consumers are perfectly sensitive to the change in
price

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d. Determinants of Price Elasticity
- Availability of Close Substitutes
Goods with close substitutes tend to have more
elastic demand because it is easier for consumers to
switch from that good to others
Note: Pay attention to definition of the Market. The
elasticity of demand in any market depends on how
we draw the boundaries of the market
- The ratio of the spending in total income
- Time Horizon
Note: Goods tend to have more elastic demand over
longer time horizons

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e. The relationship between EP
D
, P and TR
 Total revenue
Amount paid by buyers
Received by sellers of a good
Computed as: price of the good times
the quantity sold (P ˣ Q)
2. Cross-elasticity of demand (EPy
D)
a. Definition:
The percentage changed in quantity demanded
resulting from 1% change in price of related goods.

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b. Computing cross-elasticity of demand and its classification
3. Income elasticity of demand (EI
D)
a. Definition:
The percentage changed in quantity demanded
resulting from 1% change in income
b. Computing income elasticity of demand and its classification

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II. THE PRICE ELASTICITY OF SUPPLY
1. Definition
A measure of how much the quantity supplied of a
good responds to a change in the price of that good,
computed as the percentage change in quantity
supplied divided by the percentage change in price
2. Determinants
- The flexibility of sellers
For example, beachfront land has an inelastic
supply because it is almost impossible to produce
more of it.
By contrast, manufactured goods, such as books,
cars, and televisions, have elastic supplies because
the firms that produce them can run their factories
longer in response to a higher price.
- The time period being considered
 Supply is usually more elastic in the long run than in
the short run.
 Over short periods of time, firms cannot easily
change the size of their factories to make more or
less of a good.