Elasticity of Demand

Elasticity of demand
Law of demand states that the price and quantity demanded is inversely related but it doesn’t show the extent
to which the demand changes in response to change in its price income and price of related goods
Law of demand does not give the magnitude of change in quantity demanded to change in its price. For
understanding magnitude of change in quantity demanded to change in price we have to understand elasticity
of demand.
Price elasticity of demand is defined as a measurement of percentage change in quantity demanded

in response to a given percentage change in own price of the commodity
The word elasticity means responsiveness. If there is a change in quantity demanded due to change in its price it
is known as price elasticity of demand.
Factors affecting the price elasticity of demand

Nature of commodity (luxury versus necessities) - the price elasticity of demand is likely to be low for
necessities like salt, LPG, matchboxes, text books, seasonal vegetables etc. and high for luxuries like air
conditioners, costly furniture, fashionable garments etc.
Availability of close substitutes - a good having close substitutes will have an elastic demand for example
commodities like pen, cold drink, etc. have close substitutes here demand is elastic because when the price of
such a good rises the consumer have the option of shifting to its substitute. Goods without close substitutes like
cigarettes and liquor generally found to be less elastic.
Income of the consumer - if the income level of the consumer is high elasticity of demand is less it is because
change in the price will not affect the quantity demanded by a greater proportion but in low income groups the
elasticity of demand is high.
Diversity of uses - the more number of uses of commodity can be put to use the more elastic is demand. If it
has a single use then elasticity will be inelastic.
Time period - demand is Inelastic in short period and Elastic in long period. It is because long period is long
enough for a consumer to change his consumption habits.
Postponement of use – elasticity of demand will be elastic for goods the consumption of which can be
postponed, demand for residential houses may be cited as an example, people often postponed the demand for
residential houses when interest rates on the house loans are high.
Habit of the consumers - goods to which consumer become addicted will be inelastic example cigarettes.
Proportion of income spent on a commodity - goods on which consumer spend a small proportion of their
income example toothpaste, boot polish, newspaper, needles etc. will have an inelastic demand on the other
hand goods on which the consumer spend a large proportion of their income clothes, scooter etc tend to have
elastic demand.
Price level - Elasticity of demand also depends on the level of price of the concerned commodity elasticity of
demand will be high at Higher level of the price of the commodity and low at the lower level of the price.
Measurement of price elasticity of demand

Total Expenditure Method or Total Outlay Method - Total expenditure method to measure elasticity of
demand is given by Prof. Marshall. According to this method, one finds out how much and in what direction
total expenditure changes as a result of change in own price of the commodity. He observes three different
situations, as under:
(i) If rise or fall in own price of a commodity causes no change in total expenditure on the commodity, then
elasticity of demand is unitary.
(ii) If a fall in own price of a commodity causes a rise in total expenditure and a rise in price causes a fall in total
expenditure on the commodity, then elasticity of demand is greater than unitary.
(iii) If a fall in own price of a commodity causes a fall in total expenditure and a rise in price causes a rise in total
expenditure on the commodity, then elasticity of demand is less than unitary. These situations are further
illustrated through Table
Note the following observations carefully with regard to three different situations in Table :
Unitary Elastic Demand: Situation A in Table 1 shows that when own price of the commodity is ₹ 2, total
expenditure is 8. When price falls to 1, the total expenditure does not change.
(ii) Greater than Unitary Elastic: Situation B in Table 1 shows that when own price of the commodity is ₹2, total
expenditure is 8. When price falls to ₹ 1, total expenditure rises to 10. In this case, direction of change in total
expenditure is opposite to the direction of change in price.
(iii) Less than Unitary Elastic: Situation C in Table 1 shows that when own price of the commodity is 2, total
expenditure is 6. When price falls to 1, total expenditure falls to 4. In this case, direction of change in total
expenditure is the same as the direction of change in price.
In this figure (Fig. 1), price is shown on Y-axis and total expenditure on X-axis.
TE is total expenditure curve.
BC part of TE curve represents unitary elastic demand. It shows that when price is OM, total
expenditure is MC, as price rises to ON, total expenditure remains NB (= MC), i.e., same as before. It
corresponds to the situation when Ed = 1.
TB part of TE curve corresponds to the situation when Ed > 1. It shows that when price rises from ON
to OR, total expenditure falls from NB to RA.
EC part of TE curve corresponds to the situation when Ed < 1. It shows that when price falls from OM
to OP, total expenditure also falls from MC to PD.
Note: (i) TE in Fig. 1 is a total expenditure curve, not a demand curve.(ii) The relationship between
'change in price' and 'total expenditure' indicating different degrees of elasticity of demand is valid
only on the assumption that there is inverse relationship between own price of a commodity and its
quantity demanded.
Percentage / proportional method to be covered in syllabus
Proportionate or percentage method - this is the most popular method of measuring price elasticity of
demand. Under this method elasticity of demand is measured by the ratio of the proportionate
(percentage) change in quantity demanded to the proportionate (percentage) change in price. It is
worked out as under
The ratio is a rar
The ratio is a negative number because price and

quantity demanded are inversely related. In
numerical sums, the minus (-) sign is dropped from
the number and all percentage changes are treated as
positive.
Degrees of price elasticity of demand
1. Perfectly elastic demand ( Ed = ∞ ) -

When the demand for a commodity rises or
falls to any extent without any change in
price, the demand for that commodity is said
to be perfectly elastic. The dd is horizontal
straight line parallel to x axis,
2. Perfectly inelastic demand (ed = 0) - When
the demand of a commodity does not change as a
result of change in its price, the demand is said to
be perfectly inelastic the perfectly inelastic.
Demand curve is a vertical line parallel to y axis as
shown in figure
3. Elastic demand (ed > 1) - When the change in

price level leads to more than proportionate
change in quantity demanded is known as elastic
demand
4. Inelastic demand ( ed < 1) - When a change in

price leads to less than proportionate change in
demand, the demand is inelastic. In other words a
change in price leads to less than proportionate
change in demand it is called inelastic demand.
5. Unitary elastic demand(ed =1) - When a

change in price leads to equal change in
quantity demanded, the demand is said to be
elastic. Such a demand curve is drawn as a
rectangular hyperbola. Its basic property is
that all rectangles formed under the curve are
equal in area.

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Elasticity of demand

Price elasticity of demand is defined as a measurement of percentage change in quantity demanded

Factors affecting the price elasticity of demand

Measurement of price elasticity of demand

The ratio is a negative number because price and

Degrees of price elasticity of demand

1. Perfectly elastic demand ( Ed = ∞ ) -

3. Elastic demand (ed > 1) - When the change in

4. Inelastic demand ( ed < 1) - When a change in

5. Unitary elastic demand(ed =1) - When a

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