Concept of Elasticity of Demand
Chapter 4: Elasticity of Demand — Understanding the Magnitude of Change
The Gap That Elasticity Fills
The Problem: Direction Without Magnitude
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The Law of Demand gives us the direction of change: price falls → quantity demanded rises; price rises → quantity demanded falls.
But it does NOT specify the magnitude, amount, or extent. It does not tell us “how much” quantity demanded changes when price changes.
Example: Suppose price of a computer falls by 20%. Law of Demand says: quantity demanded will increase. But by how much? The Law alone cannot answer this.
Definition of Elasticity of Demand
ELASTICITY OF DEMAND — GENERAL FORMULA
$$\text{Elasticity of Demand} = \frac{\text{Percentage Change in Demand for }X}{\text{Percentage Change in a factor affecting the Demand for }X}$$
Think of it this way: If a 20% drop in the price of a laptop makes 40% more people buy it, elasticity is high. If a 20% drop in the price of salt makes only 2% more people buy it, elasticity is low. The same price change affects different goods very differently.
Three Dimensions of Elasticity of Demand
There are three quantifiable determinants of demand — price of the given commodity, price of related goods, and income of the consumer. These give us three dimensions of elasticity.