Price Elasticity of Demand, Measurement, and Total Expenditure Method. As we have studied earlier that with the change in prices of the products the quantity demanded also changes. This is truly explained by the law of demand. Whereas, how much change is brought in the quantity demanded due to the change in its price is determined by the elasticity of demand.
So, Demand Elasticity is “the responsiveness of the quantity demanded of a product to a change in the price of the product”
The change in quantity demanded is brought by many other factors other than price as well. Such as income of the consumer, and price of the substitute. So, mainly the change in quantity demanded is brought by these three.
Income Elasticity of Demand:
When the change in quantity demanded is brought by the change in income of the consumer. It is known as income elasticity of demand. So, the income elasticity is “the degree of responsiveness of the quantity demanded to a change in income of the consumer, other things being constant.”
Cross Elasticity of Demand:
However, when the change in quantity demanded is a result of the change in the price of the substitute of the product. we call it cross-elasticity of demand.
The cross elasticity of demand is “the degree of responsiveness of quantity demanded to a change in the price of the substitute of the product”
Price Elasticity of Demand:
Price elasticity of demand is “the responsiveness of the quantity demanded of a product to a change in the price of the product”
Measurement of Price Elasticity of Demand:
There are three methods for the calculation of the price Elasticity of demand;
- Total outlay/expenditure method
- Percentage method
- Geometric Method
Total outlay/Expenditure Method:
This method was presented by Alfred Marshall. According to this method, we can measure the demand elasticity on the basis of change in total expenditure due to change in its price. However, the total expenditure method only tells us whether elasticity is greater than one, less than one or equal to one. This method fails in explaining the exact change in elasticity. so, we will now discuss the three elasticities of demand through total expenditure method.
There are three cases according to this method
- If the total expenditure remains the same due to change in the price of the product, the elasticity of demand will be equal to one. i.e.(ed=1)
- When the total expenditure increases due to falling in the price of the product, the elasticity will be greater than one. i.e.( ed >1)
- When the total expenditure of the consumer decrease as a result of fall in price, the elasticity will be smaller than one. i.e.
We will explain this method of calculating elasticity with the help of the table.
Explanation of the table:
According to the above table. When the price of oranges is 30/kg the consumer purchases only 5kg and his total expenditure is 150. When the price of the oranges falls to 10/kg, the consumer now purchases 15kg but his total expenditure remains the same. So, here the elasticity of demand is equal to one.
In the next section, you can see the price of grapes per kg is 30/kg initially and then consumer demands only 5kgs. As the price falls to 10/kg the demand increase to 18kgs and the total expenditure of the consumer increases from 150 to 180. Here, the elasticity of demand will be greater than one.
In the last section, you can see that the price of bananas is 30kg/dozen and then the demand of consumer is 5 dozens and the expenditure is 150 dollars. As the price of the bananas falls to 10 per dozen, the quantity demanded increases to 7 but the total expenditure of the consumer decreases. Hence, the demand elasticity will be smaller than 1.