Elasticity is the level of reactions of one economic variable, while another changes. In other words, elasticity is the dependence of supply and demand for a product on various price and non-price factors.
Basic moments
The dependence of indicators such as supply and demand lies in many factors. The term elasticity is also associated with it.
In the theory of economics, the concepts of elasticity of supply and demand are distinguished.
The elasticity of demand for a product is the percentage of changes in prices or income with changes in demand. It exists to control how consumers respond to higher and lower prices.
In economic theory, there are several types of price elasticity of demand, based on indicators of coefficients:
- Elastic demand (more than one). It includes goods belonging to the luxury category.
- Inelastic demand (less than one). This is a category of essentials.
- Demand with unit elasticity (equal to one). This includes products that the consumer selects individually.
- Absolutely inelastic demand (zero). Products such as bread, salt, medicines.
- Absolutely elastic demand (equal to infinity). Exists only in perfect markets.
The elasticity of the price offer is the percentage of price changes with a change in the level of supply. The following factors influence this indicator:
- The presence / absence of a production reserve (if there are reserves, the proposal is elastic).
- The ability to preserve stocks of finished products (if so, the proposal is flexible).
The main types:
- Flexible offer. Even with a one percent increase in prices, the supply of goods rises significantly.
- Offer with unit elasticity. With a one percent increase in prices, a similar increase in supply in the market occurs.
- Inelastic proposal. When prices increase, nothing happens with the offer.
- Elasticity "in an instant." The time period is so short that manufacturers and sellers do not have time to respond to price changes.
High elasticity in the long term. The proposal is the most flexible, because manufacturers have enough time to create new production facilities or speed up the production process.
Having analyzed supply and demand, it is possible to identify the main directions in the changes in these concepts associated with price or non-price factors. Thanks to this, the law of supply and demand was formulated. Often, researchers do not have enough evidence that price increases entail a decrease in demand for products. They need accurate quantification because volume reduction can be fast, slow, weak or strong.
Market sensitivity with respect to pricing, income, or other market indicators is reflected in elasticity indicators, which are characterized by a special coefficient.
History reference
The concept of elasticity in the theory of economics appeared late, but immediately became one of the fundamental ones. The general term came to economics from the natural sciences. Robert Boyle in the seventeenth century, when studying the properties of gas, first used the term "elasticity". But the economic definition was given by Alfred Marshall only in 1885. The English scientist did not invent this concept. Using the achievements of A. Smith and D. Ricardo, he gave the first clear definition of the coefficient of price elasticity of demand.
To date, there is not a single section of the economy that does not use the term “elasticity”. Here is the analysis of demand and supply, the theory of firms and economic cycles, international economic relations, economic expectations and others. Elasticity is a term without which the existence of a modern economy is impossible.
Elasticity classification
Types of this economic term are called:
- price elasticity of demand;
- price elasticity;
- income elasticity of demand;
- cross price elasticity of demand;
- point elasticity of demand;
- arc elasticity of demand;
- elasticity of a straight line;
- elasticity of technical substitution;
- the elasticity of price-wage ratios.
Point elasticity is a constant value along supply and demand lines. It is measured at one point, hence the name of the term. Point elasticity is an objective indicator of the sensitivity of supply and demand to changes in prices or income.
Arc elasticity is an approximate level of reaction. It does not provide accurate data (as opposed to point data). Arc elasticity of demand is an average indicator of supply and demand for changes in prices or incomes of the population. It is needed in order to quickly assess the overall situation in the market.
Coefficient of elasticity
The value of the income elasticity coefficient is responsible for the degree of quantitative changes of one factor (the volume of demand or supply), while the other (price, income or costs) changes by one percent.
The elasticity of supply and demand is calculated as the ratio of the change in the level of demand (supply) to the change in any determinant in percent. A determinant is a factor that affects supply and demand. The value of the coefficient of elasticity depends on the determinants.
A variety of goods differ from each other in the degree of change in the level of demand under the influence of certain factors. The degree to which demand for these products is responsive is quantifiable by a factor. Changes in the elasticity of demand affect the overall market situation.
This term means the process of adapting the market system to a change in the main factors. These include the price of the product, the income of the buyer and the price of the goods of the analogue.
Counting methods
The income elasticity coefficient is calculated in several ways. When calculating, there are two main methods:
- Arc elasticity or arc elasticity. It is used to measure elasticity between points on supply and demand curves. It implies knowledge of the initial and next level of price and volume.
- Point elasticity or point elasticity. It is used when there is data on the functions of demand (supply) and initial price levels, as well as the magnitude of demand (supply). This formula applies to a slight change in price or any other parameter.
Basic properties
Based on the definition, functions and formulas, the following elasticity properties follow:
- elasticity is an immeasurable quantity depending on the units that measure volume, price, or other parameters;
- the elasticity of reciprocal functions are reciprocal quantities.
There are three main options for the dependence of price fluctuations in the market on demand volumes:
- Inelastic demand. It occurs when the quantity of purchased goods rises by less than one percent, with each percentage reduction in price.
- With an increase in purchased products by more than one percent and a decrease in prices by a percentage, demand becomes elastic.
- The concept of unit elasticity appears when the quantity of production doubles as a result of halving its price.
Demand Elasticity Factors
- Time factor (for the long term, more elastic demand is characteristic).
- The presence or availability of similar products (if none exists, then the risk of reduced demand is minimal).
- Part of the cost of products that are laid down by the consumer budget.
- The level of saturation of the market with products.
- Possibilities of using products.
- The importance of this product to the consumer.
Inelastic demand factors
Consider those moments that are directly influenced by the consumer:
- he prefers goods with good characteristics (demand is inelastic in price if the product does not work or deceives the expectations of the buyer);
- the consumer often orders the goods to the manufacturer (in this case, he is ready to pay more);
- customers may not be sufficiently informed about a particular product;
- the price of the goods is low in comparison with the budget of consumers;
- the buyer has the opportunity to save on a certain type of goods.
Income elasticity of demand
It is defined as the level of quantitative changes in income per percentage. Revenue growth increases the possibility of shopping, demand also increases, and the elasticity of demand is positive.
If the coefficient of elasticity is negligible (more than zero, but less than unity), then we are talking about essential products. If higher than one, then these are already luxury goods.
As for the goods of the lowest quality, here the income elasticity of demand will be a negative value (less than zero). Elasticity is an indicator that constantly changes depending on the situation on the market.
Cross elasticity of demand
This coefficient shows the level of changes in demand for one product, while the price of another changes by one percent. It is positive, negative and equal to zero.
If the coefficient is greater than zero, then the products are interchangeable, if less, then the goods complement each other. In the event that the coefficient of cross elasticity of demand is zero, then the goods do not depend on each other and do not have any effect on demand.
The main factor in the cross elasticity of different products is the consumer properties of goods, their replacement or addition.
One of the most common phenomena on the market is the elasticity of the product. Cross has an asymmetric character: one product depends on another.
Researchers highlight difficulties in determining the boundaries of industries using the coefficient of cross elasticity. These include the following factors:
- It is difficult to determine the permissible high level of cross elasticity in individual sectors. For example, the cross elasticity of frozen vegetables from one company is very high, but products from ready-made dough and frozen vegetables together are quite low. Accordingly, it remains unclear whether it is necessary to talk about two sectors or about each separately.
- Chain for cross elasticity (for example, high cross elasticity will be observed between color and black-and-white televisions).
Elasticity of offer
The coefficient of price elasticity of a proposal is the level of its quantitative changes, while the price changes by one percent.
The degree of transformation of supply volumes depending on changing prices is the elasticity of supply at a price. The measure for this change is the coefficient of supply elasticity, which is calculated as the ratio of volumes to price increases.
Factors that determine the elasticity of supply at a price:
- time frame (instant - inelastic, short-term - adapted to changing prices, long-term - elastic);
- the possibility of long-term storage of finished goods and raw materials purchased for their production;
- the specifics of production work (the amount of work spent on manufacturing products);
- maximum production with full capacity.
The elasticity of the price offer changes due to the impact of technological progress, the quality and quantity of raw materials and other expended resources.
To reduce the elasticity of supply leads to increased limited raw materials, which are used in production.
