I learned about 3 different kinds of elasticity, elasticity of demand, elasticity of supply, and cross elasticity. Ill try to explain elasticity of demand because the other elasticities are basically the same.
So here is our demand curve. Just as a refresher, as price goes up the quantity demanded goes down. Now elasticity is basically how does the change in price affect the quantity demanded and when we calculate elasticity we should arrive at a number. So in the chart above we have a point at p1 and q1 and then we have a point at p2 and q2. Lats assume point one has a price of $10 and a quantity of 7 while the other point has a price of $8 and a quantity of 11. With theses numbers we use the formula for elasticity which is (% change in quantity)/(%change in price). Lets start with the % change in quantity. To calculate this you do the difference of the prices over the average of the two (the reason we use the average of the two prices is because this makes the elasticity the same when you go from p1 to p2 or if you go from p2 to p1). So with is formula we find that the %change equals -2/9.
Now lets calculate the % change in price. Using the same formula as the other one we do difference/ average. So the difference of 7 to 11 is 4 and the average of the two is 9. so we have the % change in price as 4/9.
Lets put this into our elasticity formula %change in quantity over % change in price. Which is (-2/9)/(4/9). And this gets us -0.5. Usually its the absolute value o this number so we are left with 0.5. And this is the elasticity.
The way we interpret this number is called inelastic. This basically means that the number we arrived with was less than one. If the number was 1 or close to one, that would be unit elasticity, and if the number was greater than one then it would be elastic.
Companys will then use this number to find how much a change in price will affect the quantity. And it is from this elasticity that companies try to strive for an elasticity of 1 or the unit elasticity. At this point the amount of money you make (price * quantity) is at its greatest value.
Thats basically what I got out of all the videos and I hope I explained that right. Elasticity of supply is the same thing but with supply. And then cross elasticity is seeing how the price of another company affects the quantity demanded of your company.
I hope these videos get easier to follow. If you have any questions comment below :)
This is really interesting and it is great to see that you are learning and progressing with your project. Your explanation was very helpful in explaining what you have learned in a simple way. For companies to get close to 1, do they have to modify the way they make the product or is it more of just figuring out what the proper balance is. It is also cool to see that the stuff you are learning is easily applied to actual businesses.
ReplyDeletePretty complicated stuff it seems like here, but I bet knowing this is an extreme advantage when analyzing stocks and businesses. It seems like this is a good way to evaluate whether or not a product will be successful for the long haul, and whether or not you would invest in the company. I'll have to keep this in mind when I have to invest, as it seems to give a lot of important information.
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