Price Elasticity

• Price Elasticity of Demand (Ep)

– The responsiveness of quantity demanded of a
commodity to changes in its price
– Defined as the percentage change in quantity
demanded divided by the percentage change in
price

elasticity 1
 Perfectly Elastic
Demand
• Change in Price: causes a
infinite change in quantity
demanded
• E=
• Horizontal demand curve
exists
• A small reduction in price will
cause buyers to purchase from
ZERO to all they can
• If price changes then there is
no quantity demanded by
consumers
• Wheat
 Perfectly Inelastic Demand
Price

• Perfectly Inelastic
Demand
P1
– A vertical line
– Any price change has no
effect on the quantity P2
Demand
demanded
– Ed = 0
Q
– No substitutes
– Insulin
 Unit Elastic
Demand
• Unit elastic demand: when the
percentage change in price and
quantity demanded are the
same
– No good or service is ever
really unit elastic
• Everywhere along the demand
curve
– percentage change in price
= percentage change in
Quantity demanded
– No change in total revenue
– E=1
 1
The price elasticity of demand (a, b)
(a) Perfectly inelastic demand: (b)Relatively Inelastic demand:
Elasticity = 0 Elasticity < 1
Price Price
Demand Demand
1. An 1. A 22%
increase increase
in price… in price… 2. … leads to
$5 $5 an 11% decrease
in quantity
4 1. an 4 1. andemanded
2. …leaves
the quantity
demanded
unchanged

0 100 0 90 100
Quantity Quantity

The price elasticity of demand determines whether the demand curve is steep or flat.
Note that all percentage changes are calculated using the midpoint method.
5
 1
The price elasticity of demand (d, e)
(d) Relatively Elastic demand: (e) Perfectly elastic demand:
Elasticity > 1 Elasticity equals infinity
Price Price
1. A 22% 1. At any price
increase above $4, quantity
in price… demanded is zero 2. At exactly $4,
consumers will
$5 buy any quantity

4 1. an Demand $4 1. an
Demand
2. … leads to 3. At any price
a 67% decrease below $4, quantity
in quantity demanded is infinite
demanded

0 50 100 0
Quantity Quantity

The price elasticity of demand determines whether the demand curve is steep or flat.
.
6
 IMPORTANCE
• Decisions regarding price changes
• Guide to price fixation of a new product
• help to the government- tax policy
• Helpful in international trade.
• Fixing of factor prices
 Activity 1
• Yesterday, the price of envelopes was $3 a
box, and Julie was willing to buy 10 boxes.
Today, the price has gone up to $3.75 a box,
and Julie is now willing to buy 8 boxes. Is
Julie's demand for envelopes elastic or
inelastic? What is Julie's elasticity of demand?
 Arc elasticity
elasticity estimated over a range of prices
and quantities along a demand curve
Ep =– Q- Q1 X P + P1
P-P1 Q + Q1

Q- original qty, q1- new qty, p – original price,

p1 – new price
Yesterday, the price of envelopes was $3 a box,
and Julie was willing to buy 10 boxes. Today, the
price has gone up to $3.75 a box, and Julie is
now willing to buy 8 boxes. Is Julie's demand for
envelopes elastic or inelastic? What is Julie's
elasticity of demand?
To find Julie's elasticity of demand, we need to
divide the percent change in quantity by the
percent change in price.
• E = ∆Q/ ∆P x P/Q
• ∆Q = new quantity – old quantity = 8-10 = -2
• ∆P = $3.75 –$ 3 =$ .75
• P = $3
• Q = 10
• E = -2/ .75 x $3 /10 = 0.79 or 0.8
• As it is less than unity, it is inelastic demand.
• The price of a commodity is$60 and quantity
demanded at that price is 100 units. When the
price falls to$40. the demand increases to 120
units. Calculate the price elasticity of demand.
•