ELASTICITY OF DEMAND

ELASTICITY OF DEMAND

Elasticity of Demand

Elasticity means responsiveness of one variable to change in another. It shows the degree of a change in a variable due to the change in quantity of another variable.

In Elasticity of Demand we will discuss three types;

  1. Price Elasticity of Demand
  2. Income Elasticity of Demand
  3. Cross Elasticity of Demand

Price Elasticity of Demand (P.E.D)

This is shows the degree of responsiveness of a change in quantity demanded due to a change in price of a product.

Types of Price Elasticity of Demand are;

  • Point Price Elasticity of Demand (PPE)
  • Arc Price Elasticity of Demand (APE)

Point Price Elasticity of Demand (PPE)

This is the elasticity in which change in price is infinitesnally small.  Point Price elasticity is the price elasticity of demand at a specific point on the demand curve instead of over a range of it.

Where,

Ep is the Point Price Elasticity of Demand

P is the Specific price,

Q is the quantity demanded.
Arc Price Elasticity of Demand (APE)

This is the elasticity in which change in price is noticeable. Arc Price Elasticity of Demand (arc PED) is the value of PED over a range of prices, and can be calculated using the standard formula:

Where,

Ep is the Arc Price Elasticity of Demand

P1 is the initial/Old price,

P2 is the New price,

Q1 is the initial/Old quantity demanded,

Q2 is the New quantity demanded.

   Example   

Income elasticity of demand

Income elasticity of demand measures the responsiveness of the quantity demanded for a good or service to a change in the income of the people demanding the good.

Types of Income Elasticity of Demand are;

  • Point Income Elasticity of Demand (PYE)
  • Arc Income Elasticity of Demand (AYE)

Point Income Elasticity of Demand(PYE)

This is the elasticity in which change in income is infinitesnally small.  Point Income elasticity is the Income elasticity of demand at a specific point on the demand curve instead of over a range of it.

Where,

Ey is the Point Income Elasticity of Demand

y is the Specific income,

Q is the quantity demanded.

Arc Price Elasticity of Demand (APE)

This is the elasticity in which change in income is noticeable. Arc Income Elasticity of Demand (arc YED) is the value of YED over a range of income, and can be calculated using the standard formula:

Where,

Ey is the Arc Income Elasticity of Demand

y1 is the initial/Old income,

y2 is the New Income,

Q1 is the initial/Old quantity demanded,

Q2 is the New quantity demanded.

   Example   

Cross Elasticity of Demand

The Cross Elasticity of Demand or Cross-price Elasticity of Demand measures the responsiveness of the quantity demanded for a good to a change in the price of another good. It is measured as the percentage change in quantity demanded for the first good that occurs in response to a percentage change in price of the second good. For example, if, in response to a 15% increase in the price of fuel, the demand for new cars that are fuel inefficient decreased by 30%, the cross elasticity of demand would be:cross body  \frac{-30 \%}{15 \%}=-2. A negative cross elasticity denotes two products that are complements, while a positive cross elasticity denotes two substitute products. Assume products A and B are complements, meaning that an increase in the price for A accompanies a decrease in the quantity demanded for B. Therefore, if the price of product B decreases, the demand curve for product A shifts to the right reflecting an increase in A's demand, resulting in a negative value for the cross elasticity of demand. The exact opposite reasoning holds for substitutes. It is the degree of responsiveness of demand for good A with respect to change in price of goods B. For Example: if the price of mike goes up, the Qty demanded for Bournvita increases. If on calculation, the answer is positive, it shows such goods are competitive.

Types of Cross Elasticity of Demand are;

  • Point Cross Elasticity of Demand (PCE)
  • Arc Cross Elasticity of Demand (ACE)

Point Cross Elasticity of Demand(PCE)

 


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