The elasticity of demand measures how the quantity demanded of a good responds to changes in factors such as price, income, and the prices of related goods. It helps businesses and economists understand consumer behaviour and make informed decisions.
1. Price Elasticity of Demand (PED)
- Definition: Price Elasticity of Demand (PED) measures the responsiveness of quantity demanded to changes in the price of the good.
- Formula:
- Interpretation:
- Elastic Demand: PED > 1 (Quantity demanded is highly responsive to price changes)
- Inelastic Demand: PED < 1 (Quantity demanded is less responsive to price changes)
- Unitary Elastic Demand: PED = 1 (Proportional response in quantity demanded to price changes)
- Example: If the price of a product increases by 10% and the quantity demanded decreases by 20%, PED = -2, indicating elastic demand.
2. Income Elasticity of Demand (YED)
- Definition: Income Elasticity of Demand (YED) measures the responsiveness of quantity demanded to changes in consumer income.
- Formula:
- Interpretation:
- Normal Goods: YED > 0 (Demand increases with higher income)
- Inferior Goods: YED < 0 (Demand decreases with higher income)
- Luxury Goods: YED > 1 (Demand increases more than proportionally with higher income)
- Example: If income rises by 5% and the quantity demanded of a product increases by 10%, YED = 2, indicating it is a luxury good.
3. Arc Elasticity of Demand
- Definition: Arc Elasticity of Demand measures the elasticity over a range of prices and quantities rather than at a single point.
- Formula:
- Example: If the price of a product changes from ₹50 to ₹40 and the quantity demanded changes from 100 units to 150 units, Arc PED = 3, indicating elastic demand.
4. Cross Elasticity of Demand (XED)
- Definition: Cross Elasticity of Demand (XED) measures the responsiveness of quantity demanded for one good to changes in the price of another good.
- Formula:
- Interpretation:
- Substitute Goods: XED > 0 (Demand for Good A increases when the price of Good B increases)
- Complementary Goods: XED < 0 (Demand for Good A decreases when the price of Good B increases)
- Unrelated Goods: XED = 0 (No relationship between the goods)
- Example: If the price of tea increases by 10% and the quantity demanded of coffee increases by 5%, XED = 0.5, indicating the goods are substitutes.
5. Advertising Elasticity of Demand (AED)
- Definition: Advertising Elasticity of Demand (AED) measures the responsiveness of quantity demanded to changes in advertising expenditure.
- Formula:
- Interpretation:
- High AED: Significant impact of advertising on demand.
- Low AED: Minimal impact of advertising on demand.
- Example: If advertising expenditure increases by 20% and the quantity demanded increases by 10%, AED = 0.5, indicating a moderate impact of advertising on demand.
Visual Representation
Price Elasticity of Demand Illustration:
