All Economics Terms A-Z

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Economics Terms A-Z

Elasticity and Inelasticity

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Elasticity refers, in its most basic form, to how much an individual, a business, a producer or a consumer changes its demand, or amount of goods supplied, as a result of price and income fluctuation. It is a core economic concept and provides answers to some central questions, such as how much more or less a product will sell if the price is raised or lowered or how much these price changes will affect the sales of other products.

An economic variable (a product or good, etc.) that has an elasticity value of one will respond proportionally to changes in the economic environment. If it has a variable above one, it responds more than proportionally to these changes, and if the elasticity value is less than one it will respond less than proportionally. An example of products which have low elasticity values are those which are essential to consumers, such as medicine. Products which have higher elasticity values are generally less essential, such as toys.

The formula for elasticity is very simple. A variable’s elasticity can be worked out by dividing the percentage change in quantity by the percentage change in price. Elasticity is important for businesses which compete with one another as it affects the prices of their respective goods and their customer retention rates.

A few things can drastically change the elasticity value of a product. The three main factors are the availability of substitutes for the product (especially if those products are cheaper), the necessity of a product, and time. Time is important because if a product remains costlier for longer, its elasticity value can (this is dependent on its necessity and the availability of substitutes) increase over time as people resent having to spend more.