ELASTICIT

Y OF
DEMAND

Prof. V. Vijaya

Definition
The degree of responsiveness of
demand to the change in its
determinants is called elasticity of
demand. The concept of elasticity of
demand plays a crucial role in
business decisions regarding
manoeuvring of prices with a view to
marking larger profits.

 The concept of demand elasticities

used in business decisions are
1. Price Elasticity
2. Cross elasticity
3. Income elasticity
4.Advertisement Elasticity
5. Elasticity of price Expectation

 A formal definition for calculating co efficient

of price elasticity
Ep=% of change quantity /% change in price
Ep=(Q/Q)/(P/P)=Q/Q*P/P
Where Q= quantity,P = price;Q = change in
quantiy;P = change in price.
It is important to note ve sign is generally
inserted in the formula before the fraction in
order to make the elasticity co efficient a
non negative value

Definition Of Price Elasticity Of

Demand
The change in the quantity
demanded of a product due to a
change in its price is known as Price
elasticity of demand. Thus, the
sensitiveness or responsiveness of
demand to change in price is as
called elasticity of demand

Kinds Of Price Elasticity Of

Demand
1)
2)
3)
4)
5)

Perfectly elastic demand

Relatively elastic demand
Elasticity of demand equal to utility
Relatively inelastic demand
Perfectly inelastic demand
Let Us See Some Views On Them

Perfectly elastic demand

y
Perfectly elastic
demand curve

P
R
I
C

When the
demand for a
product has
no change
with the
increase and
infinity
change with
the decrease.
x
It is known as
perfect

Relatively elastic demand

y
P

Relatively elastic
demand curve

R
D

I
C
E

demand

When the
proportionat
e change in
demand is
more than
the
proportionat
e changes in
price, it is
known as
relatively
elastic

Elasticity of demand equal to

utility

y
D

P
R

Elasticity of
demand equal
to utility curve

I
C
E

D
0

demand

When the
proportionate
change in
demand is
equal to
proportionate
changes in
price, it is
known as
unitary
elastic

Relatively inelastic demand

Y

Relatively inelastic
demand curve

P
R
I
C
E
D
O

demand

When the
proportionate
change in
demand is less
than the
proportionate
changes in
price, it is
known as
relatively
inelastic
demand

Perfectly inelastic demand

Y
D

P
R
I
C
E

D
demand

When a change
in price,
Perfectly inelastic
howsover large,
demand curve
change no
changes in
quality demand,
it is known as
perfectly
inelastic
demand
X

ALL KINDS OF DEMAND CAN BE

SHOWN IN ONE DIAGRAM AS FOLLOW
Y

P
R
I

C
E

D3
D4
0

D5
DEMAND

WHERE
D1) Perfectly elastic
demand
D1 D2)Relatively elastic
demand
D2 D3)Elasticity of
demand equal to
utility
D4)Relatively
X
inelastic demand
D5)Perfectly inelastic
demand

Measurement of price
elasticity
The price elasticity can be measured
between at any two points on a
demand curve which is linear called
ARC ELASTICITY or at a point called
POINT ELASTICITY.

 Arc Elasticity: The measure of

elasticity demand between any two
finite points on a demand curve is
known as arc elasticity
Point elasticity: Point elasticity is
used for measuring price elasticity
where change in price is
infinitesimally small.

Factors Affecting Price

Elasticity Of Demand

Nature of the Commodity

Availability of Substitutes
Weight age in total consumption
Time factor in adjustment of
consumption pattern
Range of commodity
Proportion of market supplied

Practical Importance of the Concept

of Price Elasticity Of Demand
The concept is helpful in taking
Business Decisions
Importance of the concept in
formatting Tax Policy of the
government
For determining the rewards of the
Factors of Production
To determine the Terms of Trades
Between the Two Countries

Practical Importance of the Concept

of Price Elasticity Of Demand
Determination of Rates of Foreign
Exchange
For Nationalization of Certain
Industries
In economic Analysis ,the concept of
price elasticity of demand helps in
explaining the irony of poverty in the
midst of plenty.

Income elasticity of demand

The responsiveness of demand to the
changes in income is known as
income elasticity of demand.

Types Of Income Elasticity

Of Demand
Positive Income elasticity of demand
Negative Income elasticity of
demand
Zero Income elasticity of demand

Positive Income elasticity of demand

Income

P
A

Quantity

B S

Positive Income elasticity of

demand
Income Elasticity Equal to Unity or One
those goods are considered to be
comforts(ey=1)
Income Elasticity Greater Than Unity
Or One those goods are luxury.(ey>1)
Income Elasticity Less Than Unity or
One those goods considered to be
essential goods(ey <1)

Measurement Of Income
Elasticity Of Demand

Income Elasticity Of
Demand =
i.e.
Income Elasticity Of
Demand =

Proportionate change in
Demand
Proportionate change in
Income
q

/ y
Q
Y

Measurement Of Income
Elasticity Of Demand
Here , q = Change in the quantity
demanded.
Q = Original quantity demanded.
y = Change in income.
Y = Original income.
For e.g. ,when Income of the consumer =
2,500/- , he purchases 20 units of X, when
income = 3,000/- he purchases 25 units of
X

Measurement Of Income
Elasticity Of Demand
Thus
Income Elasticity of Demand
q

/ y
=
Q

= (5/20) /(500/2500)
= 1.5
therefore here the IED is 1.5 which is
more than one.

Uses of Income Elasticity in

Business decision
In production planning and management
In forecasting demand when change in
consumers income is expected
In classifying goods as normal and inferior
In expansion and contraction of the firm
by the figure of income elasticity of
demand
Markets situations could be studied with
the help of IED

Cross Elasticity of Demand

The cross elasticity is the measure of
responsiveness of demand for a commodity
to the change in the price of its substitutes
and complementary goods.
For instance cross elasticity of demand for
tea is the percentage change in its quantity
demanded with respect to the change in
the price of the substitute coffee.

Measurement Cross
Elasticity of Demand
Cross Elasticity of
Demand =
i.e.
Cross Elasticity of
Demand =

Percentage of change in
demand for tea (Qt)
Percentage of change in
price of coffee(Pc)
q
x
Q
x

p
yPy

Cross Elasticity of Demand

For Substitutes
Y
Price of
Y

D
O

Demand

Cross Elasticity of Demand For

Y Complementary Products
Price of
Y

D
O

Demand

Importance of Cross
Elasticity Of Demand
The concept is of very great
importance in changing the price of
the products having substitutes and
complementary goods .
In demand forecasting
Helps in measuring interdependence
of price of commodity .
Multiproduct firms use these concept
to measure the effect of change in

Advertising Elasticity of
Demand
Advertising elasticity of demand
is the measure of the rate of
change in demand due to change
in advertising expenditure
The amount of change in demand of
goods due to advertisement is
known as Advertisement Elasticity of
Demand .

Advertising Elasticity of
Demand
Advertising Elasticity of
Demand =
i.e.

Advertising Elasticity of
Demand =

Proportionate change in
sales for product
Proportionate change in
Advertising expenditure
S
S

A
A

Example of advertisement elasticity

Suppose for example a company
increases its advertising expenditure
from Rs. 10 million to Rs. 20 million
and as a result, its sales increases
from 50,000 units to 60,000 units. In
this case A= 20 million-10 million =
Rs. 10 million and S= 10,000 units.
By substituting

eA =10,000/10*10/50,000=0.2 percent

Relationship Between Advertising

Expenditure and Sales
Y

Sale
s

Advertising

Factors Affecting Advertising

Elasticity Of Demand
The stage of the Products Market
Development .
Reaction of market Rival Firms.
Cumulative Effect of Past
Advertisement.
Influence of Other Factors.

Importance of the
Advertising Elasticity Of
Demand in Business
Decisions
It is useful in competitive industries.
Though advertisement shifts the
demand curve to right path but it
also increases the fixed cost of the
firm.

Limitation of Advertising
Elasticity of the Demand
The impact of advertising on sales is
different under different conditions,
even if other demand determinants
are constant.
Like wise, it is difficult to establish
any co-relationship between
advertising expenditure and volume
of sales when there counter
advertisements by rival firm in the

Thanking You
All

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