Price Elasticity

What is Price Elasticity?

Price Elasticity is how responsive we are to certain changes in price of goods.

Price Elasticity of Demand

• Measures the responsiveness of quantity demanded to changes in price

This can be measured by:

• % change in quantity demanded / % change in price
• This is called the percentage change calculation or aka point method

Or can be measured by:

• (Change in Quantity / Average Quantity) X (Average Price / Change in Price)
• This is called the midpoint average

Types of Price Elasticity

Elasticity	Elasticity Co-efficient	Interpretation
Price Elastic	E > 1	Change in supply is greater than change in price
Price Inelastic	E < 1	Change in supply is less than change in price
Perfectly Elastic	E = ∞	Change in price results in no supply
Perfectly Inelastic	E = 0	Change in price results in no change in supply
Unitary Elastic	E = 1	Change in supply is equal to than change in price

Price Elastic

• The quantity demanded of the product is relatively responsive to changes in price
• Percentage change in quantity demanded > percentage change in price
• Absolute value of elasticity of demand > 1
• Has relatively close substitutes, e.g. Fast food / fruits

Price Inelastic

• The quantity demanded of the product is relatively unresponsive to changes in price
• Percentage change in quantity demanded < percentage change in price
• Absolute value of elasticity of demand < 1
• Cannot be easily substituted e.g. Cigarette or Bus fares

Perfectly Elastic

• Changes in price cause an infinite changes in quantity demanded
• So if price changes, quantity demanded falls to zero
• Reflects a perfectly competitive market where firms are price takers

Perfectly Inelastic

• Changes in price cause no changes in quantity demanded
• So if price changes, quantity demanded does not change at all
• Reflects a market where there is a fixed demand regardless of price, e.g. Insulin for diabetic

Unitary Elastic

• Where changes in price equals to change in quantity demanded

Factors that affect PED (Price Elasticity of Demand)

• The availability of substitutes
  • If there are less substitutes such as petrol, then people can’t substitute that much, so inelastic
• Whether the good is a necessity or a luxury
  • Necessity: Inelastic
  • Luxury: Elastic
• Proportion of income
  • The greater the proportion of the income a good takes up: More elastic
  • Cheaper good: More Inelastic
• Time period considered
  • The longer time you have to respond the price changes, then the more elastic it becomes. (Such as petrol)
• The definition of the market
  • Inelastic to petrol
  • Elastic to specific companies such as Caltex
  • The narrower the market, the more responsive you will be

Factors that affect PES (Price Elasticity of Supply)

• Time Period Considered
  • In the short run, goods will be less elastic as people don’t have time to react to change
  • In the long run, goods will be more elastic as people can react to it
• Nature of the industry
  • If you can easily change their production, it will be more price elastic (i.e pencils)
  • If you can’t easily change their production, it will be less price inelastic (i.e agriculture)
• Ability to store inventories
  • If a firm is able to easily store inventories, it is going to be price elastic (i.e canned stuff, doesn’t go off)
  • If a firm is unable to easily store inventories, it is going to be price inelastic (i.e. Fruit as it can go off)