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ELASTICITY OF DEMAND

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Assignment on ELASTICITY OF DEMAND, TOTAL OUTLAY OR REVENUE METHOD, ARC ELASTICITY OF DEMAND, POINT ELASTICITY OF DEMAND (ED), DIFFERENCE B/W ELASTIC, UNIT & INELASTIC DEMAND

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									DEPARTMENT OF MANAGEMENT SCIENCES

Business Economics
Assignment # 1
ELASTICITY OF DEMAND POINT ELASTICITY ARC ELASTICITY TOTAL OUTLAY OR REVENUE

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ELASTICITY OF DEMAND  The Responsiveness of buyers to a change in the price of a commodity is called as Elasticity of Demand.  It is the rate at which the quantity demanded of a commodity varies with a change in price.

TYPES OF ELASTICITY OF DEMAND
1. POINT ELASTICITY OF DEMAND (ED) “When there is small change in Qd, as a result of small change in price, then point Ed is used for measurement.” It is the ratio of the percentage change in quantity demanded of product to the percentage change in its price. Ed = % change in Qd__ % change in Price = ∆Q/Q ∆P/P

Or Ed = ∆ Q / ∆ P * P / Q At midpoint Ed = 1 Above midpoint Ed < 1 Price (P) 10 9.75 Here, P = 10 Q = 50 Quantity Demand (Qd) 50 51 ∆P = -0.25 ∆Q = 1 Ed = ∆ Q / ∆ P * P / Q Ed = 1 / -0.25 * 10 / 50 Ed = -0.8 (Ignoring negative sign) Ed = 0.8 < 1 Thus, Elasticity of Demand in this case, lies above the midpoint of the elasticity of demand curve.

2. ARC ELASTICITY OF DEMAND “When there is big change in quantity demand as a result of big change in price, than Arc Ed is used for measurement.”

Ed = Q2-Q1 Q2+Q1

÷

P2-P1 P2+P1

OR

Ed = Q2-Q1 Q2+Q1

X

P2+P1 P2-P1

Price (P) 10 5

Quantity Demand (Qd) 50 150

Here,

P1 = 10 Q1 = 50

P2 = 5 Q2 = 150 5+10 5-10 15 -5 -3

Ed = 150-50 X 150+50 Ed = 100 200 Ed = 0.5 X X

Ed = -1.5 (Ignoring Negative Sign) Ed = 1.5 > 1

3. TOTAL OUTLAY OR REVENUE METHOD
This is the Marshall’s method of measuring elasticity of demand. We measure “Ed” with change in Total Revenue of a firm due to change in its price level. Here the total revenue or total outlay refers to the product of price and the quantity demanded, i.e. TR = P X D. In this method, elasticity is expressed in three ways; a. Unitary Elasticity (Total Revenue remains the same) If change in price brings about change in quantity demanded in such a way that total outlay remains the same, then demand is unitary elastic (Ed = 1). b. Elastic Demand (TR increases with decrease in the prices) If change in price brings about a change in the quantity demanded in such a way that the total outlay goes on increasing, then demand is elastic (Ed > 1). c. Inelastic Demand (TR decreases with decrease in the prices) If change in price brings about a change in the quantity demanded in such a way that the total outlay goes on falling, then demand is inelastic (Ed < 1).

TOTAL OUTLAY OR REVENUE METHOD Price of Pencil per Dozen (P) (Rs.) 8 7 6 5 4 3 Quantity Demanded (Qd) in Dozen 3 4 5 6 7 8 Total Revenue TR = P x Qd 24 28 30 30 28 24 Coefficient of Elasticity of Demand Elastic (Ed > 1) Elastic (Ed > 1) Unit Elastic (Ed = 1) Inelastic (Ed < 1) Inelastic (Ed < 1)

DIFFERENCE B/W ELASTIC, UNIT & INELASTIC DEMAND
Difference between Elastic, Unit & Inelastic demand is elaborated with the help of following diagram.


								
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