Demand

Measurement of Price Elasticity

The elasticity of demand refers to the responsiveness of the demand due to the change in the determinants of the demand. There are three types of elasticity of demand viz. price elasticity of demand, the income elasticity of demand and cross elasticity of demand. Here, we shall discuss the price elasticity of demand.

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Measurement of Price Elasticity

Price elasticity of demand measures the relationship between the proportionate change in demand and the proportionate change in price.

In other words, it shows how much change in price will cause how much change in demand. The formula to calculate the price elasticity of demand is:

$$E_P = \frac{\text{Proportionate change in Demand}}{\text{Proportionate change in Price}}$$

= \(\frac{dq}{dp}\)   x \(\frac{p}{q}\)

Types of Price Elasticity of Demand

  • Perfectly elastic demand
  • Perfectly inelastic demand
  • Relatively elastic demand
  • Relatively inelastic demand
  • Unitary elastic demand
price elasticity of demand

1. Perfectly elastic demand

Perfectly elastic demand is when the price is constant but there is a change in the demand i.e. increase or decrease of a commodity. Thus, the demand curve is parallel to the X-axis.

Here, EP = ∞

2. Perfectly inelastic demand

Perfectly inelastic demand is when the demand is constant or there is no change in the demand of a commodity even if the price changes i.e. increases or decreases.

Thus, the demand curve is parallel to the Y-axis. Demand for salt is an example of perfectly inelastic demand.

Here, EP = 0

Read more about Elasticity of Supply here in detail

3. Relatively elastic demand

Relatively elastic demand is when the proportionate change in demand is more than the proportionate change in the price.

In other words, this means that a little change in the price shall cause more change in demand. Thus, the demand curve slopes downward from left to right. An example of this is luxury goods.

Here, EP ˃ 1

4. Relatively inelastic demand

Relatively inelastic demand is when the proportionate change in demand is less than the proportionate change in the price.

In other words, this means that more change in price shall cause less change in demand. Thus, the demand curve slopes downward from left to right but is steeper. An example of this is the necessary goods.

Here, EP ˂ 1

5. Unitary elastic demand

Unitary elastic demand is when the proportionate change in demand is equal to the proportionate change in price.

In other words, it means that the change in demand is the same as the change in price it may increase or decrease.

Thus, the demand curve slopes downward from left to right but it is a rectangular hyperbola. An example of this is comfort goods.

Here, EP = 1

Questions on Price Elasticity

Q. What is the importance of elasticity of demand?

Ans.

The concept of elasticity of demand is important in the following ways:

  • Business decision: This concept helps the seller in deciding the price of the commodity. He fixes less price for the product that has more elastic demand and vice-versa.
  • Monopolist: Where the elasticity of demand is less, the monopolist fixes more price of the commodity and vice-versa.
  • Determination of factor price: Factors that have elastic demand also have higher prices and vice-versa.
  • International trade: A country whose demand for exports is inelastic, it enjoys favorable terms of trade. On the other hand, if the demand for exports is more elastic than imports, they shall have unfavorable terms of trade.
  • Government: It helps the government to decide to declare which industries as public utilities and the take them over and operate them.
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