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Elasticity 2
Why are something are elastic
and some inelastic?
Elasticity Review
• Perfectly elastic – quantity responds
enormously to price changes (E = ).
• Elastic – the percentage change in
quantity exceeds the percentage change
in price (E >1).
Elasticity Review
• Unit elastic – the percentage change in
quantity is the same as the percentage
change in price (E = 1).
Elasticity Review
• Inelastic – the percentage change in
quantity is less than the percentage
change in price (E <1).
• Perfectly inelastic – quantity does not
respond at all to price changes (E = 0).
Substitution and Elasticity
• As a general rule, the more substitutes a
good has, the more elastic is its supply
and demand.
Substitution and Demand
• The larger the time interval considered, or
the longer the run, the more elastic is the
good’s demand curve.
– There are more substitutes in the long run
than in the short run.
– The long run provides more options for
change.
Substitution and Demand
• The less a good is a necessity, the more
elastic its demand curve.
• Necessities tend to have fewer substitutes
than do luxuries.
Substitution and Demand
• Demand becomes more elastic as the
definition of a good becomes more
specific.
– A broadly defined good like transportation
does not have many substitutes so that
demand will be inelastic.
– A more narrowly defined good like bus
transportation will have more substitutes.
Substitution and Demand
• Demand for goods that represent a large
proportion of one's budget are more elastic
than demand for goods that represent a
small proportion of one's budget.
Substitution and Demand
• Goods that cost very little relative to your
total expenditures are not worth spending
a lot of time figuring out if there is a good
substitute.
• It is worth spending a lot of time looking for
substitutes for goods that take a large
portion of one’s income.
Substitution and Supply
• The longer the time period considered, the
more elastic the supply.
• The reasoning is the same as for demand.
– In the long run there are more options for
change so it is easier (less costly) for
suppliers to change into the production of
another good.
Substitution and Supply
• Economists distinguish three time periods
relevant to supply:
– The instantaneous period.
– The short run.
– The long run.
Substitution and Supply
• In the instantaneous period, quantity
supplied is fixed – the elasticity of supply
is perfectly inelastic.
• This supply is sometimes called the
momentary supply.
Substitution and Supply
• In the short run, some substitution is
possible – the short-run supply curve is
somewhat elastic.
• In the long run, significant substitution is
possible – the supply curve becomes very
elastic.
How Substitution Factors Affect
Specific Decisions
• Suppose you’ve been asked to evaluate
the potential impact of a 10¢ gas tax
increase in Washington, D.C. and in the
entire nation.
Evaluating the 10¢ Gas Tax
Increase
• We’d expect the short run the demand
curve for gasoline to be less elastic than in
the long run.
• In the long run, motorists would switch to
fuel efficient cars.
Evaluating the 10¢ Gas Tax
Increase
• Demand is probably inelastic for the entire
U.S.
– Gasoline is considered a necessity
– It is only a small part of what it costs to drive.
Evaluating the 10¢ Gas Tax
Increase
• Demand for gasoline is very elastic in
Washington, D.C.
– Some may switch to an alternative form of
transportation.
– Others would go to neighboring states to buy
gasoline.
Empirical Estimates of
Elasticities
• The following table provides short- and
long-term estimates of elasticities for a
number of goods.
Short-Run and Long-Run
Elasticities of Demand
Product
Tobacco products
Electicity (household)
Health Services
Nodurable toys
Movies/motion pictures
Beer
Wine
University tuition
Price elasticity
Short Run Long Run
0.46
1.89
0.13
1.89
0.20
0.92
0.30
1.02
0.87
3.67
0.56
1.39
0.68
0.84
0.52
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