What is elasticity of demand?

Elasticity of demand refers to the responsiveness or sensitivity of the quantity demanded of a good or service to changes in its price. It measures the percentage change in quantity demanded in response to a percentage change in price. In other words, it quantifies how much the demand for a product will change when its price changes.

Elasticity of demand is calculated using the formula:

Elasticity of Demand = (% Change in Quantity Demanded) / (% Change in Price)

The result of this calculation can be either elastic, inelastic, or unitary.

- If the elasticity of demand is greater than 1, it is considered elastic. This means that a small change in price will result in a relatively larger change in quantity demanded. In this case, the demand is considered to be price-sensitive, and consumers are more responsive to price changes.

- If the elasticity of demand is less than 1, it is considered inelastic. This means that a change in price will result in a relatively smaller change in quantity demanded. In this case, the demand is considered to be price-insensitive, and consumers are less responsive to price changes.

- If the elasticity of demand is exactly 1, it is considered unitary. This means that a change in price will result in an equal percentage change in quantity demanded. In this case, the demand is considered to have a proportional response to price changes.

Understanding the elasticity of demand is crucial for businesses and policymakers as it helps in determining the impact of price changes on consumer behavior and market demand. It also aids in making pricing decisions, forecasting sales, and evaluating the effectiveness of government policies such as taxes or subsidies.