Econ 101-Chapter 5

tax incidence

manner in which the tax burden is divided between buyers and sellers

infinite/perfect elasticity

the extremely elastic situation of demand or supply where quantity changes by an infinite amount in response to any change in price; horizontal in appearance

zero/perfect inelasticity

the highly inelastic case of demand or supply in which a percentage change in price, no matter how large, results in zero change in the quantity; vertical in appearance

wage elasticity of labor supply

the percentage change in hours worked divided by the percentage change in wages

cross-price elasticity of demand

the percentage change in the quantity of good A that is demanded as a result of a percentage change in good B

elasticity of savings

the percentage change in the quantity of savings divided by the percentage change in interest rates

price elasticity

the relationship between the percent change in price resulting in a corresponding percentage change in the quantity demanded or supplied

Elasticity in Areas Other Than Price

Elasticity is a general term, referring to percentage change of one variable divided by percentage change of a related variable that can be applied to many economic connections. For instance, the income elasticity of demand is the percentage change in quantity demanded divided by the percentage change in income. The cross-price elasticity of demand is the percentage change in the quantity demanded of a good divided by the percentage change in the price of another good. Elasticity applies in labor markets and financial capital markets just as it does in markets for goods and services. The wage elasticity of labor supply is the percentage change in the quantity of hours supplied divided by the percentage change in the wage. The elasticity of savings with respect to interest rates is the percentage change in the quantity of savings divided by the percentage change in interest rates.

Elasticity and Price

In the market for goods and services, quantity supplied and quantity demanded are often relatively slow to react to changes in price in the short run, but react more substantially in the long run. As a result, demand and supply often (but not always) tend to be relatively inelastic in the short run and relatively elastic in the long run. The tax incidence depends on the relative price elasticity of supply and demand. When supply is more elastic than demand, buyers bear most of the tax burden, and when demand is more elastic than supply, producers bear most of the cost of the tax. Tax revenue is larger the more inelastic the demand and supply are.

Polar Cases of Elasticity and Constant Elasticity

Infinite or perfect elasticity refers to the extreme case where either the quantity demanded or supplied changes by an infinite amount in response to any change in price at all. Zero elasticity refers to the extreme case in which a percentage change in price, no matter how large, results in zero change in quantity. Constant unitary elasticity in either a supply or demand curve refers to a situation where a price change of one percent results in a quantity change of one percent.

Price Elasticity of Demand and Price Elasticity of Supply

Price elasticity measures the responsiveness of the quantity demanded or supplied of a good to a change in its price. It is computed as the percentage change in quantity demanded (or supplied) divided by the percentage change in price. Elasticity can be described as elastic (or very responsive), unit elastic, or inelastic (not very responsive). Elastic demand or supply curves indicate that quantity demanded or supplied respond to price changes in a greater than proportional manner. An inelastic demand or supply curve is one where a given percentage change in price will cause a smaller percentage change in quantity demanded or supplied. A unitary elasticity means that a given percentage change in price leads to an equal percentage change in quantity demanded or supplied.

elasticity

an economics concept that measures responsiveness of one variable to changes in another variable

price elasticity of demand

percentage change in the quantity demanded of a good or service divided the percentage change in price

price elasticity of supply

percentage change in the quantity supplied divided by the percentage change in price

constant unitary elasticity

when a given percent price change in price leads to an equal percentage change in quantity demanded or supplied

unitary elasticity

when the calculated elasticity is equal to one indicating that a change in the price of the good or service results in a proportional change in the quantity demanded or supplied

elastic demand

when the elasticity of demand is greater than one, indicating a high responsiveness of quantity demanded or supplied to changes in price

inelastic demand

when the elasticity of demand is less than one, indicating that a 1 percent increase in price paid by the consumer leads to less than a 1 percent change in purchases (and vice versa); this indicates a low responsiveness by consumers to price changes

elastic supply

when the elasticity of either supply is greater than one, indicating a high responsiveness of quantity demanded or supplied to changes in price

inelastic supply

when the elasticity of supply is less than one, indicating that a 1 percent increase in price paid to the firm will result in a less than 1 percent increase in production by the firm; this indicates a low responsiveness of the firm to price increases (and vice versa if prices drop)