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Demand Elasticity: Imelda B. Cueto Managerial Economics Colegio de San Juan de Letran Sbma

This document discusses demand elasticity, specifically price elasticity, income elasticity, and cross price elasticity. It defines each type of elasticity and provides examples. Factors that affect elasticity are also examined, such as availability of substitutes, proportion of income spent on a product, and whether a product is a necessity or luxury. Elasticity is measured using formulas and can be unit elastic, perfectly inelastic, or perfectly elastic depending on the responsiveness of demand to changes in price, income, or other related prices.

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144 views

Demand Elasticity: Imelda B. Cueto Managerial Economics Colegio de San Juan de Letran Sbma

This document discusses demand elasticity, specifically price elasticity, income elasticity, and cross price elasticity. It defines each type of elasticity and provides examples. Factors that affect elasticity are also examined, such as availability of substitutes, proportion of income spent on a product, and whether a product is a necessity or luxury. Elasticity is measured using formulas and can be unit elastic, perfectly inelastic, or perfectly elastic depending on the responsiveness of demand to changes in price, income, or other related prices.

Uploaded by

Crystal De Guzman
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Demand Elasticity

IMELDA B. CUETO
Managerial Economics
Colegio de San Juan de Letran
SBMA
Learning Objectives

Explain the nature and characteristics


of demand elasticity
Describe the determinants of demand
elasticity
Calculate and analyze elasticity
Explain the applications and
importance of demand elasticity
  ELASTIC

capable of ready
change or easy
expansion or
contraction 

not rigid or
constricted 
ECONOMIC ELASTICITY IN DEFINED
AS …..
The responsiveness of a dependent
economic variable to changes in
influencing factors.
What is Demand Elasticity

Demand elasticity refers to the reaction or


the response of the consumers to changes in
determinants of demand such as:
 Price – Price Demand Elasticity
 Income – Income Elasticity
 Price of related products – Cross Price Elasticity
Types of Demand Elasticity

Price Elasticity – Buying responses of consumers


to price changes.

•Income Elasticity - Buying responses of consumers


when their incomes change

•Cross Price Elasticity - Buying responses of


consumers of one product when the price of another
product changes
Factors Affecting Demand Elasticity

Availability of Close Substitutes

Substitute goods are goods that can be used in


activities aimed to satisfy the same needs, one in
the place of another.
Factors Affecting Demand Elasticity

Availability of substitute goods:

 The larger the number and closer the substitutes


available, the higher the elasticity is likely to be,
as people can easily switch from one good to
another if an even minor price change is
made. There is a strong substitution effect.
 If no close substitutes are available, the
substitution effect will be small and the demand
inelastic.
Factors Affecting Demand Elasticity

Proportion of Income spent on the product

 The higher the percentage of the consumer's income


that the product's price represents, the higher the
elasticity tends to be, as people will pay more
attention when purchasing the good because of its
cost .The income effect is substantial.
  When the goods represent only a negligible portion
of the budget the income effect will be insignificant
and demand inelastic.
Factors Affecting Demand Elasticity

Luxuries and Necessities


 The more necessary a good is, the lower the
elasticity, since people will buy it no matter the price,
such as the case of insulin for diabetics.

Demand for necessary goods  increases as 


income rises, but at a rate slower than the rate of
increase in income. A normal good for which the 
income elasticity of demand is positive but less
than one, hence, inelastic income elasticity.
Factors Affecting Demand Elasticity
Time horizons

 The product demand is more elastic the longer the time


period . Consumers need time to adjust to changes in prices.

The longer a price change holds, the higher the elasticity is


since consumers find they have the time and inclination to
search for substitutes.
 When fuel prices increase suddenly, consumers may still
fill up their empty tanks in the short run. But when prices
remain high over several years, more consumers will reduce
their demand for fuel by switching to carpooling or public
transportation, or investing in more fuel-efficient vehicles.
Factors Affecting Demand Elasticity

Brand Loyalty

 An attachment to a certain brand—either out of


tradition or because of proprietary barriers—can
override sensitivity to price changes, resulting in
more inelastic demand.
Demand Elasticity

PRICE ELASTICITY
OF
DEMAND
UNITARY ELASTIC
PERFECTLY INELASTIC

 Perfectly inelastic means that


quantity demanded is
unaffected by any change in
price. The quantity is
essentially fixed and it does
not matter how much price
changes, quantity does not
budge.
 Perfectly inelastic demand
occurs when buyers have no
choice in the consumption  of a
good.
PERFECTLY INELASTIC

In case of necessities such as staple food grains, no


matter how much the price rises or falls, the quantity
demanded by an individual would remain the same -
the consumer will not start eating more if grains
become cheaper nor would he reduce his consumption
if they become dearer.

In case of an increase in the price of such a necessity,


the consumer may cut down on the consumption of
other commodities to adjust his budget such that the
same quantity of food grain is absorbed despite a rise in
price.
Demand Elasticity

INCOME ELASTICITY
OF
DEMAND
Income Elasticity of Demand

Income elasticity of demand measures the


relationship between a change in quantity demanded
for good X and a change in real income. The formula
for calculating income elasticity is:
Income Elasticity of Demand

A commodity is said to have a


perfectly inelastic demand if
the quantity demanded or
consumed of it does not
respond to a change in the
income of the consumer.

Such commodities are usually


known as sticky goods and
consist mainly of necessities.
Income Elasticity of Demand
Income Elasticity of Demand

Normal goods have a positive income elasticity of demand so as


consumers' income rises more is demanded at each price i.e. there is an
outward shift of the demand curve.

Normal necessities have an income elasticity of demand of between 0


and +1 for example, if income increases by 10% and the demand for
fresh fruit increases by 4% then the income elasticity is +0.4. Demand is
rising less than proportionately to income

Luxury goods and services have an income elasticity of demand >


+1 i.e. demand rises more than proportionate to a change in income –
for example a 8% increase in income might lead to a 10% rise in the
demand for new kitchens. The income elasticity of demand in this
example is +1.25.
Income Elasticity of Demand

Inferior goods have a negative income


elasticity of demand meaning that demand
falls as income rises.

Inferior goods or services exist


where superior goods are available if the
consumer has the money to be able to buy it.
Income Elasticity and Engel’s Curve

Named after 19th Century German statistician Ernst Engel,


showing the relationship between consumer demand and
household income.

People spent a smaller and smaller portion of their income


on food as their income increases.

Engel curves for normal goods slope upwards – the flatter the
slope the more luxurious the good, and the greater the income
elasticity.

Engel curves for inferior goods have a negative slope.


The Engel’s curves show the
demand for the three goods
and each responds
differently to the same
change in income, increase
from Y to Y1.
Demand for the normal
good increases from Q to Q1

 Demand for the luxury good


rises much more, to Q2

Demand for the inferior


good falls from Q to Q3.
Engel’s Curve
Demand Elasticity

CROSS PRICE ELASTICTY


Formula for Cross Price Elasticity
Cross Price Elasticity
Cross Price Elasticity
Cross Price Elasticity

Substitutes or
Complementary?
Explain your answer
using the cross price
elasticity concept.
REFERENCES

Mankiw, G.N., (2012). Essentials of Economics 6 th Edition. Harvard University: South-


Western, Cengage Learning
Mastrianna F.V.(2013).Basic Economics 16th Edition. South-Western Cengage Learning
McConnel, C. et.al (2012). Economics: Principles, Problems, and Policies (Global Edition).
McGraw Hill Co., Inc.
Paraiso O.C. et.al (2011). Introduction to Microeconomics, Mutya Publishing House, Inc.
Stock W.A., (2013) Introduction to Economics: Social Issues and Economic Thinking

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