Economics Elasticity

Businesses know that they face demand curves, but rarely do they know

what these curves look like. Yet sometimes a business needs to have a

good idea of what part of a demand curve looks like if it is to make

good decisions. If Rick's Pizza raises its prices by ten percent, what

will happen to its revenues? The answer depends on how consumers will

respond. Will they cut back purchases a little or a lot? This question

of how responsive consumers are to price changes involves the economic

concept of elasticity.

Elasticity is a measure of responsiveness. Two words are important

here. The word "measure" means that elasticity results are reported as

numbers, or elasticity coefficients. The word "responsiveness" means

that there is a stimulus-reaction involved. Some change or stimulus

causes people to react by changing their behavior, and elasticity

measures the extent to which people react.

The most common elasticity measurement is that of price elasticity of

demand. It measures how much consumers respond in their buying

decisions to a change in price. The basic formula used to determine

price elasticity is:

If price increases by 10%, and consumers respond by decreasing

purchases by 20%, the equation computes the elasticity coefficient as

-2. The result is negative because an increase in price (a positive

number) leads to a decrease in purchases (a negative number). Because

the law of demand says it will always be negative, many economists

ignore the negative sign, as we will in the following discussion.

An elasticity coefficient of 2 shows that consumers respond a great

deal to a change in price. If, on the other hand, a 10% change in

price causes only a 5% change in sales, the elasticity coefficient

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supply curve. For example, if on December 1 the price of apples

doubles, there will be minimal effect on the number of apples

available to the consumer. Producers cannot make adjustments until a

new growing season begins. In the short run, producers can use their

facilities more or less intensively. In the apple example, they can

vary the amounts of pesticides, and the amount of labor they use to

pick the apples. Finally, in the long run not only can producers

change their facilities, but they can leave the industry or new

producers may enter it. In our apple example, new orchards can be

planted or old ones destroyed.

Source Consulted

Vitali Bourchtein "The Principles of Economics Textbook: An Analysis of Its Past, Present & Future" May 2011 Web 15 May 2015.

http://www.stern.nyu.edu/sites/default/files/assets/documents/con_042988.pdf