ECO101 Lec 9

ELASTICITY (PART 2)
PRICE ELASTICITY OF DEMAND ALONG

A STRAIGHT-LINE DEMAND CURVE
 The price elasticity of demand for a straight-line
downward-sloping demand curve varies from highly
elastic to highly inelastic.
 As we move towards the right (price falling and Qd

rising), elasticity of the demand curve reduces.
 As elasticity is reducing from left to right, total revenue

will also change.
PRICE ELASTICITY OF DEMAND ALONG
A STRAIGHT-LINE DEMAND CURVE
(CONT)
DETERMINANTS OF PRICE ELASTICITY
OF DEMAND
 Four Factors determine Price Elasticity of Demand:
1. Number of substitutes
2. Necessities versus luxuries
3. Percentage of one’s budget spent on the good
4. Time
OF DEMAND (CONT)
 Number of Substitutes:
 The more substitutes there are for a good, the higher the
price elasticity of demand will be; the fewer substitutes there
are for a good, the lower the price elasticity of demand will
be.
 The more broadly defined the goods is, the fewer the
substitutes it will have; the more narrowly defined the goods
is, the more the substitutes it will have
 Necessities versus Luxuries: The more a good is considered

luxury (a good we can go without) rather than a necessity (a
good we can’t do without), the higher the price elasticity of
demand will be.
OF DEMAND (CONT)
 Percentage of One’s Budget Spent on the Good:
 The greater the percentage of one’s budget that goes to
purchase a good, the higher the price elasticity of
demand will be; the smaller the percentage of one’s
budget that goes to purchase a good, the lowerer the
price elasticity of demand will be
 Time:
 The more time that passes (since the price change), the
higher the price elasticity of demand for the good will
be; the less time that passes, the lower the price elasticity
of demand for the good.
CROSS ELASTICITY OF DEMAND
 Measures the responsiveness in the quantity demanded
of one good to changes in the price of another good.
 Defined as the percentage change in the quantity

demanded of one good divided by the percentage
change in the price of another good.
CROSS ELASTICITY OF DEMAND
 This
concept is often used to determine whether two goods
are substitutes or complements and the degree to which
one good is a complement to or substitute for another.
 Substitutes: Price increases in one leads to a rise in

Quantity demanded of the other good. So if
 Complements: Price increases in one leads to a fall in

Quantity demanded of the other good. So if
 The higher (bigger positive number) the cross elasticity of

demand is  greater degree of substitution
INCOME ELASTICITY OF DEMAND
 Measures the responsiveness of quantity demanded to
changes in income.
 Define as the percentage change in quantity demanded of a

good divided by the percentage change in income.
 Since using percentage changes can at times lead to

conflicting results, the following is also used:
INCOME ELASTICITY OF DEMAND
(CONT)
 If Income elasticity of demand is positive (Ey > 0)  normal
good.
 The demand for an inferior good decreases as income
increases. So if Income elasticity of demand is negative (Ey <
0)  inferior good
Comparing %∆Qd to %∆P

 If %∆Qd > %∆P Ey >1, demand is considered to be
income elastic
 If %∆Qd < %∆P  Ey <1, demand is considered to be
income inelastic.
 If %∆Qd = %∆P  Ey =1, demand is considered to be unit
elastic
PRICE ELASTICITY OF SUPPLY
 Measures
the responsiveness of quantity supplied to
changes in price.
 Defined as the percentage change in quantity supplied of
a good divided by the percentage change in the price of
the good.
 Supply can be classified as elastic, inelastic, unit elastic,

perfectly elastic, or perfectly inelastic.
PRICE ELASTICITY OF SUPPLY
PRICE ELASTICITY OF SUPPLY AND
TIME
 The longer the period of adjustment to a change in price,
the higher the price elasticity of supply.
 Additional production takes time.
 Reducing production takes time.
 Example: Housing market.
 If price increases of houses, will we be able to increase

houses in short run? No.
 In long run? Yes  Dedicate more resources from
production of other things to produce houses, hence
increasing supply. Price Elasticity of Supply Increases
SUMMARY OF THE FOUR ELASTICITY
CONCEPTS

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ELASTICITY (PART 2)

PRICE ELASTICITY OF DEMAND ALONG

 As we move towards the right (price falling and Qd

 As elasticity is reducing from left to right, total revenue

 Necessities versus Luxuries: The more a good is considered

 Defined as the percentage change in the quantity

 Substitutes: Price increases in one leads to a rise in

 Complements: Price increases in one leads to a fall in

 The higher (bigger positive number) the cross elasticity of

 Define as the percentage change in quantity demanded of a

 Since using percentage changes can at times lead to

Comparing %∆Qd to %∆P

 Supply can be classified as elastic, inelastic, unit elastic,

 Reducing production takes time.

 Example: Housing market.

 If price increases of houses, will we be able to increase

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