Elastic

Definition

Elasticity is a measure of the responsiveness of one economic variable to changes in another. It describes how sensitive the quantity demanded or supplied of a good or service is to changes in its price or other factors. Elastic refers to the degree of this responsiveness, with a highly elastic quantity being very sensitive to changes.

5 Must Know Facts For Your Next Test

1. Elastic demand or supply means that a small change in price leads to a large change in quantity demanded or supplied.
2. Elastic goods tend to have close substitutes, while inelastic goods have few or no substitutes.
3. The elasticity of a good or service depends on factors like the availability of substitutes, the percentage of income spent on the good, and the time period considered.
4. Elastic goods are typically considered luxury items, while inelastic goods are often necessities.
5. Understanding elasticity is crucial for businesses to set prices, predict consumer behavior, and maximize revenue.

Review Questions

• Explain the concept of elastic demand and how it differs from inelastic demand.
  • Elastic demand refers to a situation where the quantity demanded of a good or service is highly responsive to changes in its price. A small change in price leads to a large change in quantity demanded. In contrast, inelastic demand indicates that the quantity demanded changes little in response to price changes. Inelastic goods tend to be necessities with few substitutes, while elastic goods are often luxuries with close substitutes available. Understanding the elasticity of demand is crucial for businesses to set optimal prices and predict consumer behavior.
• Describe the factors that influence the elasticity of demand for a good or service.
  • The elasticity of demand for a good or service depends on several key factors. The availability of substitutes is a major determinant, as goods with close substitutes tend to have more elastic demand. The percentage of income spent on the good is also important, with goods accounting for a larger share of a consumer's budget generally having more elastic demand. The time period considered is another factor, as demand tends to be more elastic in the long run as consumers have more time to adjust their purchasing behavior. Additionally, the necessity of the good plays a role, with essential items typically having more inelastic demand.
• Analyze how a business can leverage an understanding of elasticity to make strategic pricing decisions.
  • By understanding the elasticity of demand for their products or services, businesses can make more informed and strategic pricing decisions. For goods with elastic demand, a small decrease in price can lead to a large increase in quantity demanded, potentially increasing total revenue. Conversely, for inelastic goods, businesses can raise prices without experiencing a significant drop in quantity demanded, allowing them to maximize revenue. Businesses can also use dynamic pricing strategies, adjusting prices based on factors like time of day or season, to capitalize on varying elasticities of demand. An in-depth knowledge of elasticity enables businesses to set prices that optimize profitability and align with consumer preferences.

Related terms

Inelastic: Inelastic refers to a low degree of responsiveness, where the quantity demanded or supplied changes little in response to changes in price or other factors.

Unit Elastic: Unit elastic refers to a situation where the percentage change in quantity is equal to the percentage change in the variable, such as price, that is causing the change.

Elasticity of Demand: Elasticity of demand measures how responsive the quantity demanded of a good or service is to changes in its price, with a more elastic demand indicating greater responsiveness.