4: Elasticity
Anyone who has studied economics knows the law of demand: a higher price will lead to a lower quantity demanded. What you may not know is how much lower the quantity demanded will be. Similarly, the law of supply shows that a higher price will lead to a higher quantity supplied. The question is: How much higher? This chapter will explain how to answer these questions and why they are critically important in the real world.
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- 4.2: Price Elasticity of Demand and Price Elasticity of Supply
- Elasticities can be usefully divided into three broad categories: elastic, inelastic, and unitary. An elastic demand or elastic supply is one in which the elasticity is greater than one, indicating a high responsiveness to changes in price. Elasticities that are less than one indicate low responsiveness to price changes and correspond to inelastic demand or inelastic supply. Unitary elasticities indicate proportional responsiveness of either demand or supply.
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- 4.3: Polar Cases of Elasticity and Constant Elasticity
- There are two extreme cases of elasticity: when elasticity equals zero and when it is infinite. A third case is that of constant unitary elasticity. We will describe each case. Infinite elasticity or perfect elasticity refers to the extreme case where either the quantity demanded or supplied changes by an infinite amount in response to any change in price at all. In both cases, the supply and the demand curve are horizontal.
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- 4.5: Elasticity in Areas Other Than Price
- The basic idea of elasticity—how a percentage change in one variable causes a percentage change in another variable—does not just apply to the responsiveness of supply and demand to changes in the price of a product. Recall that quantity demanded depends on income, tastes and preferences, the prices of related goods, and so on, as well as price. Similarly, quantity supplied depends on the cost of production, and so on, as well as price.