Takeaway

The elasticity of demand measures how responsive the quantity demanded is to a change in price—the more responsive, the more elastic the demand. Similarly, the elasticity of supply measures how responsive the quantity supplied is to a change in price—the more responsive, the more elastic the supply.

In Chapter 4, we learned how to shift the supply and demand curves to produce qualitative predictions about changes in prices and quantities. Estimating elasticities of demand and supply is the first step in quantifying how changes in demand and supply will affect prices and quantities. You should know how to calculate elasticities of demand and supply using data on prices and quantities.

The elasticity of demand tells you how revenues respond to changes in price along a demand curve. If the |Ed| < 1, then price and revenue move together, and if |Ed| > 1, then price and revenue move in opposite directions. We used these relationships to explain why decreases in the price of food have made farming a smaller share of the economy, but decreases in the price of computer chips have made computing a larger share of the economy. We also used the same relationship to explain why the war on drugs can strengthen the very people it is trying to weaken.

You don’t need to do statistical studies of demand and supply to get useful information about elasticities. Once you understand the concept, a little common sense will tell you that the supply curve for low-quality guns in Washington, D.C., is very elastic. And, if you can reason that the supply of low-quality guns to Washington, D.C., is very elastic, a little economics will tell you that gun buyback programs are a waste of taxpayer dollars. Similar reasoning suggests how slave redemption programs might harm more people than they benefit.

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Elasticity is a bit dry but it’s a very useful concept, and it will appear again when we come to discuss taxes in Chapter 6 and monopoly in Chapter 13.