Elasticity in Economics

Elasticity in Economics: Summary

• Elasticity measures the responsiveness of one economic variable to a change in another.
• There are two types of elasticity for demand and supply: inelastic and elastic.
• Elasticity is an important concept in various economic theories, such as the incidence of indirect taxation, marginal concepts relating to the theory of the firm, and distribution of wealth.
• Elasticity is present in several main indicators, including price elasticity of demand, price elasticity of supply, income elasticity of demand, elasticity of substitution between factors of production, cross-price elasticity of demand, and elasticity of intertemporal substitution.
• Elasticity is a unitless ratio, independent of the type of quantities being varied. An elastic variable responds more than proportionally to changes in other variables.
• An inelastic variable changes less than proportionally in response to changes in other variables.
• The concept of price elasticity was first cited in an informal form in the book Principles of Economics published by Alfred Marshall in 1890.
• Price Elasticity of Demand measures sensitivity of demand to price. An inelastic good will respond less than proportionally to a change in price.
• Price Elasticity of Supply measures how the amount of a good that a supplier wishes to supply changes in response to a change in price.
• Income Elasticity of Demand is a measure used to show the responsiveness of the quantity demanded of a good or service to a change in the consumer income.
• Cross-Price Elasticity of Demand measures the sensitivity between the quantity demanded in one good when there is a change in the price of another good.
• Factors affecting elasticity include availability of substitutes, necessity or luxury of the product, time elapsed since price changed, and percentage income spent on the good.Understanding Price Elasticity: Factors Affecting Elasticity of Demand and Supply

Price Elasticity of Demand:

• Elasticity of demand is the degree to which the quantity demanded of a good or service changes in response to a change in its price.
• A product is elastic if a change in price leads to a significant change in the quantity demanded, whereas a product is inelastic if a change in price has little impact on the quantity demanded.
• There are different factors that affect the price elasticity of demand, including the availability of substitutes, the necessity of the product, and the proportion of income spent on the product.

Price Elasticity of Supply:

• Elasticity of supply is the degree to which the quantity supplied of a good or service changes in response to a change in its price.
• Factors affecting price elasticity of supply include the availability of resources, the number of competitors in the industry, and the time horizon.
• Long-term supply is typically more elastic than short-term supply because producers need time to adjust their ability to adapt to changes in demand.

Applications:

• An understanding of elasticity is fundamental in understanding the response of supply and demand in a market.
• Elasticity is relevant in the calculation of the fluctuation of commodity prices and its relation to income for enterprises and governments.
• Elasticity can assist in analyzing the need for government intervention and the implementation of taxation, such as setting price ceilings and floors for essential goods.
• Luxury goods taxes have certain advantages over necessities taxes, as they are usually paid from income and, therefore, will not reduce the country's production capital.

Variants:

• In some cases, the discrete (non-infinitesimal) arc elasticity is used instead of the percentage change.
• In other cases, such as modified duration in bond trading, a percentage change in output is divided by a unit (not percentage) change in input, yielding a semi-elasticity instead.