Elasticity of Demand and Supply

Elasticity of Demand and Supply

Elasticity measures how much quantity demanded or supplied responds to a change in price, income, or other factors. It helps policymakers, businesses, and economists understand the sensitivity of markets to external changes.

Elasticity of Demand

Price Elasticity of Demand (PED) measures how much demand changes when price changes.

Formula

PED=%Change in Quantity Demanded%Change in PricePED = \frac{\% \text{Change in Quantity Demanded}}{\% \text{Change in Price}}

Interpretation

• Elastic Demand (PED > 1) – Quantity demanded changes significantly with a small price change.
• Inelastic Demand (PED < 1) – Quantity demanded changes very little with a price change.
• Unitary Elastic Demand (PED = 1) – Proportionate change in price and quantity.

Example

Luxury cars have elastic demand — a small price cut can increase sales drastically.
Salt has inelastic demand — price changes do not significantly alter demand.

Factors Affecting Price Elasticity of Demand

• Availability of substitutes – More substitutes, higher elasticity.
• Nature of the good – Necessities (inelastic) vs. Luxuries (elastic).
• Proportion of income spent – Costlier items tend to be more elastic.
• Time period – Demand becomes more elastic over longer periods.

Income Elasticity of Demand (YED)

It measures how much demand changes when income changes.

Example

Demand for organic food may rise with higher income (positive YED), while demand for low-quality rice may fall (negative YED).

Elasticity of Supply

Price Elasticity of Supply (PES) measures how much supply changes when price changes.

Formula

PES= %Change in Quantity Supplied / %Change in Price ​

Interpretation

• Elastic Supply (PES > 1) – Producers can increase supply significantly if prices rise.
• Inelastic Supply (PES < 1) – Producers cannot quickly adjust supply.
• Unitary Elastic Supply (PES = 1) – Proportionate change in price and supply.

Example

• Handicrafts have inelastic supply (hard to increase production quickly).
• T-shirts in a factory have elastic supply (production can be increased easily).

Factors Affecting Price Elasticity of Supply

• Production flexibility – Easy-to-produce goods have higher elasticity.
• Availability of inputs – Readily available inputs increase elasticity.
• Time period – Supply becomes more elastic in the long run.

Statement-based MCQs

MCQ 1
Consider the following statements:

1. If the demand for a good is inelastic, a rise in price will lead to a proportionally smaller decrease in quantity demanded.
2. Necessities generally have elastic demand, while luxury goods have inelastic demand.
3. A good with many close substitutes will likely have more elastic demand.

Which of the statements given above is/are correct?
a) 1 only
b) 1 and 3 only
c) 2 and 3 only
d) 1, 2 and 3

MCQ 2
Which of the following is likely to have the highest price elasticity of demand?
a) Electricity
b) Salt
c) Ice Cream
d) Life-saving medicines

MCQ 3
Consider the following factors:

1. Time period for production
2. Availability of raw materials
3. Nature of the product (perishable or durable)

Which of the above factors influence price elasticity of supply?
a) 1 only
b) 1 and 2 only
c) 1, 2 and 3
d) 2 and 3 only

MCQ 4
If a 10% increase in price leads to a 20% fall in quantity demanded, the price elasticity of demand would be:
a) 0.5
b) 1
c) 2
d) 0.2

MCQ 5
Which of the following statements is correct?
a) When demand is perfectly inelastic, price changes do not affect quantity demanded.
b) When supply is perfectly elastic, any price change leads to zero supply.
c) Necessities typically have high income elasticity of demand.
d) All luxury goods have perfectly elastic demand.