The Basics
- Simple definition: A measure of how much one economic variable responds to changes in another.
- Core idea: Sensitivity – how strongly do buyers or sellers react to price changes, income changes, or other factors?
- Think of it as: The “stretchiness” of economic relationships.
What It Actually Means
Elasticity = percentage change in dependent variable ÷ percentage change in independent variable. Common elasticities: price elasticity of demand (how quantity demanded responds to price), income elasticity (response to income changes), cross elasticity (response to other goods’ prices), price elasticity of supply (how quantity supplied responds to price). Elastic (>1) means responsive; inelastic (<1) means unresponsive. Elasticity determines tax incidence, pricing strategy, and policy effects.
Example
If the cigarette price rises 10% and the quantity demanded falls 2%, demand is inelastic (0.2). Government taxing cigarettes raises revenue and reduces consumption a little. If restaurant meals price rises 10% and demand falls 15%, demand is elastic (1.5) – price hikes lose customers.
Why It Matters
Businesses use elasticity for pricing. Governments use it for tax policy (tax inelastic goods). Understanding elasticity helps predict market responses to changes.
See also
Price Elasticity of Demand • Income Elasticity • Cross Elasticity • Price Elasticity of Supply • Tax Incidence
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