NAME: TOM-GEORGE GRACIOUS IBINABOBOR

MATRIC NUMBER: 17/SMS01/037

DEPARTMENT: ECONOMICS

PROJECT TOPIC: ELASTICITY

COURSE: ADVANCED MATHS (310)

LECTURER IN CHARGE: DR DANLANDI

DATE:

ELASTICITY

INTRODUCTION

When discussing about the concept of elasticity, it deals with something that can be stretched or
changed in response to another variable. The law of elasticity was discovered by Robert Hooke
and English scientist in 1660. Several types of elasticity is used to describe well-known
economic variables. This is very important in the buying and selling of goods or service.
Elasticity can be said to be an economic measure of how sensitive an economic factor is to
another. It is a measure of variables sensitivity to a change in another variable, most commonly
this sensitivity is the change in price relative to changes in other factors. It is the measure of how
much buyers and sellers respond to changes in market conditions, allows us to analyze supply
and demand with greater precision. It means sensitiveness or responsiveness of demand to the
change in price which may be small or great. It can be expressed graphically on a demand and
supply curve. It ensures a way in good the prices of goods are communicated with its consumers.
The law of demand and supply is relevant in elasticity. Elasticity’s can be divided into five
categories which is; perfectly elastic, elastic, perfectly inelastic, inelastic and unitary.

OBJECTIVE OF THE STUDY;

In this study of elasticity, we aim of this paper is to carry out an overview and understanding on
the concept of elasticity. Elasticity is a wide and fundamental science that is applied in different
areas. It can sometimes be very confusing to understand. This study or theory is to provide a
broad and rich understanding about elasticity as a whole. Understanding the definition, the types
of elasticity, its coefficients and the curves, its determinants, how it is calculated, compared and
applied to our everyday life and the economy. It is a very relevant economic tool. Under this
study price is very important due to the fact that change in price affects both demand and supply
for commodities, everything revolves around the price of a good or product. After examining this
study or write up you will be able fully understand and learn what is involved with elasticity, the
various degrees and its relevance and application, with its processes in getting each coefficient
related to elasticity.

Importance of elasticity:

Elasticity is an important economic measure, particularly for the seller of goods and services
due to the fact that it indicates how much of a good or service buyers consume when price
changes.

1) Determination of prices: the knowledge of in which the demand for a product will fall
with the rise in the price and will rice in the fall of its price is determined under elasticity
of demand. This will help us to obtain our price objective.
2) Price determination of factors of production: this is a great importance in determining the
price of various factors of production. If the demand of a factor is inelastic the price will
be high and if the demand of a factor is elastic then the price will be low.
3) Determination of government policies: this helps government in determining its policies.
They use it in the aspect of price control on a product, which is before imposing it, they
will first have to consider the elasticity of demand for that product.
4) Determination of pries of joint products: it is used in the pricing of joint products like
cotton and cotton seeds etc. in order to know the separate cost of product of each product
if not known.
Types of elasticity;

1) Elasticity of demand: This measure the percentage change in quantity demanded for a
percentage change in price. In other words, it is the relative change in demand for a
commodity as a result of a relative change in its price. Demand of a good is determined
by its price, incomes of the people, and prices of related goods etc. quantity demanded of
a good will change as a result of change in any of these determinants of demand.

Factors affecting elasticity of demand:

It’s not always a change in price that leads to a change in demand. For instance a small
change in refrigerator may affect the demand but a large or great change in maggi or
sugar may not all the demand. There are various factors used in determining or affecting
the elasticity of demand;
1) Availability of close substitutes: for a commodity, if there is availability of close
substitute then demand tends to be elastic. When the prices of such commodities
increases, people tend to shift to the close substitutes, due to this demand for that
commodity declines. If the close substitutes are not available then people will have to
the goods eve when the prices are high then demand will be inelastic.
2) The proportion of consumer’s income spent on a commodity: the greater or higher the
proportion of consumer’s income spent on a commodity, the greater will be generally
its elasticity and vice versa. For instance, demand for sugar, salt and other goods is
highly inelastic because they are what are commonly used in the household and an
increase in such goods won’t make any difference, people will continue to buy it.
3) The number of uses of a commodity: the more a commodity is put to use or has
multiple purpose, the greater will be its price elasticity of demand. When the price of
a commodity having several use is high, its demand will be low and it will be used for
only important things but if the price falls then its demand will rise significantly.
Example of such a commodity is milk. A commodity that has not multiple purpose or
alternative use is said to have a less or lower elastic demand.
4) High consumption: good or products that are there demands are not urgent or
immediate tend to have high or great elastic demand due to the fact that when there is
an increase in price of such commodity or product like sweet or biscuit, there
consumption can be postponed but commodities with urgent need have inelastic
demand due to their immediate need or use. Such commodities are drugs etc.
Under elasticity of demand we have various types:
a) Price elasticity of demand: this indicated the relationship between price and quantity
demanded. This measure the responsiveness of demand for a product to the change in
its own price and other factors such as income, price related commodities that
determine demand are held constant. Price elasticity of demand is used by most
businesses in order to collect data to set production targets, impact price changes and
maximize their profit. The formula to calculate this is %change in quantity demanded
divided by %change in price.

This is;

=
● If the coefficient of price elasticity of demand is greater than 1 then it is said
to be elastic (PED>1). In elastic demand, a given change in price causes quite
a large change in quantity demanded.

● If the coefficient of price elasticity of demand is less than 1 then it is said to be

inelastic. (PED<1)

● If the coefficient of price elasticity of demand is equals to zero then it is said

to be perfectly inelastic. (PED=0)

● If the coefficient of price elasticity of demand has no change in price no

matter what the demand is, then it is said to be infinity. PED=∞
 ● If the coefficient of price elasticity of demand is equals to 1 then it is said to
be unitary. This is when a change in price is met with a proportionate change
in demand. (PED=1)
b) Income elasticity of demand: This measure the responsiveness of quantity demanded
for a product to a change in consumer incomes. This can be elastic or inelastic based
on the product or category. This measures how the factor of price and income affects
the demand of a good or produce. The formula for calculating income elasticity of
demand is % change in demand divided by % change in income.
● A positive income elasticity of demand is related with “normal goods”. If
there is an increase in income, more of goods are demanded then the good is
said to be a normal good. That is YED is greater than zero; YED > 0
A normal necessity is income inelastic. It has an income elasticity of between 0 and
+1. These products have low but also positive income elasticity.
Normal luxuries have are income elastic, they have an income elasticity of greater
than +1. It is a high and positive income elastic of elasticity.
● A negative income elasticity of demand is related to ‘‘inferior goods”. If there
is an increase in income, less goods is being consumed then the good is said to
be an inferior good. Inferior goods are sometimes called ‘‘counter-cyclical
products”. That is YED is less than zero; YED < 0.

If the demand for a product changes in exactly the same proportionate that income changes then

it is said to be unitary. YED = = 20% ÷ 20% = 1

When the coefficient is less than one, the YED is inelastic. YED = = 5% ÷ 20%= 0.25

(<1)

When the coefficient is greater than one, the YED is elastic. This means there is a greater

proportionate response in demand of the change in income. YED = = 40% ÷ 20% = 2.0

(>1)

Note: income elasticity is very important in businesses and firms due to the fact that they use it to
determine the response of their consumers with the change in their income.

c) Cross elasticity of demand: this measures the responsiveness in the quantity

demanded of one good when the price for another good changes. This tells us the
relationship between two products. The demand for many good is determined not
only by the price of the product but also by the changes in the prices of related goods.
Calculating cross elasticity helps us to measure the responsiveness and determine if a
good is substitutes, complement or not related to each other.
Formula or expression of this is; %change in quantity demanded in good A divided

by %change in price good B. this is;

It is positive for a substitute good because the demand for one good increases when the price for
the substitute good increases. An example of a substitute good is Pepsi and coke

In a complementary good it is negative. An increase in price of B will lead to a decrease in the

quantity demanded for A. An example of a complementary good is motor vehicle and motor
insurance.

Unrelated products have zero cross elasticity. This is when the goods are not related.
2) ELASTICITY OF SUPPLY: the law of supply states that as prices increases, supply will
also increase and vice versa. This shows the magnitude or measures the ratio or degree of
responsiveness of quantity supplied to a change in own price of the commodity. This is a
quantitative relationship between the supply of a commodity and its prices. This
measures the movement along the supply curve. The most important determinant for
elasticity of supply is price. Supply of a commodity is the schedule of quantities of a
commodity offered for sale at all possible period of time. Quantity supplied is referred to
as the quantity of commodities which the firms are able and willing to sell a commodity
at a particular price. Formula; % change in quantity supplied divided by % change in

price of the commodity. This is;

If the numerical value of the elasticity of supply is less than 1.0 then the supply is said to
be inelastic. This is when the percentage in quantity supplied is less than the percentage
change in price. (<1)
If the numerical value of the elasticity of supply is greater than 1.0, we can then say that
elasticity of supply is elastic. When percentage change in quantity supplied is more than
percentage change in price. (>1)

If the numerical value of the elasticity of supply is equal to 1.0, we can say that supply is
unitary. When percentage change in quantity supplied is equal to percentage change in
price. (=1)

Elasticity of supply is said to be perfectly elastic when price remains constant but
quantity supplied changes. It remain unmoved or changed no matter what that price is.
Elasticity of supply is said to be perfectly inelastic when supply does not change to the
response in demand. The curve is vertical and this is when the price elasticity of supply
changes in the price of good has no effect. This is said to be equal to zero.
Under substitute goods in supply, as the price of one of the other substitute increases the
quantity supplied for the other substitute decreases. A small change in the price of a
substitute good yields a great change in the quantity supplied of the other substitutes.
Under complement goods in supply, as the price of goods increases, the quantity supplied
for the joint product also increases. In the process of the joint product increases, there
will be a smaller impact on the good produced. The change in the price of a good or
product will impact the production of the joint product.

Factors determining the elasticity of supply

There are various or several factors affecting or used to determine the elasticity of supply
and this includes;
1) The length of time; the product of goods and the elasticity supply of a product also
depend on the length of time. The longer the time or the more time that passes for the
production levels and adjustment to the necessary change of the level of output in
response to price, the greater the output response, the greater or larger the elasticity of
supply. Supply is said to be more elastic in the long run than the short run.
2) Possibilities of factor substitution of one product for the others: a change in quantity
supplied of a product along with its price depends on its substitution. When it is easier
to substitute among or between resource and the greater the elasticity of supply.
3) Utilization of Production capacity: when the producers have many of spare capacities,
there is an increase in output without a rise in cost. With response in change in
demand supply is said to be elastic which is during a recession.
4) Changes or conditions regarding the marginal cost of production; if there is an
increase in production of goods, the marginal cost of production would decrease.
Elasticity of supply of a commodity or good depends on the nature of it cost of
 production in which an increase in output can be obtained without bring about the
increase or rise in the cost of production.

TYPES OF ELASTICITY OF SUPPLY:

1) PRICE ELASTICITY OF SUPPLY: this is also known as supply elasticity. This

measures the responsiveness of producers supply to a change in price. Price elasticity
of supply is determined by the number of producers, spare capacity, ease of storage,
time period of training etc. this in turns determines by the change in total revenue.
%change in quantity supplied divided by % change in price.

This is; PES =

2) Income elasticity of supply; this measures the responsiveness of quantity supplied to a

change in consumer incomes. As consumer income increases they tend to buy more
goods, as a result of increase in demand price will also increase and when price
increases supply also increases. This is; percentage change in quantity of goods
supplied divided by the percentage change in the income of the consumers.

That is; =

3) Cross elasticity of supply; this measures the percentage in quantity supplied for good
A divided by the percentage change in the price of good B or a different good. This is

seen through the eyes of producers or suppliers. this is;

Midpoint formula:

This is also known as arc elasticity formula, which is used for correctly calculating price
elasticity of demand. This is a mathematical equation or formula that is commonly used in
calculating elasticity like price elasticity of demand and supply using the average percentage
change in both price and quantity. It measures the halfway point between two data points. It is
used to solve the problem of price or quantity for the base of the change rather than the initial
point. This is used to calculate the coefficients of elasticity of demand or supply and also how
consumer’s habits change as price, quantity supplied and demanded changes. This is basically
solving the percentage changes based on the difference between the beginning and the ending
value. When using midpoint method the results appear more accurate. The aim or advantage of
this formula is to obtain the same elasticity between two price points

The formula:

Percentage change in quantity = (Q2 – Q1) / (Q2 + Q1÷ 2) × 100

Percentage change in price = (P2 – P1) / (P2 + P1 ÷ 2) × 100

ARC ELASTICITY OF DEMAND:

This is distinguished from point elasticity of demand in which it refers to the price elasticity at a
point on the demand curve. Also refers to the price elasticity when changes in price and changes
in quantity demanded are infinitely small.

SOLVED EXAMPLES FOR ELASTICITY OF DEMAND:

1) Price elasticity of demand.

Illustration 1:
The price of calculator reduces from N100 to N 75 and the quantity demanded weekly
by consumers increased from 10,000 to 20,000. What is the price elasticity of
demand?
Solution:

% change in quantity demanded; = (20,000 – 10,000 / 10,000) × 100

= 100%

% change in price; = (75 – 100 / 100) × 100

 = -25%

= 100% ÷ -25 = -4

The coefficient of this is said to be inelastic.

Example 2:
The price of a box of pad-lock was N4000 and Esther was willing and able to 20
boxes. But then suddenly the price of the good increase to 6,000 and Esther quantity
demanded reduced to 16 boxes. What is the price elasticity of demand?
Solution;
% change in quantity demanded = (16 – 20 / 20) × 100
= -20%
% change in price = (6,000 – 4,000 / 4,000) × 100
= 50%
-20% ÷ 50% = -0.4.
The coefficient is said to be inelastic.
2) Income elasticity of demand.
Illustration:
A monthly income of a clerk decreased from N60,000 to N40,000 as a result of
this he was not able to purchase 5000 loaves of bread instead it was N4,000
monthly.
Solution:
% change in quantity demanded = (4,000 – 5,000 / 5,000) × 100
= -20
% change in income = (40,000 – 60,000 / 60,000) × 100
= -33.33
= (-20 ÷ -33.33) = 0.6
This coefficient is said to be inelastic=0.6.
3) Cross elasticity of demand.
 Illustration;
In a situation where the price of close up toothpaste increases from 150 to 300 and
as a result of this rise, the consumers demand for Maclean toothpaste increased
from 200 to 300. What is the cross elasticity of demand?
Solution:

% change in quantity demand x; = (300 – 200 / 200) × 100

= 50%

%change in price y; = (300 – 150 / 150) × 100

= 100%

= 50% ÷ 10% = 0.5

The cross elasticity of close up and Maclean is inelastic because the elasticity is
less than 1.
SOLVED EXAMPLES OF ELASTICITY OF SUPPLY;
4) Price elasticity of supply;
The market price for shirts is N3000 with 50,000 shirts being supplied. The
reduction in demand caused the price of shirts to fall to N2000 and the supply
of shirts also reduced to 30,000.
Solution:

PES= % change in quantity supplied; =

%change in quantity supplied = (3,000 – 5,000 / 5,000) × 100

= -40%
% change in price = (2,000 – 3,000 / 3,000) × 100
= -33.33%
Supply is said to be inelastic because it is less than 1. (<1)

= (-40% ÷ -33.33) = 1.2

 Supply is said to be elastic, this is because it is greater than 1. (>1)
5) Income elasticity of supply;
For instance the supply of cigarette is 4,000 and the income of a consumer is 30,000 per
month. There was a decrease in the consumer’s income to 25,000 but the supply of cigarette
increase to 5,000. What is the income elasticity of supply?
Solution:
%change in quantity supplied = (5,000 – 4000 / 4,000) × 100
= 25%
%change in income = (25,000 – 30,000 / 30,000) × 100
= -16.67%
= 25% ÷ -16.67% = -1.5
6) Cross elasticity of supply;

APPLICATION OF ELASTICITY OF DEMAND AND SUPPLY:

This has an important application in the formation of proper economic policies to be adopted by
the government and also to explain several economic events.

✔ The application of elasticity of demand and supply in agriculture; in a situation whereby

good news that a good weather which will substantially leas to an increase in agricultural
production turns to bad news for farmers. As a result of this good weather which may
cause a large fall in prices of agricultural products that the sales revenue of the farmers
falls. If there is an improvement in agricultural technologies this will lead to the
substantial increase in agricultural output instead of raising famers income this may bring
a reduction in it and this phenomenon is due to the inelastic nature of demand for
agricultural products
✔ Application in OPEC (Organization of petroleum exporting countries): in the year 1990s
OPEC failed to maintain a high price which can be explained by the elasticity of demand
and supply. Demand and supply of oil are inelastic in the short run. The rise in oil price
by reducing supply bought about a substantial rise in price. Due to this inelastic demand
in the short run, the quantity demanded and sold fell only by a small amount which
brought about an increase in sales revenue and incomes of members of OPEC in the short
 run. Supply and demand for oil is inelastic because the amount of oil in reserves and
capacity for extracting oil cannot be adjusted quickly and buying habits of consumers of
oil also could not be adjusted quickly to changes in price of oil. With elasticity of demand
and supply this helps to explain the rise in revenue or income of OPEC when they
succeeded in raising price of oil by cutting down production and supply of oil in the
market.
✔ Application in the fight against drugs: harmful drugs do not only impair the health of
individuals who consumes them but also ruin the families as drug addicts spend lots of
income on drugs. There are two strategies used to discourage and prevent the use of these
illegal drugs. Firstly is to reduce the supply of drugs and raising the prices of drugs.
Various countries have prohibited the flow of drugs into their countries and put heavy
penalties on the smuggling of drugs and due the cost of selling drugs increased which
reduced the supply of these drugs. This will likely lead to drug users spending more
income because demand is inelastic. However the higher the price of drugs the more
profitable to sell or produce. The second is to reduce the demand by giving education to
the people on the effect o these drugs if this is successful, it will reduce the demand for
the drugs.

REFERENCE:

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