Chapter 4 - ELASTICITY OF DEMAND

Elasticity of demand refers to the degree of responsiveness of demand due to change

in any one of the factors affecting demand.

Elasticity of Demand

Price elasticity Income Elasticity Cross Elasticity

PRICE ELASTICITY OF DEMAND
It refers to the degree of responsiveness of quantity demanded due to change in price
of a commodity. It is the extent to which quantity demanded responds to the change in
price. Elasticity of demand depicts how much quantity demanded is going to change
when there is a particular amount of change in the price of the commodity.

 We measure the change of Q.D and price in terms of percentage so that both the
items have a common measure of value.
 Price elasticity of demand is a QUANTITATIVE STATEMENT as it measures the
quantity of change in QD due to a change in price.
 The more elastic the demand for a commodity, the more volatile is the demand.
This means more the elasticity, the more will be the change in Q.D, as compared to
the change in price.
 Ed / Ep = price elasticity of demand.

 DEGREES OF PRICE ELASTICITY OF DEMAND

 PERFECTLY ELASTIC (Ep= ∞)
 PERFECTLY INELASTIC(Ep= 0)
 UNIT/ UNITARY ELASTIC (Ep= 1)
 MORE THAN UNITARY ELASTIC/ HIGHLY ELASTIC/ ELASTIC (Ep >1)
 LESS THAN UNITARY ELASTIC/ RELATIVELY INELASTIC/
INELASTIC(Ep <1)
These can be explained as follows:-
1. PERFECTLY ELASTIC (Ep= )
It refers to a situation where quantity demanded keeps on changing continuously
without any change in price of the commodity.
Px Dx
10 100
10 120
10 150
10 60

(Ep= )
Demand curve is parallel to x-axis

2. PERFECTLY INELASTIC (Ep= 0)

It refers to a situation where quantity demanded does not change with a continuous
change in the price of a commodity.
Px Dx
10 100
5 100
15 100

(Ep= 0)
Demand curve is parallel to Y-axis
1. UNIT/ UNITARY ELASTIC (Ep= 1)
It refers to a situation where percentage change in quantity demanded is equal to
percentage change in price. Such demand is said to be unitary elastic demand.
 Px Dx
10 100
8 120

Ep= 1
Rectangular hyperbola curve is formed. Rectangular hyperbola is a curve, under
which every rectangle drawn has the same area. Rectangles drawn under Unitary
elastic demand curve will be equal as percentage fall on one axis is equal to
percentage rise on another axis.
2. MORE THAN UNIT ELASTIC/ HIGHLY ELASTIC/ELASTIC (Ep >1)
It refers to a situation where percentage change in quantity demand is greater than
percentage change in price such demand is said to be elastic.
Px Dx
10 100
8 150

(Ep >1)
Demand Curve will be flatter.
3. LESS THAN UNIT ELASTIC/RELATIVELY INELASTIC/INELASTIC (Ep
<1)
It refers to a situation where percentage change in quantity demanded is less than
percentage change in price. Such demand is said to be inelastic.
Px Dx
10 100
6 120
(Ep <1)
Demand curve will be steeper.
COMBINED DIAGRAM

METHOD OF CALCULATING PRICE ELASTICITY OF DEMAND

 Percentage Method/ Proportionate Method
Under this method, Ep can be calculated as follows:

Here, Q= Change in Quantity demand

P = Change in Price
Q= Original Quantity
P= Original Price
While solving numerical problems by percentage method (plus or minus) sign will be
ignored but inverse relationship between demand and price will be taken into
consideration if minus sign is given in the question.
Elasticity of Demand for two Intersecting Demand Curve
If two negatively sloped demand curves intersect each other then, at the point of
intersection, flatter demand curve (DD) is more elastic then the steeper one (D 1D1).
We know that in an elastic demand curve, percentage change in Q.D is greater than
percentage change in price, which will be flatter. And in an inelastic demand curve
percentage change Q.D is less than percentage change in price, which is steeper.
On both the demand curves, an equal change in price (PP 1) is made. Due to this, in
DD there is a change in the quantity demanded – QQ2 , and in D1D1 – QQ2.
It is clear from the diagram that the change in demand QQ2 (DD curve) is more than
change in demand QQ1 (D1D1 Curve), with the same change in price (PP 1). Therefore,
DD is more elastic then D1D1.

Slope of demand curve-

- Slope of demand curve = change in price
Change in Q.D
ΔP
i.e ΔQ ¿
¿
- Slope of demand curve measures the rate of change in quantity demanded, with
respect to change in price of the commodity.
- The slope of demand curve is based on absolute change in price and quantity,
whereas the price elasticity of demand is concerned with relative change in
price and quantity.
- Slope of the demand curve (linear demand curve) is constant throughout its
length, whereas the price elasticity of demand varies between infinity and 0 on
its different points.
ΔP
- ΔQ ¿ ….slope of demand curve
¿
 ΔQ P
- Ed = Δ P ¿ × Q
….price elasticity of demand
¿
- Ed =
1 P
slope of demand curve × Q
- Linear demand curve equation-
D(p) = a – bp
Where,
D = demand of a commodity
ΔQ
b= ΔP¿
¿
p = price of the commodity
a = value on y intercept
 FACTORS AFFECTING PRICE ELASTICITY OF DEMAND:
Price elasticity of a commodity is elastic or inelastic, depends on the following
aspects-

1- Availability of substitutes

Many substitutes Less/no substitutes

(Elastic) (Inelastic)
(Ed>1) (Ed<1)
- When there are a lot of substitutes for a particular good, and price of such
goodschanges, the consumer has the privilege of shifting to its substitutes. If
price of the commodity rises, it is very convenient for the consumers to shift to
the consumption of another good. And so even with a small rise in price,
quantity demanded decreases to a greater rate, and thus, the elasticity is highly
elastic (% change in Q.D > % change in price).
- If there are no substitutes for a commodity, then even when the price of the
commodity rises, the consumers do not have the privilege to shift towards the
consumption of another commodity. And so, fall in quantity demanded is much
less than the rise in price and thus the elasticity is inelastic (% change in Q.D
< % change in price).
2- Nature of the commodity

Basic Necessity Luxuries and comforts

(Inelastic) Elastic
(Ed<1) (Ed>1)
- When a commodity is a basic necessity to the consumer, such as books, school
uniform, food grains, then the consumption of such commodity cannot be
avoided, and when price of such commodities rises, quantity demanded doesn’t
fall to that extent, so the elasticity is inelastic (% change in Q.D < % change
in price).
- But the consumption of luxury and comfort goods, like vacation, room heater,
is not necessary and can be avoided. So when price of such commodities rises,
 quantity demanded falls with a greater degree, thus elasticity is highly elastic
(% change in Q.D > % change in price).
3- Uses of the commodity

Limited uses Multiple uses

Inelastic Elastic
- If the commodity has multiple uses like electricity, which are put into a
number of uses, like for running A.C, microwave, vacuum cleaner, mixer
grinder. If price of electricity increases then the demand is decreased from all
the consumptions, and so elasticity is elastic (% change in Q.D > % change
in price).
- On the other hand, if the commodity has a single or limited use like sofa,
school uniform, then when price rises, quantity demanded will be decreased
from only that limited use and thus elasticity is inelastic (% change in Q.D <
% change in price).

4- Price range

Very high/very low Moderate to high

Inelastic Elastic
- In case of very high and very low price of commodity like toothbrush, soap,
pencil, the demand is inelastic because even if their prices rise in case of very
low-priced commodity, then it doesn’t affect the consumer much and doesn’t
add too much of burden to the consumer and quantity demanded doesn’t
decrease much with rise in price. Also, commodities that are very highly priced
like antiques and luxury cars, are consumed by that section of rich people, for
whom price doesn’t matter. If they are buying an already very expensive
commodity, they not decrease the consumption much due to a higher price.
And so elasticity is inelastic (% change in Q.D < % change in price).
- On the other hand, with increase in price of medium to high price ranged
commodities like clothes, scooter, when price rises, it adds a greater burden to
the consumer and so the quantity demanded is decreased much more than the
change in price, and so elasticity is inelastic (% change in Q.D > % change
in price).
 5- Proportion of consumer's budget

Small Proportion Large Proportion

Inelastic Elastic
- Goods on which consumers spend a small proportion of their income (toothpaste
, needles , etc) , will have an inelastic demand, as when price of such commodities
rises, it still doesn’t add burden on the budget of the consumer. Eg.- the consumer
is earning Rs. 20,000 per month, and if he buys toothbrush from that money every
month. If the price of toothbrush rises from Rs.5 to Rs.7, it will not affect the
consumer much, and he/she would not decrease the quantity demanded a lot, and
so the elasticity is inelastic and so elasticity is inelastic (% change in Q.D < %
change in price).
- On the other hand, goods on which the consumers spend a large proportion of
their income (car, rent on the house), then with rise in price of such commodities,
adds high burden on the budget of the consumer. If the consumer is earning Rs.
20,000 per month, and he has to pay on the clothes and shoes, from that income
every month, then if the price of the clothes and shoes rises from Rs. 10,000 to Rs.
15,000, it will be highly affected on the consumer, and he/she will reduce the
consumption much more than the rise in price, and thus elasticity is elastic (%
change in Q.D > % change in price).
6- Time period

Short term Long term

Inelastic Elastic
In case of short period demand is inelastic as In case of long period, demand is
consumption of such commodity cannot be elastic because in the long run a
postponed and so the consumer doesn’t get consumer can change his
the time to adjust to the change in price and consumption habits more
is unable to change the preferences. And so, conveniently than in the short run
the quantity demanded is not reduced much and gets the ability to defer to the
even when price rises, thus inelastic (% consumption and so quantity
 change in Q.D > % change in price). demanded is reduced to a greater
rate than the rise in price, and thus
the elasticity is elastic (% change in
Q.D > % change in price).

HOTS
1. The Demand function of commodity X is
Dx=100-10p
Find out the price of 'X' commodity when demand is=
i) 10 units
ii) 5 units
iii) 0 units
Ans. i) Dx = 100-10p
10=100-10p
10p=100-10=90
90
P= P=Rs 9
10
Ans. ii) Dx = 100-10p
5=100-10p
10p=95 P=Rs 9.5

Ans. iii) Dx = 100-10p

P=10
2. Draw a diagram showing:
i) All 5 degrees of elasticity in ONE diagram
Ans. 2
i) All 5 degrees in one diagram (percentage method)
3. How x and y goods are related when with a fall in the price of X, demand for Y.
i) Increase
ii) Decrease
Ans. 3
i) Complementary goods
ii) Substitute goods.
4. From the following cases identify the expansion of demand and increase in
demand.
i) Rise in demand of car due to fall in its prices.
Expansion of demand
ii) Rise in demand of car during festival season
Increase in demand
iii) Rise in demand of umbrella during rainy season
Increase in demand
iv) Rise in demand of sprite due to rise in price of Pepsi
Increase in demand

5. Which of the following commodities have elastic or inelastic demand:

Salt, mobile phone, school uniform, needles, cigarettes, cars, medicines,
electricity.
Ans.
 Elastic: : Mobile Phone, Cars, Electricity
Inelastic : Salt, Uniform, Needles, Medicines
6. Distinguish between elasticity of demand and law of demand.
Ans. Law of demand shows negative qualitative relationship between price and
quantity demanded for a commodity where as elasticity of demand measures
quantitative relationship.
7. Distinguish between:
NORMAL GOODS GIFFEN GOOD
Those goods where price effect is Those goods where price effect is
Negative and Income effect is Positive. Positive and Income effect is Negative
Law of Demand operates Law of demand doesn't operate
In case of normal goods, demand curve Demand curve slopes upward with
slopes DOWNWARD with respect to respect to price
price

8. Suppose there was a 4% decrease in the price of a good and as a result the
expenditure on the good increased by 2% what can you say about elasticity of
demand?
Ans. Ed>1 (elastic)
Because due to fall in price , total expenditure increases.
9. Are slope of demand curve and elasticity of demand the same thing?
Ans. No,
Slope = Change in P
Change in Q
change∈Q . D
Whereas elasticity = (-) ×P/Q
change∈ price

10. What is giffen paradox? What does it imply?

Ans. It means that giffen goods are an exception to law of demand, where price and
quanity demanded has positive relationship, unlike the rest of the commodities. It
implies that the demand curve in case of giffen goods are upward sloping.
11. A consumer buys 10 units of a good at the price of Rs.5 per unit. Slope of the
demand curve of that good is –(2). Calculate the price elasticity of demand.
- Ans. Ed =
1 P
slope of demand curve × Q
1 5
= ×
2 10
=1/4
= 0.25
Ed = 0.25 (inelastic demand)
12. What does the negative sign in price elasticity of demand depicts?
Ans. It depicts the negative relationship between price and quantity demanded, and so
if price increases, Q.D falls and vice-a-versa. That is why price elasticity of demand
has a negative sign.
13. Arrange the following price elasticities in ascending order (from less elastic to
more elastic).
(-3), (-0.4),(0),(∞),(-3.1)
Ans. (0),(-0.4),(-3),(3.1), (∞)

14. Consider the demand curve D(p) = 10 – 3p. what is the elasticity at price 5/3.
Ans. D = 10 – 3 (5/3), as p = 5/3.
Thus D = 5
We know that D(p) = a – bp
Where,
D = demand of a commodity
ΔQ
b= ΔP¿
¿
p = price of the commodity
ΔQ
thus b = Δ P ¿ = 3
¿
 ΔQ P
price elasticity of demand = Δ P¿ × Q
¿
5/ 3
putting the values = 3 × 5 ¿
¿
= 3 × 1/3
=1
elasticity is unitary elastic, ed = 1.
15. Can the same commodity be an inferior good for one and luxury good for
another?
Ans. Yes, a commodity can be inferior for a high income earning person and that
same commodity can be a normal good (luxury) for a low income earning person.
Thus, the interpretation of the nature of the commodity dependes upon the income
level of a consumer. Wearing clothes from a brand XYZ, can be a luxury for a poor
person, while that same brand can be an inferior good for a very rich person.
16. A consumer spends Rs.1000 on a good priced at Rs. 8 per unit. When price
falls by 25 percent, the consumer continuous to spend Rs. 1000 on the good.
Calculate price elasticity of demand by percent method.
change
Ans. Percentage change = base ¿ × 100
¿
change
New price = 25% = 8 ¿ × 100
¿
= change in P = 2
New price = 8 + 2 = 10
Total expenditure = price × quantity demanded
price Q.D Total expenditure

8 125 1000
10 100 1000

ΔQ P
Ed = Δ P ¿ × Q
¿
 25 8
Ed =
2
× 125
Ed = - 0.2 (highly inelastic)

18. The demand function of X commodity is given as Q = 60 – 3P. Calculate price

elasticity of demand when price rises from Rs. 5 to Rs.8 per unit.
Ans. Q.D (before the change in price) = Q = 60 – 3(5)
Q = 45
Q.D (after the change in price) = Q = 60 – 3(8)
Q = 36

ΔQ P
Ed = Δ P ¿ × Q
(change in Q = 45-36 = 9)
¿
9 5
Ed = 3 ¿ × 45
¿
Ed = - 0.33 (highly inelastic)