Degrees of Price Elasticity of Demand

 

 Learning Contents:                                                            

·         Introduction to Price Elasticity of Demand

·         Various Degrees of  Price Elasticity of Demand

 

Introduction

This post will explore how demand responds to change in own price of the commodity. As studied earlier, The Law of demand states that other things remain constant, price and quantity demand are inversely related to each other. If the price falls, quantity demand rises. On the other hand, if price rises, quantity demand falls. Therefore, the concept of demand measures only the direction of change. In simple words, it shows how demand responds to change in the own price of the commodity, or we can say that demand either increases or decreases as a result of the change in its own price. On the other hand, Price Elasticity of demand measures the degree of change i.e. How much or to what extent demand changes as a result of the change in price. Price elasticity of demand measures not only the direction of change but also the degree of change in demand as a result of the change in the own price of the commodity.

Price Elasticity of Demand

Price elasticity of demand measures the percentage change in quantity demand in response to a percentage change in own price of the commodity. The price elasticity of demand is measured by its coefficient Ep.  Mathematically, it is calculated as

Degrees of Price Elasticity of Demand

Different commodities have different degrees of their elasticity. Demand for consumer durables such as refrigerators, TV, Washing machines, etc. is more elastic than demand for necessary goods such as medicines, edible oil, cereals, etc. The degrees of price elasticity of demand indicate how much demand changes in relation to the change in own price of the commodity.  Basically, the price elasticity of demand ranges from zero to infinity. It can be equal to zero, less than one, greater than one, and equal to unity. Therefore, degrees of price elasticity of demand can be classified into five broad categories:

        1.      Perfectly Elastic demand

2.      Perfectly Inelastic demand

3.      More than unitary elastic demand or elastic demand

4.      Less than unitary elastic demand or Inelastic demand

        5.      Unitary Elastic Demand 

1. Perfectly Elastic Demand

Perfectly elastic demand is when the response to price is complete and infinite. It refers to a situation when a small change in price causes a major change in the quantity demand for a commodity. In other words, a small rise in price can cause demand to fall to zero, while a small fall in price can cause demand to increase to infinity. Perfect elastic demand is not applicable in real situations as it is a theoretical concept but its presence can be found in a perfectly competitive market where the homogenous goods are sold at the price fixed by the demand and supply forces. Here, the Elasticity of demand is equal to infinity (or E_d=∞). In Figure 1, the demand curve (DD) is a horizontal straight line that is parallel to X-axis showing that quantity demand can go infinite at a prevailing price.

Perfectly Elastic Demand Example

At the prevailing price of ₹ 20 and quantity demand of a commodity may be 2,4,6,8 or any units of the commodity. It can be interpreted that the quantity demanded can go to infinity at a fixed price of ₹ 20. Hence, the elasticity of demand is infinite at all points of the demand curve.

 Fig 1: Perfectly Elastic Demand (E_d=∞)

2. Perfectly Inelastic demand

Perfectly inelastic demand refers to a situation when the change in price causes no change in the quantity demand. In simple words, when demand is not at all affected by the change in the price of the commodity. For example, the demand for essential goods such as salt, sugar, and wheat is perfectly inelastic because their demand remains constant irrespective of their price changes. Hence, the Elasticity of demand is equal to zero (or E_d=0). In Figure 2, the demand curve (DD) is a vertical straight line that is parallel to Y-axis showing that demand remains unaffected even if price changes.

Perfectly Inelastic Demand Example

Suppose the initial price of a good is ₹ 20 and its quantity demand is 6 units. When its price rises to ₹ 30, quantity demanded is 6 units. It can be interpreted that quantity demand remains constant i.e. 6 units irrespective of price changing from ₹ 20 to ₹ 30. Hence, the elasticity of demand will be zero.

Fig 2: Perfectly Inelastic Demand ( E_d=0)

3. Unitary Elastic Demand

Unitary elastic demand refers to a situation when a percentage change in price is equal to a percentage change in the quantity demand. Simply, it is when the change in demand is equal to the change in price. Therefore, the Elasticity of demand is equal to 1 (or E_d=1). In Figure 3, the demand curve (DD) is sloping downward from left to right showing that quantity demand changes at the same rate which price changes.

Unitary Elastic Demand Example

Suppose the price of good increases from ₹ 5 to ₹ 7, (40%), its quantity demand decreases from 20 units to 12 units, (40%). It can be interpreted that both quantity demand and price are changed by 40% i.e. change in quantity demand is equal to change in price. Therefore, the Elasticity of demand is unitary or equal to one.

 Fig 3: Unitary Elastic Demand ( E_d=1)

4. More than Unitary Elastic Demand

More than unitary elastic demand refers to a situation when a percentage change in quantity demand is greater than the percentage change in price. Simply, it is when a small change in price produces a big change in demand. Goods with their substitutes have an elastic demand as consumers may switch to other options if price changes. Hence, the Elasticity of demand is greater than 1 (or E_d > 1). In Figure 4, the demand curve (DD) is a sloping downward from left to right showing a change in quantity demand is more than the change in price. The demand curve remains flatter in case of more than unitary elastic demand.

More than Unitary Elastic Demand Example

When the price of a good increase from ₹ 6 to ₹ 8, (33.3%), the quantity demand decreases from 15 units to 5 units, (66%). It can be interpreted that quantity demand is decreased by 66.7% whereas price is increased by 33.3 % i.e. change in quantity demand is greater than the change in price. Therefore, the Elasticity of demand is more than unitary or greater than one.

 Fig 4: More than Unitary Elastic Demand ( E_d>1)

5. Less than Unitary Elastic Demand

Less than unitary elastic demand refers to a situation when a percentage change in quantity demand is less than the percentage change in price. Simply, when a big change in price produces a very little change in demand. Hence, the Elasticity of demand is less than 1 (or E_d < 1). In Figure 5, the demand curve (DD) is sloping downward from left to right showing the change in quantity is less than the change in the price of the commodity. The demand curve remains steeper in case of less than unitary elastic demand.

Less than Unitary Elastic Demand Example

When the price of a good increases from ₹ 4 to ₹ 8, (100%), the quantity demand decreases from 15 units to 10 units, (33.3%). It can be interpreted that quantity demand is decreased by 33.3% whereas price is increased by 100 % i.e. change in quantity demand is less than the change in price. Therefore, Elasticity of demand is less than unitary or less than one.

  Fig 5: Less than Unitary Elastic Demand ( E_d<1)

The Different types of elasticity can be summarized with the help of the following table:

Let’s try some questions

Choose the Correct Answer

1. The price elasticity of demand measures

a. the slope of a budget curve.

b. how often the price of good changes_.

c. the responsiveness of the quantity demanded to changes in price.

d. how sensitive the quantity demanded is to change in demand.

2. The price elasticity of demand equals

a. the percentage change in the quantity demanded divided by the percentage change in the price.

b. the change in the quantity demanded divided by the change in price.

c. the percentage change in the price divided by the percentage change in the quantity demanded.

d. the change in the price divided by the change in quantity demanded.

3. A 10 percent increase in the quantity of mango demanded results from a 20 percent decline in its price. The price elasticity of demand for mango is

a. More than unitary elastic demand  

b. Less than unitary elastic demand

c. Unitary elastic demand

d. Perfect elastic demand

4. A 20 percent increase in the quantity of pizza demanded results from a 20 percent decline in its price. The price elasticity of demand for pizza is

a. More than unitary elastic demand  

b. Less than unitary elastic demand

c. Unitary elastic demand

d. Perfect elastic demand

5. When the percentage change in demand is less than percentage change in price, demand will be

a. Elastic demand  

b. Inelastic demand

c. Unitary elastic demand

d. None of above

6. If demand is price elastic,

a. a 1 percent decrease in the price leads to an increase in the quantity demanded that exceeds 1 percent

b. a 1 percent increase in the price leads to an increase in the quantity demanded that exceeds 1 percent

c. the price is very sensitive to any shift of the supply curve

d. a 1 percent decrease in the price leads to a decrease in the quantity demanded that is less than 1 percent.

7. The price elasticity of demand can range between

a. negative and one

b. zero and infinity

c. zero and one

d. negative infinity and infinity

8. Elasticity of demand is greater than unity for :

a. Necessaries

b. Luxuries

c. Complementary goods

d. Comforts

 

Answer Key

 

1.c	2.a	3.b	7.b
4.c	5.b	6. a	8.b

 

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