What this lesson teaches
I can use price, income and cross elasticities to judge how large those changes will be.
Syllabus 9570, 2.1.2(g). Demand and Supply Analysis and its Applications: These outcomes can be affected by price elasticities of demand and supply, income and cross elasticities of demand
Make a guess
The price of a toy rises by 10% and toy makers raise output by only 4%. Is supply price elastic?
- Yes. Output rose, so supply responded to the price.
- No. Supply fell, because PES is below 1.
- No. PES is 0.4, so supply is price inelastic.
Show the answer
No. PES is 0.4, so supply is price inelastic.
PES = 4 / 10 = 0.4. Output still rises, but by a smaller percentage than the price, which is what inelastic means.
PES = % change in quantity supplied / % change in price. Above 1 is elastic; below 1 is inelastic.
Price elasticity of supply (PES) measures how much quantity supplied responds to a change in the good's own price, ceteris paribus.
PES = percentage change in quantity supplied / percentage change in price. It is positive, because price and quantity supplied move together.
If PES is more than 1, supply is price elastic: producers can raise output easily. If it is less than 1, supply is inelastic.
At the extremes, a vertical supply curve has PES = 0, like the fixed number of seats in a stadium on match day. A horizontal supply curve is perfectly elastic.
- PES
- % change in Qs / % change in P.
- Sign
- Positive.
- Vertical supply
- PES = 0.
Worked example: A manufacturer responds to a higher price
The price of a product rises by 5%. A factory with spare machines raises weekly output from 200 to 230 units.
- % change in quantity supplied = (230 - 200) / 200 x 100 = +15%.
- PES = 15 / 5 = 3.
- 3 is more than 1, so supply is price elastic. Spare capacity lets the factory respond quickly.
Watch out for this
A PES of 0.5 means supply falls when the price rises.
PES is positive, so quantity supplied still rises. A value below 1 only means it rises by a smaller percentage than the price.
Check your understanding
The price of durians rises by 20% but quantity supplied this season rises by only 2%. What is the PES?
- 10, elastic.
- -0.1, inelastic.
- 0.1, inelastic.
Show the answer
0.1, inelastic.
Right. 2 / 20 = 0.1. Trees take years to grow, so supply cannot respond much this season.