Explain the concept of price elasticity with its types.

Answer:

Concept: Price elasticity of demand is the degree of responsiveness of quantity demanded of a commodity to a change in its price, other factors remaining constant. In Prof. Marshall’s words, elasticity of demand is great or small according as the amount demanded increases much or little for a given fall in price, and diminishes much or little for a given rise in price.

\(E_d = \dfrac{\%\ \text{change in quantity demanded}}{\%\ \text{change in price}} = \dfrac{\Delta Q}{Q}\div\dfrac{\Delta P}{P} = \dfrac{\Delta Q}{\Delta P}\times\dfrac{P}{Q}\)

(The coefficient is negative because price and demand move in opposite directions; the minus sign is usually ignored.)

Types of price elasticity:

1. Perfectly elastic demand (Ed = \(\infty\)): A negligible change in price causes an infinite change in quantity demanded. The demand curve is a horizontal straight line parallel to the X-axis. It is imaginary (seen in the demand for a firm under perfect competition).
2. Perfectly inelastic demand (Ed = 0): Quantity demanded does not change at all whatever the change in price. The demand curve is a vertical straight line parallel to the Y-axis. It is also imaginary; salt and life-saving drugs come close to it.
3. Unitary elastic demand (Ed = 1): A proportionate change in price causes an equal proportionate change in quantity demanded, e.g. a 10% fall in price raises demand by 10%. The demand curve is a rectangular hyperbola.
4. Relatively elastic demand (Ed \(\gt\) 1): A proportionate change in price causes a more than proportionate change in quantity demanded, e.g. 10% fall in price raises demand by 20%. The demand curve is flatter. Luxuries usually have elastic demand.
5. Relatively inelastic demand (Ed \(\lt\) 1): A proportionate change in price causes a less than proportionate change in quantity demanded, e.g. 10% fall in price raises demand by 5%. The demand curve is steeper. Necessities such as food grains have inelastic demand.

[Diagrams: for each type, draw price on the Y-axis and quantity demanded on the X-axis: a horizontal DD for Ed = \(\infty\), a vertical DD for Ed = 0, a rectangular hyperbola for Ed = 1, a flat curve for Ed \(\gt\) 1 and a steep curve for Ed \(\lt\) 1.]

Conclusion: In practice, demand for most goods is either relatively elastic or relatively inelastic; perfectly elastic and perfectly inelastic demand are theoretical extremes.