Definition and Determinants of Elasticity of Demand ~ According to law request, this action of raising the price will obviously decrease request. If demand decreases only by a small amount, the price increase will cover production costs so producers still make a profit.

A. Definition of Elasticity of Demand

The magnitude of consumer reactions to price changes is very important for producers. The goal is for producers to determine a favorable price level. The elasticity of demand is a measure of the degree of sensitivity of demand to changes in price.

Elasticity Demand measures the relative change in the number of units of a good purchased as a result of changes in one of the influencing factors (ceteris paribus).

Understanding the elasticity of demand describes the degree of sensitivity of the demand function to changes that occur in the variables that affect it.

Elasticity Demand can be interpreted as the level of flexibility or the level of sensitivity of demand to price changes. The elasticity of demand is expressed by a coefficient, namely the coefficient of elasticity and is denoted by the letter Ed. Thus, the notation E is a quantity, or coefficient that can indicate how flexible demand is in case of price changes and is expressed by the following formula.
Definition and Determinants of Elasticity of Demand
Definition & Determinants of Elasticity of Demand

Ed = (ΔQ/Q)/(ΔP/P)

Where :

Q = change in quantity demanded

P = change in price of goods

P = original price

Q = number of original requests

Ed = coefficient of elasticity of demand

The equation is actually the ratio between the percentage change in quantity demanded to the percentage change in price. The coefficient of elasticity shows the size of the effect of changes in the price level on changes in the level of demand for goods.

Score Ed equal to two indicates that a change in the price level will cause a change in the level of demand for goods to be twice as large as a change in the price level.

If the change in the price level is 10 percent, then the change in the level of demand for goods is 20 percent.

The value of the coefficient Ed equal to 0.5 indicates that a change in the price level will cause the level of demand for goods to change by half than the change in the price level.

If the price changes by 10 percent, then the change in the level of demand is five percent.

Score Ed greater than one is called elastic demand, whereas if the value of Ed less than one is called inelastic demand. Request with value Ed equal to one is called unitary demand or unit demand or normal.

In addition, there are two types of demand, namely perfectly elastic demand and perfectly inelastic demand. Perfectly elastic demand is represented by the value of Ed infinity, and perfectly inelastic demand is represented by Ed equals zero.

Basically there are 3 things that affect the elasticity of demand, namely:

1. Price Elasticity Of Demand for own goods

Price elasticity or complete price elasticity of demand or elasticity of demand for prices is a concept intended to measure the degree of change in the quantity of goods purchased as a result of changes in the price of these goods.

Price elasticity is the percentage change in the quantity demanded or supplied of a good caused by the percentage change in the price of the good.

Price elasticity (EP) measures the percentage change in the demand for a good when its price changes by one percent.

Ep = Percentage change in quantity demanded

Percentage change in price

Or

Ep = %∂Q

%∂P

= (∂Q/Q)

(∂P/P)

= P x Q

Q P

  • Price Elasticity Number (EP)

a) Inelastic (EP < 1)

The change in demand (in percentage) is smaller than the change in price. If the price increases by 20%, the demand for goods will decrease by, for example, 12%. The demand for basic necessities is generally inelastic. For example, changes in rice prices in Indonesia do not affect changes in demand for rice, because rice is a basic need.

b) Elastic (EP > 1)

Demand is said to be elastic if a change in the price of a good causes a large change in demand. For example, if the price decreases by 20%, the demand for goods increases by 40%. Therefore EP is greater than one. Luxury goods such as cars are generally elastic in demand.

c) Unitari Elastic (EP = 1)

If the price increases by 20%, the demand for the good decreases by 20% as well.

d) Perfectly Elastic (EP = 0)

Whatever the price of an item, people will still buy the amount needed. An example is the demand for salt and sugar.

e) Infinitely Elastic

A slight change in price causes an incalculable change in demand.

Types of price elasticity:

a. Point Elasticity

Point elasticity measures the level of elasticity at a certain point. The concept of elasticity is used when the price changes that occur are so small that they are close to zero. But this concept is less accurate when the price changes are relatively large.

Point Elasticity Formula. that is :

Ep = Q/Q = P.∂Q

P/P Q. P

b. Arc elasticity

The arc elasticity is a measure of the degree of response of the average quantity to price over an interval of the demand curve.

In certain cases it is more appropriate to use arc elasticity, which measures the elasticity of demand between two points. The formula for calculating arc elasticity is only slightly different from the formula for calculating point elasticity.

Arc Elasticity Formula, namely:

Ep = –∂Q (P1 + P2/2 = -∂Q (P1 + P2)

(Q1 + Q2/2 P (Q1 + Q2)

Where: Q = Q1 – Q2

P = P1 –P2

Or

Ep = Q1 – Q2

(Q1 + Q2) /2

P1 – P2

(P1 + P2) /2

  • Factors That Determine Price Elasticity

a) Substitution Rate

The more difficult it is to find substitutes for an item, the more inelastic the demand. Example: Rice is difficult to find a substitute for, because it is an inelastic demand. Whereas salt has no substitutes, therefore the demand is perfectly inelastic, because even though the price goes up a lot, people still buy it, and if the price goes down a lot, people don’t necessarily buy it up.

b) Number of Users

The more the number of users, the more inelastic the demand for an item.

The more basic an item is, the more inelastic the demand.

c) Proportion of Price Increase to Consumer Income

If the proportion is large, then demand tends to be more elastic.

d) Term

The period of demand for an item also has an influence on the price elasticity. However this depends on whether the item is durable or non-durable.

2. Cross Price Elasticity

Cross price elasticity is the degree of sensitivity of the demand for good X to changes in the prices of other goods.

Cross elasticity is the percentage change in the quantity demanded of good X caused by the percentage change in the price of another good (Y).

Cross elasticity (EC) measures the percentage change in demand for one good as a result of a one percent change in the price of another good.

Ec = % Qx

% Py

= (∂Qx / Qx)

(∂Py / Py)

= Py . Qx

Qx Py

The value of Ec reflects the relationship between goods X and Y. If Ec > 0, X is a substitute for Y. An increase in the price of Y causes the relative price of X to be cheaper, so that the demand for X increases. For example, if the price of chicken meat increases, the demand for beef will increase (Ceteris Paribus), because now beef is relatively cheaper than the price of chicken (although nominally it is still more expensive). The value of Ec < 0 indicates that the relationship between X and Y is complementary. X can only be used together with Y. An increase or decrease in X causes an increase or decrease in Y. An increase in the price of Y causes the demand for X, causing the demand for X to decrease as well. For example, if the price of fuel increases (Ceteris Paribus), it can be assumed that the demand for cars will decrease.

3. Income Elasticity

Income elasticity is the degree of sensitivity of demand for goods X to changes in income or consumer spending budgets.

Income elasticity is the percentage change in demand for an item caused by the percentage change in consumers’ real income.

The income elasticity (Ei) measures how much the percentage of demand for a good changes when income changes by one percent.

Ei = Percentage change in quantity demanded

Percentage change in income

Or

Ei = % Q

% I

= (∂Q / Q)

(∂I/I)

= I . Q

Q I

Generally, the value of Ei is positive, because an increase in (real) income will increase demand. The greater the value of Ei, the greater the income elasticity. Goods with Ei > 0 are normal goods. If the value of Ei is between 0 and 1, the goods are essential goods. Goods with Ei > 1 are luxury goods.

There are goods with Ei < 0. The demand for these goods actually decreases when real income increases. These goods are called interior goods (inferor goods).

B. Determinants of Elasticity of Demand

The factors that influence the determinants of elasticity are as follows:

  • The number of available substitutes: The more types of substitute foods available, the more elastic the nature of the demand;
  • Percentage of income that will be spent on buying the food: The larger the share of income needed to buy a food, the more elastic the demand for that food;
  • The time period in which the demand is analyzed: The longer the period in which the demand is analyzed, the more elastic the nature of the demand for a food.

References :

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