Elasticity of demand
About this video
Elasticity of demand measures how much quantity demanded responds to a change in price. The video calculates the coefficient as percent change in quantity divided by percent change in price (in absolute terms): a cereal price cut from $4 to $3 gives 5%/25% = 0.2 (inelastic), while a rise from $4 to $5 gives 50%/25% = 2 (elastic). Elasticity can differ for the same product at different price points.
You'll be able to
- calculate a percent change in price and in quantity demanded.
- calculate the coefficient of elasticity of demand.
- decide whether demand is elastic (greater than 1) or inelastic (less than 1).
- explain why elasticity can change at different prices for the same product.
Key words
- Elasticity of demand
- How much the quantity demanded stretches, or responds, when the price changes.
- Percent change
- The change divided by the starting value, written as a percent.
- Coefficient of elasticity
- The number you get from percent change in quantity divided by percent change in price.
- Inelastic demand
- Coefficient less than 1: quantity changes by a smaller percent than price.
- Elastic demand
- Coefficient greater than 1: quantity changes by a bigger percent than price.
- Quantity demanded
- How much of a product people want to buy at a given price.
Transcript
- [Instructor] Let's talk a little bit about elasticity of demand. So in everyday language, if we talk about something being elastic, you can imagine something like spandex or a rubber band, something that stretches, and this really is about how much does demand stretch, how much does it respond to changes in price?
So let's look at an example here. Suppose the price of a cereal decreases from $4 to $3. So let me underline that. So price decreases from $4 to $3. So we have price here, it goes from $4 to $3. And so that means that the percent change in price, Greek letter delta, this triangle, shorthand for change in is going to be, we decreased $1.
So we're minus $1 over what we started at, which is $4. So we got a... 1/4 is we got a negative 25% change in price. Now, let's think about what's happening with the quantity when that happens. Well, we go from 2,000 boxes to 2,100 boxes, and it's always good to see whether that makes sense.
If the price goes down, it does indeed make sense that the quantity demanded will increase if we're thinking about demand, remember, quantity demanded. If we're talking about quantity of supply, that might be a different picture. So if we think about quantity demanded, demanded, this is going from 2,000 to 2,100, which is equal to a, and if we said the percent change, lemme do it this way.
So the percent change in quantity is equal to the changes, plus 100 over a base of 2,000. So that's 1/20 or that is equal to 5%. And so when we wanna calculate the elasticity of demand, what we think about is the percent change in quantity. So percent change in quantity over the percent change in price, over the percent change in price, which is going to be equal to 5% over 25%.
And we just think about it in terms of absolute terms. So this is going to be here, 5/25, that's 1/5. So we could say that this is going to be equal to 0.2, which is the same thing as, lemme use a different color, 0.2. And this number right over here is known as the coefficient of elasticity, in this case, elasticity of demand.
Now, how do we interpret this? Well, if this coefficient is less than one, as we see the case here, we say that the demand is relatively inelastic. That means it's not changing. It's percent change of quantity is not as much as a percent change in price. If, on the other hand, this thing right over here was greater than one, that means that the elasticity of demand is elastic or that we have elastic demand.
That means that demand responds a lot. It stretches a lot in response to price. Now, it's important to note that the elasticity of demand, or actually supply, is not always constant for a given product. In fact, it can change at different price points. And that's why you actually might have a demand curve that moves in interesting ways as opposed to something that always has a constant elasticity.
For example, let's say, and you could imagine this, let's say if you took the price, if the price were to increase, if the price were to increase from $4 to, I don't know, let's call it if it were to go from $4 to $5. So that is a plus 20% change in price. We could imagine a world, maybe there's a lot of competitors who are all a little bit above $4.
So all of a sudden, no one wants this cereal anymore. And so the quantity demanded goes from 2,000. It goes down to, let's say it goes down by 50%. Let's say it goes down to 1,000. So this is minus 50%. Oh, and sorry, if you're going from $4 to $5, that's 25%, not 20%.
Make sure I get the math. That's 25. And so what is going to be our elasticity of demand in this situation? It's going to be percent change in quantity, which is, let me do that in a new color or in that same color, it's gonna be the 50% over the 25%, over the 25%, which is equal to two.
So here's a situation where we are elastic and it's the same product. It's just that when it got too expensive, all of a sudden, there was a huge response to quantity demanded. But if it gets a little bit cheaper, there is a response. People want more of it, but not so huge of a response.
So it can change even for the same product at different price points.
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