GED Social Studies Practice Test: Elasticity of Demand

What is elasticity of demand? It’s the change in demand — sometimes big, sometimes small — for a product or service when the price changes. In other words, how will a higher price or a lower price affect the demand?

Here are two very plausible scenarios: A company achieves greater efficiency and is able to drop the price of a good a little bit. But demand for the good increases a lot. On the flip side, a small price increase may lead to a significant drop in demand.

Not every good (we’ll leave out services for the time being) has elastic demand. But those that do tend to share three things in common:

  1. the product is not a necessity (it’s a “nice to have” and not a “need to have”);
  2. there are substitutes for that good; or
  3. the good represents a sizeable chunk of the consumer’s income.

Let’s look again at the demand curve for pizza mentioned above. As you can see, even a small change in price causes a big change in demand. Pizza is not a necessity (well, for most people, anyway), and there are substitutes (hero sandwiches; tacos; falafel, etc.). And, when times are tight and you have less money, even a couple of dollars that you’d spend on pizza might be better spent on something else.

Inelastic Demand occurs when a change in price — whether small or large — has little or no change on the quantity of goods demanded.  Goods with inelastic demand tend to share three things in common:

  1. the product is a necessity (a “need to have” and not a “nice to have”);
  2. there are few (if any) substitutes; or
  3. the good does not represent a sizeable chunk of the consumer’s income.

Let’s name some goods that have elasticity of demand and some that have inelasticity of demand:

econ pic 16

econ pic 17

 

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