Price Elasticity and Consumer Surplus Simply Explained

Price Elasticity and Consumer Surplus Simply Explained

What is price elasticity?  And why is it called elasticity?  According to Miriam Webster’s Dictionary, Elasticity is defined as the following - :  the responsiveness of a dependent economic variable to changes in influencing factors

As an example, if the price of milk changes, the change in this variable will also create a change in the amount of consumer demand that milk item has associated with it. So if the price of milk goes up slightly, and if demand goes down heavily from the slight price increase, then milk is highly elastic.  

In more concrete terms, how this elasticity is quanitifed is based on how much of a change is needed on one variable to effect another variable.

In this case we could calculate the elasticity of price by the following formula - price elasticity = change in % of demanded units / change in % of price

So elasticity can be quantified as follows - If the price elasticity is greater than 1, or  >1, we can call it elastic, meaning that if the price increases, total revenue will go down, if the price decreases, then total revenue will increase.

If price elasticity is < 1, then we can say that demand is inelastic - If the price increases then total revenue will increase, if the price decreases then likewise, total revenue will also decrease.

Alternatively, if price elasticity is equal to 1, then we can say that demand has a unitary elasticity - meaning that a change in price will create an equal change in quanitity of the item that will be purchased, resulting in no change to the overall amount purchased.

Additionally there are terms such as “cross-price elasticity”, which referes to the change in demand of a good based on the change in price of another good.

An example of this could be okashi, if the price of pocky goes down heavily, the demand of other snacks in the same category such as pretzels or similar glico brand snacks may also go down, due to consumers increased interest in the low price treat.

There are also several factors than can affect elasticities.  How substitutable is the good?  How  necessary is the good?  What portion of the consumers budget would need to be spent on the good, and how long would the consumer have to respond to this change in price?