The elasticity is the extent to which buyers and sellers respond to a change in market conditions…
Price elasticity of demand
PED measures the responsiveness in demand to a change in price, it is measured with the following equation:
% change in quantity demanded/%change in price
For example if Sony playstation raised the price of their Sony ps3 console by 5% and as a result of this demand for the games console fell by 10% it means that the price elasticity is:
10% (change in quantity demanded)/5% (change in price) = -2
This suggests that demand for the games console is responsive to a change in price, as it is above 2 it suggests that this product is price elastic:
Price elastic is when the percentage change in quantity demanded is sensitive to a percentage change in price
Price Inelastic therefore is when the percentage change in quantity demanded is NOT sensitive to a percentage change in price.
PED is greater than 1 = Price Elastic
PED is less than 1 = Price inelastic
PED 1 = where a change in price causes a proportional change in demand
So now we have looked at PED we need to ask the obvious questions, what factors affect demand for products?
- The availability and closeness of substitutes: This is an alternative to a particular product. The more close substitutes available for a product means that it is probably price elastic. So if we go back to the playstation example: It had an elasticity of 2 which shows that it is PED elastic, this implies that there are probably substitutes that are fairly similar to the product such as the XBOX 360
- The relative response to a product with respect to income: If the product takes up a small part of income, such as a packet of gum for example, then an increase in price would not really lead to such a large decrease in demand, in these instances, demand is thought to be price inelastic. However if a the product takes up a larger proportion of income, for example a holiday then demand would be more sensitive, making it more PED elastic. Some products are habit forming, such as Cigarettes. Therefore a change in price would not effect the demand for it by that much, no matter how much a proportion it may take up on the incomes, even for lower income families.
- Time: In the short term, changing buying habits may be hard, so during this period demand maybe price inelastic, however over time demand becomes more elastic as more substitutes become available. Consumption of a product can even be delayed, making it more price elastic, this is even more so as these products do not tend to be necessities such as home improvements.
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