Concept of Elasticity Essay

Why Economists Use Elasticity Definitions of Elasticity How to Compute the Elasticity of Demand and Supply Examples of Elasticity of Demand and Supply What is an Elasticity? Measurement of the percentage change in one variable that results from a 1% change in another variable. When the price rises by 1%, quantity demanded might fall by 5%. The price elasticity of demand is -5 in this example. Different Types of Elasticities Price elasticity of demand: how sensitive is the quantity demanded to a change in the price of the good. Price elasticity of supply: how sensitive is the quantity supplied to a change in the price of the good. Examples of Demand Elasticities When the price of gasoline rises by 1% the quantity demanded falls by 0. 2%, so gasoline demand is not very price sensitive. Price elasticity of demand is -0. 2 . When the price of gold jewelry rises by 1% the quantity demanded falls by 2. 6%, so jewelry demand is very price sensitive. Price elasticity of demand is -2. . Examples of Supply Elasticities When the price of DaVinci paintings increases by 1% the quantity supplied doesn’t change at all, so the quantity supplied of DaVinci paintings is completely insensitive to the price. Price elasticity of supply is 0. When the price of beef increases by 1% the quantity supplied increases by 5%, so beef supply is very price sensitive. Price elasticity of supply is 5. Why Economists Use Elasticity Economists want to compare apples and oranges all the time. Is oil market demand more price sensitive than wheat demand? no) Is the labor supply of women more wage sensitive than the labor supply of men? (yes) An elasticity is a unit-free measure. By comparing markets using elasticities it does not matter how we measure the price or the quantity in the two markets. Elasticities allow economists to quantify the differences among markets without standardizing the units of measurement. Examples of Unit-free Comparisons Gasoline and jewelry It doesn’t matter that gas is sold by the gallon for about $1. 09 and gold is sold by the ounce for about $290. We compare the demand elasticities of -0. (gas) and -2. 6 (gold jewelry). Gold jewelry demand is more price sensitive. Paintings and meat It doesn’t matter that classical paintings are sold by the canvas for millions of dollars each while beef is sold by the pound for about $1. 50. We compare the supply elasticities of 0 (classical paintings) and 5 (beef). Beef supply is more price sensitive. Inelastic Economic Relations When an elasticity is small (between 0 and 1 in absolute value), we call the relation that it describes inelastic. Inelastic demand means that the quantity demanded is not very sensitive to the price. Inelastic supply means that the quantity supplied is not very sensitive to the price. Elastic Economic Relations When an elasticity is large (greater than 1 in absolute value), we call the relation that it describes elastic. Elastic demand means that the quantity demanded is sensitive to the price. Elastic supply means that the quantity supplied is sensitive to the price. Size of Price Elasticities Inelastic: price elasticity less than 1 Unit elastic: price elasticity equal to 1 Elastic: price elasticity greater than 1.