Essay, Pages 4 (829 words)
Elasticity means responsiveness to particular event or happenings in economic spheres. Elasticity generally implies the relations between a given change in the price in income or in the prices of substitutes or complimentary goods and consequent changes in demand and supply. Therefore, the elasticity can be of three types.
- price elasticity of demand (or supply),
- Income elasticity of demand, and
- Cross elasticity of demand.
Price elasticity, of course, is the most important among them and we shall deal with it in great detail.
Elasticity of demand Professor Marshall used the concept of elasticity of demand only with reference to price changes. His concept of elasticity may therefore be referred to as price elasticity. It refers to a particular behavior of demand curve. It tells us something about how the quantity demanded responds to a change in price.
Elasticity of Supply
Elasticity of Supply Elasticity of Supply shows how much supply would change in response to a given change in price or any other variable such as the price of related goods.
The formula for the elasticity of supply is similar to that for the elasticity of demand. Elasticity of supply is equal to the percentage change in quantity supplied divided by the percentage change in price.
Revenue and Elasticity of demand
Elasticity of demand affects revenue of the suppliers and therefore if at the lower price change where demand is relatively inelastic an increase in the price results in an increase in revenue whereas at the higher price where demand is elastic the rise in price reduces the revenue of the sellers.
It may, therefore, be stated that a rise in price will cause revenue to increase when demand is relatively inelastic, to decrease when demand is relatively is elastic whereas a fall in price will cause revenue to decrease when the demand is relatively elastic.
Any change in price leading to unitary elasticity of demand will have no effect on revenue. The effect of elasticity of demand on the revenue is of great significance for the firm which desires to changes the price of its product or to the Government and specially the Ministry of Finance to take a decision as to whether different commodities should be taxed or whether these taxes can be increased or reduced in the context of total revenue to be collected and the potentiality of demand.
As the rate of change in demand in response to changes in price varies from individual to individual and from commodity to commodity, there can be five different situations of price elasticity of demand, as under:
- Perfectly Elastic Demand:
When a small rise in price after a certain level causes the quantity demanded to fall to zero, and a slight fall in price causes an infinite increase in quantity demanded.
- Perfectly Inelastic Demand:
When the demand for a commodity shows no response at all to a change in price, that is to say, irrespective of the change in price, the demand remains the same.
The other types of elasticity of demand are
- Relatively elastic demand,
- Relatively inelastic demand and
- Unitary elastic demand.
Elasticity of any commodity is determined by these factors.
- The nature of commodity or the degree of necessity.
- The variety of uses.
- The number and closeness of substitutes.
- Durability of the commodity.
- The proportion of the income spent on the commodity.
- Habits and conventions of the customers.
- Level of range of prices.
- Period of time
- Complementarities of goods.
- Possibilities of postponements.
- Income Elasticity of Demand:
The income elasticity of demand is percentage increase in a person’s demand for a commodity due to relative increase in his income. Responsiveness of demand for a particular commodity to changes in income is known as the income elasticity of demand and is measured by means of the following formula: Percentage change in quantity demanded of commodity X Percentage change in Incomes
If the income of the consumer is increased it is possible, specially in case of necessary commodities up to a particular limit of incomes, demand will increase. Above particular incomes elasticity depend upon social and cultural aspects of the society and even though income is increased, demand may not increase. Cross Elasticity of Demand: Under normal market conditions there may be different substitutes available in the market being sold at different prices. These substitutes influence the purchase of goods by the customers in the context of competitors commodities, their prices and utilities.
Cross elasticity of demand
The relationship of one commodity to another commodity can be measured by cross elasticity of demand which is responsiveness of demand for one commodity to changes in price of another commodity. Cross elasticity of demand Is measured by the following formula: Percentage change in quantity demanded of commodity X Percentage change in price of commodity Y The concept of cross elasticity of demand is useful in dealing with inter-commodity relations; because in practical problems of demand analysis commodities usually stand in more or less definite groups of substitutes and complements.