ELASTICITY

DEMAND

In economics, elasticity is the ratio of the

percent change in one variable to the percent
change in another variable. It is a tool for
measuring the responsiveness of a function to
changes in parameters in a unit-less way.
Frequently used elasticities include price
elasticity of demand, price elasticity of supply,
income elasticity of demand, elasticity of
substitution between factors of production and
elasticity of intertemporal substitution.
Elasticity is one of the most important concepts
in economic theory. It is useful in
understanding the incidence of indirect
taxation, marginal concepts as they relate to
the theory of the firm, and distribution of
wealth and different types of goods as they
relate to the theory of consumer choice.
Elasticity is also crucially important in any
discussion of welfare distribution, in particular
consumer surplus, producer surplus, or
government surplus.
In empirical work an elasticity is the estimated
coefficient in a linear regression equation
where both the dependent variable and the
independent variable are in natural logs.
Elasticity is a popular tool among empiricists
because it is independent of units and thus
simplifies data analysis.
Generally, an "elastic" variable is one which
responds "a lot" to small changes in other
parameters. Similarly, an "inelastic" variable
describes one which does not change much in
response to changes in other parameters. A
major study of the price elasticity of supply and
the price elasticity of demand for US products
was undertaken by Hendrik S. Houthakker and
Lester D. Taylor.

Contents:
• 1 Mathematical definition
• 2 Specific elasticities
o 2.1 Elasticities of demand
o 2.2 Elasticities of supply3 Applications

Mathematical definition
The definition of elasticity is based on the mathematical
notion of point elasticity.

In general, the "x-elasticity of y" is:

The "x-elasticity of y" is also called "the elasticity of y with
respect to x".

Specific elasticities
Elasticities of demand
• Price elasticity of demanD

Price elasticity of demand measures the percentage change

in quantity demanded caused by a percent change in price.
As such, it measures the extent of movement along the
demand curve. This elasticity is almost always negative and
is usually expressed in terms of absolute value. If the
elasticity is greater than 1 demand is said to be elastic;
between zero and one demand is inelastic and if it equals
one, demand is unit-elastic.

• Income elasticity of Demand

Income elasticity of demand measures the percentage
change in demand caused by a percent change in income. A
change in income causes the demand curve to shift
reflecting the change in demand. YED is a measurement of
how far the curve shifts horizontally along the X-axis. Income
elasticity can be used to classify goods as normal or inferior.
With a normal good demand varies in the same direction as
income. With an inferior good demand and income move in
opposite directions.

• Cross price elasticity of demand

Cross price elasticity of demand measures the

percentage change in demand for a particular good
caused by a percent change in the price of another
good. Goods can be complements, substitutes or
unrelated. A change in the price of a related good
causes the demand curve to shift reflecting a change
in demand for the original good. Cross price elasticity
is a measurement of how far, and in which direction,
the curve shifts horizontally along the x-axis. A
positive cross-price elasticity means that the goods
are substitute goods.

Cross elasticity of demand between

firms
Cross elasticity of demand for firms, sometimes
referred to as conjectural variation, is a measure of
the interdependence between firms. It captures the
extent to which one firm reacts to changes in
strategic variables (price, quantity, location,
advertising, etc.) made by other firms.