1.2.3

Elasticities of Demand

Test yourself

Elasticity

Elasticity measures the responsiveness of one variable to the change in another variable.

Illustrative background for Price elasticity of demand (PED)Illustrative background for Price elasticity of demand (PED) ?? "content

Price elasticity of demand (PED)

  • Price elasticity = % change in quantity demanded ÷ % change in price.
    • Elastic demand is where the PED > 1.
    • Inelastic demand is where the PED < 1.
    • Unitary elasticity is where the PED = 1.
  • PED is almost always negative as an increase in price would result in a decrease in demand. But you may see some questions refer to it as positive for ease.
Illustrative background for Income elasticity of demand (YED)Illustrative background for Income elasticity of demand (YED) ?? "content

Income elasticity of demand (YED)

  • Income elasticity of demand = % change in quantity demanded ÷ % change in income.
    • Normal goods have a positive income elasticity, YED > 0 (income rises; demand increases).
    • Inferior goods have negative income elasticity, YED < 0 (income rises; demand decreases).
  • For example, those with higher income may buy fewer burgers and more steaks. Burgers in this case are an inferior good.
  • YED can be positive or negative.
Illustrative background for Cross-price elasticity of demand (XED)Illustrative background for Cross-price elasticity of demand (XED) ?? "content

Cross-price elasticity of demand (XED)

  • Cross-price elasticity of demand is when a change in the price of one good can change the quantity demanded of another.
  • Cross-price elasticity of demand = % change in quantity demanded of good A ÷ % change in the price of good B.
  • XED is positive if the goods are substitutes and negative if the goods are complements - you can work this out for yourself but also try to remember it!
  • If XED is close to zero this would suggest that the goods are unrelated.

Complement Goods vs Substitute Goods

The cross-price elasticity of demand (XED) for complements is negative because a fall in the price of one good will increase the quantity demanded for the other good.

Illustrative background for Complement goodsIllustrative background for Complement goods ?? "content

Complement goods

  • For complements, a fall in the price of one good will lead to an increase in the quantity demanded for the other good. Complements have negative cross-price elasticities of demand.
    • E.g. peanut butter and bread.
    • E.g ice cream and sun cream.
    • XED < 0
Illustrative background for Substitute goodsIllustrative background for Substitute goods ?? "content

Substitute goods

  • For substitutes, a fall in the price of one will lead to a fall in the quantity demanded of the other. Substitutes have positive cross elasticities of demand.
    • E.g. coffee and tea.
    • XED > 0
Illustrative background for Independent goodsIllustrative background for Independent goods ?? "content

Independent goods

  • Independent goods have a cross-price elasticity of demand of zero.
    • E.g donkeys and ice cream.
    • XED = 0

Jump to other topics

1Introduction to Markets

2Market Failure

3The UK Macroeconomy

4The UK Economy - Policies

5Business Behaviour

6Market Structures

7A Global Perspective

8Finance & Inequality

9Examples of Global Policy

Go student ad image

Unlock your full potential with GoStudent tutoring

  • Affordable 1:1 tutoring from the comfort of your home

  • Tutors are matched to your specific learning needs

  • 30+ school subjects covered

Book a free trial lesson