Elasticity is the sensitivity of variation that one variable presents to the changes experienced by another.
Therefore, it is necessary to have two variables to be able to carry out the study. Simplifying, elasticity is the percentage variation that a variable X undergoes when there is a change in a variable Y.
Translating the definition into mathematics, the idea is represented as follows: When Y varies, how much X varies. For example, if the quantity demanded is X and the price is Y, what we mean is that when we change the price ( Y), how much will the quantity demanded (X) change?
- E greater than 1: The variable X varies to a greater extent than the variable Y, the relationship is said to be elastic.
- And equal to 1: It is known as unit elasticity, X and Y undergo the same change.
- E less than 1: Variable Y varies to a greater extent than variable X, inelastic relationship.
What is the application of elasticity in the economic sphere?
First, we are going to study the demand-price elasticity or elasticity of demand. It consists of analyzing how much the quantity demanded by consumers of a good changes when the price of that good has undergone a change.
By common sense, we would affirm that if the price of a good falls, its demand will increase and vice versa. (See giffen goods for exception)
The interesting thing is to see what effect the variation in price has on demand. It will depend on the type of property in question. For example, if the price of a packet of salt were cut in half, people would not buy twice as many packets of salt, since it is a staple good, that is, its consumption is already satisfied out of necessity and it does not depend, relatively speaking, on its price. In this case, the elasticity of the demand for salt is inelastic.
In addition, it should be noted that the elasticity in some cases is negative. Since when the price increases (positive variation) the demand tends to fall (negative variation). This is by the law of supply and demand. At the same time, if we divide positive by negative, the resultant is a negative number.
Let’s graphically analyze the elasticity of demand. (For simplicity we will consider linear demand curves)
Next, we are going to look at two special cases to finish our understanding of the concept of elasticity of demand.
E = 0 Vertical demand curve: perfectly inelastic, the quantity demanded of the good does not change when the price changes. It occurs with goods that cannot be substituted by others or goods of first necessity. For example: sugar, salt, medicines …
E = ∞ Horizontal demand curve: perfectly elastic, the minimum variation in price will mean that the quantity demanded is zero. This is the case of goods with perfect substitutes Price-supply elasticity
This concept also applies to the study of the relationship between the price and the supply of a good. The price-supply elasticity works in the same way as the elasticity of demand, it analyzes the sensitivity of the supply of a good when its price varies.
On the other hand, another interesting application is the elasticity of income with demand, which measures the effect that changes in consumer income have on the quantity demanded of a product. Thus allowing to classify economic goods in:
- Inferior goods: Negative demand-income elasticity.
- Normal goods: demand-income elasticity positive or equal to 0.
- Luxury goods: Demand-income elasticity greater than 1.
- Staples: demand-income elasticity between 0 and 1.
Finally, mention the cross elasticity of demand that will reflect the consequences that changes in the price of another related good have on the demand for a good. In the case that this type of elasticity is positive, it is a question of two substitute goods. For example: meat and fish, if the price of meat increases and that of fish does not change, consumers would probably eat more fish.
In the opposite case, two goods with negative cross elasticity of demand, means that they are complementary. It would be the case of macaroni and tomato. If the price of tomato goes up, it will be easy for the consumption of macaroni to fall.
Depending on the degree of change in the demand for good X by the change in the price of Y, we will say that the relationship is elastic (varies considerably) or inelastic (hardly varies) .