Question

What is the mid-point (averages) formula for elasticity of demand? What does it

measure?  What do the values (1), (2), and (.50) indicate? What are the determinants?  

Answer 1

Ans.

Formula of mid point formula for elasticity of demand is

Price elasticity of demand = [ ( Q 2 - Q 1) / (Q 2 + Q 1) / 2 ] / [ ( P 2 - P 1) / (P 2 + P 1 ) / 2 ]

Where , Q 1 and Q 2 are quantity demanded . P 1 And P 2 are market prices.

( Q 2 + Q 1 ) / 2 = Midpoint quantity and ( P 2 + P 1 ) / 2 = Midpoint price

Thus midpoint formula for elasticity of demand is division of change in quantities and price by the average of two quantities and prices. Elasticity of demand measures percentage change in quantity demanded due to percentage change in price.

The values indicate degrees of price elasticity of demand. That means when value of elasticity of demand is greater than 1, then it is perfectly elastic demand. Whereas when value of elasticity is less than 1 then it is perfectly inelastic demand. However, when elasticity is equal to 1 then it is unitary elastic demand.

So when elasticity of demand is equal to 1, then it is unitary elastic demand. Where percentage change in quantity demand is equal to percentage change in price. When Elasticity is equal to 2, then it is elastic demand where percentage change in quantity demanded is greater than percentage change in price. When elasticity is .50 then it is inelastic demand where percentage change in quantity demanded is less than percentage change in price.

The determinants of price elasticity of demand are -

a) Availability of close substitutes - If there are more number of close substitutes available then greater will be the elasticity of demand.

b) Luxury versus necessity - The necessary goods have inelastic demand whereas luxurious items have elastic demand because necessary goods have lower price elasticity.

c) Time horizon.- In the longer time period, more substitutes are available. So in longer period price elasticity of demand has higher elasticity than shorter time periods.

d) Income - More the percent of income spent on the goods , higher will be the price elasticity of demand. However , the demand for goods on which small fraction of income is spent will be inelastic.