Elasticity (economics): Difference between revisions
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In economics, elasticity is defined as the proportional change of a dependent variable divided by the proportional change of a related independent variable at a given value of the independent variable. Elasticity is a factor in the operation of the law of [[supply and demand]]. The concept, was introduced by Alfred Marshall and is explained with great clarity in his ''Principles of Economics'' <ref>[http://www.econlib.org/library/Marshall/marP.html Alfred Marshall ''Principles of Economics'' Chapter IV Macmillan 1964]</ref> | |||
==Price elasticity of demand== | ==Price elasticity of demand== | ||
The best-known application of the concept of elasticity is to the effect of a price change on the demand for a marketed product. Supposing that Q is the quantity of a product that would be bought by by consumers when its price is P, and that - to take an artificially simple linear case - Q is related to P by the equation: | |||
:::<math> Q = -AP + B</math> | |||
- then the elasticity of demand, ''E'', for the product is given by: | |||
:::<math>E = (dQ/Q)/(dP/P)</math>, or | |||
:::<math>E = (dQ/dP)(P/Q)</math>, | |||
- where dQ and dP are small changes in the values of Q and P. | |||
<math> | It can be shown that, for the simplified linear example,: | ||
:::<math>dQ/dP = -A</math> so that <math> E = -A(P/Q)</math> | |||
- and E will vary in value with different values of P and Q because as P increases the fraction P/Q will increase. | |||
The terms "''elastic''" and "''inelastic''" are applied to commodities for which E is respectively ''numerically'' (ie ignoring the sign) greater or less than 1. If the elasticity of demand for a product is greater than 1, a price increase will lead to a fall in the amount PQ spent on the product, because demand Q will fall more than the rise in P. Conversely, if its elasticity is less than 1, a price rise will result in a rise in the amount spent on it. | |||
==References== | ==References== | ||
<references/> | <references/> | ||
Revision as of 12:05, 5 January 2008
In economics, elasticity is defined as the proportional change of a dependent variable divided by the proportional change of a related independent variable at a given value of the independent variable. Elasticity is a factor in the operation of the law of supply and demand. The concept, was introduced by Alfred Marshall and is explained with great clarity in his Principles of Economics [1]
Price elasticity of demand
The best-known application of the concept of elasticity is to the effect of a price change on the demand for a marketed product. Supposing that Q is the quantity of a product that would be bought by by consumers when its price is P, and that - to take an artificially simple linear case - Q is related to P by the equation:
- then the elasticity of demand, E, for the product is given by:
- , or
- ,
- where dQ and dP are small changes in the values of Q and P.
It can be shown that, for the simplified linear example,:
- so that
- and E will vary in value with different values of P and Q because as P increases the fraction P/Q will increase.
The terms "elastic" and "inelastic" are applied to commodities for which E is respectively numerically (ie ignoring the sign) greater or less than 1. If the elasticity of demand for a product is greater than 1, a price increase will lead to a fall in the amount PQ spent on the product, because demand Q will fall more than the rise in P. Conversely, if its elasticity is less than 1, a price rise will result in a rise in the amount spent on it.