Replied by garima
on Tuesday, January 15 2013, 03:24 PM
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Price Elasticity of Demand: The percentage change in Quantity Demanded that results from a 1% change in Price.

In other words, the percentage change in Quantity Demanded caused by a percentage change in P.

There are two basic ways to measure elasticity. We can use a Point Elasticity measure, or an Arc Elasticity Measure:

Point Elasticity Measure:

|change in Q/Q |divided by= | P * change in Q | divided by= e

| change in P/P | | Q * change in P |

Arc Elasticity Measure:

| (Q2-Q1)/[Q1+Q2] | = e

| 2 |divided by

| (P2-P1)/[P1+P2] |

Eg:

Suppose we have the following demand curve, P = 100-Q/2 with the accompanying

Point A: P = 80, Q = 40 , Total Revenue = $3200

Point M: P = 50, Q = 100, Total Revenue = $5000

Point B: P = 20, Q = 160, Total Revenue = $3200

Then

Point Elasticity at Point M: P = 50, Q = 100:

At (100,50):

e = | 50/100 * -50/25 | = 1 At the midpoint, e = 1. This is a Unit Elastic point.

Point elasticity at Point A: P = 80,Q = 40:

e = | 80/40 * -2 | = 4 Curve is elastic at (40,80), since e>1.

Point elasticity at Point B: P = 20, Q =160:

e = | 20/160 * -2 | = 1/4 Curve is inelastic at (160,20), since e<1.

Using the Arc Elasticity Measure, or Mid-Point Formula:

Midpoint forumula: Calculate the elasticity on the arc

from Point A to Point M, starting at Point A:

Let (Q1,P1) = (40,80) = Point A

Let (Q2,P2) = (100,50) = Point M

Q2-Q1 = 100-40 = 60 (Q2+Q1)/2 = 140/2 = 70

P2-P1 = 50-80 = -30 (P2+P1)/2 = 130/2 = 65

e = [60/70]/[-30/65] = [130/70] = 1.86

NOTE: The arc elasticity equals the point elasticity at the midpoint

of the arc. That is why the arc elasticity formula is sometimes

called the midpoint formula.

For this problem, at the point P = 65, Q = 70, the point elasticity would

be:

e = | 65/70 * -2 | = [130/70] = 1.86