Economics · Ch 3 — Theory of Demand

Measurement of Price Elasticity of Demand

Three methods are commonly used in Intermediate Economics to actually compute price elasticity of demand.

1. Percentage (proportionate) method. Elasticity is worked out directly as the ratio of the percentage change in quantity demanded to the percentage change in price:

E_d = \frac{\Delta Q / Q_1 \times 100}{\Delta P / P_1 \times 100} = \frac{\Delta Q}{\Delta P} \times \frac{P_1}{Q_1}

2. Total outlay (total expenditure) method, developed by Alfred Marshall, compares total spending on the commodity ( $\text{Total Outlay} = \text{Price} \times \text{Quantity}$ ) before and after a price change:

Effect of a price FALL on total outlay	Elasticity
Total outlay increases	$E_d > 1$ (relatively elastic)
Total outlay stays the same	$E_d = 1$ (unitary elastic)
Total outlay decreases	$E_d < 1$ (relatively inelastic)

3. Point (geometric) method. For a straight-line demand curve $AB$ (with $A$ the price-axis intercept and $B$ the quantity-axis intercept), elasticity at any point $R$ on the line equals the ratio of the lower segment of the line to the upper segment:

$E_d = \frac{\text{Lower segment } (RB)}{\text{Upper segment } (AR)}$ …

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