Chapters 5 and 6 – Using Supply and Demand &

Elasticity
Rengin Meryem Ayhan

March 25, 2025

Part I: Using Supply and Demand (Chapter 5)

Real-World Supply and Demand Applications
1. Drought in California (Avocados)

• Situation: Severe drought leads farmers to leave 500,000 acres of land fallow.

• Market: Avocados in the United States.

• Effect:

– The supply curve shifts left due to reduced productivity.

– Equilibrium price rises; equilibrium quantity falls.

2. Hydraulic Fracking (Sand)

• Situation: Expansion of fracking technology increases the need for sand.

• Market: Sand in the United States.

• Effect:

– The demand curve shifts right (higher demand for sand).

– Equilibrium price and quantity both rise.

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3. Edible Oils (China and India)

• Situation: A growing middle class in China and India demands more edible oils; U.S.
farmers shift land from soy to corn (for ethanol).

• Market: Global edible oils.

• Effect:

– Demand curve shifts right (higher demand).

– Supply curve shifts left (less soy-based oil production).
– Significant increase in equilibrium price; equilibrium quantity depends on relative
shift magnitudes.

Figure 1: Demand and Supply Applications

Summary of Shifts and Movements

• A movement along the curve occurs when the good’s own price changes, holding
other factors constant.

• A shift of the curve occurs when external factors (e.g., weather, technology, incomes,
tastes) change.

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 Figure 2: Demand and Supply Applications

Matching Exercise
Match each scenario to the correct shifts:
The exercise reinforces:

• If demand shifts right more than supply, price tends to rise significantly.

• If supply shifts left more than demand, quantity tends to fall sharply.

• Combinations of shifts can lead to ambiguous outcomes if both curves move in the
same direction with differing magnitudes.

Government Intervention: Price Ceilings, Price Floors,

and Taxes
Governments sometimes impose legal constraints on markets in pursuit of social, economic,
or political goals. We can summarize five key types of market intervention:

1. Price Ceilings
A price ceiling is a government-imposed limit on how high a price can be charged for a
good or service. When the ceiling is set below the market equilibrium, it creates a shortage
because the quantity demanded exceeds the quantity supplied at that artificially low price.
Rent Control Example: Rent control has been implemented in various cities, such
as Paris (especially during and after World War II) and New York. While it aims to keep
housing affordable, several unintended consequences often arise.

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 Figure 3: Demand and Supply Applications

• Goal: Keep housing affordable.

• Outcome: Chronic shortages, lower-quality apartments, and black markets for rental
units.

• Historical Cases: Rent controls in Paris and New York City often led to mismatches
between supply and demand.

2. Price Floors
A price floor is a government-imposed minimum price, set above the market equilibrium.
Minimum Wage Example

• Goal: Ensure workers receive a wage deemed sufficient for basic living expenses.

• Outcome: Potential unemployment if the mandated wage exceeds the market-clearing

level; employers may reduce hiring.

• Debate: Some argue moderate minimum wages have minimal negative effects; others
highlight reduced job opportunities for lower-skilled workers.

3. Excise Taxes
An excise tax is placed on a specific good, such as boats or cigarettes.
Boat Tax Example

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 Figure 4: Demand and Supply Applications

• Goal: The United States introduced a luxury tax on expensive boats. Generate
revenue from luxury goods.

• Outcome: Reduces quantity sold; tax burden shared by producers and consumers
depending on elasticity.

• Revenue vs. Quantity: If demand is elastic, total revenue from the tax may be lower
than anticipated.

4. Tariffs
A tariff is a tax on imported goods, aimed at protecting domestic producers by making
foreign products more expensive in the domestic market.
*Steel Tariff Example

• Goal: A 30% tariff was imposed on imported steel in the early 2000s to shield U.S.
steelmakers from cheaper foreign competition.

• Outcome: Higher domestic steel prices benefit local steel producers but raise costs for
industries relying on steel (e.g., car manufacturers). This can lead to higher consumer
prices and potentially reduced trade volume.

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 Figure 5: Demand and Supply Applications

5. Quantity Restrictions
A quantity restriction is a government-imposed limit on how many units of a good or
service can be produced or sold.

Figure 6: Demand and Supply Applications

*Taxi Medallions in New York City

• Historical Context: In 1937, New York City began issuing a fixed number of taxi
licenses (medallions), effectively restricting the supply of taxis.

• Market Effect: With a capped number of medallions, demand for taxi services grew
over time, driving up the value of each medallion. Medallions were bought and sold on
a secondary market at high prices.

• Implications:

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 – Drivers without medallions had to purchase or lease them from existing holders,
often at steep costs.
– The limited number of taxis contributed to higher fares, benefiting medallion
owners but reducing competition.

Conclusion
All these interventions alter market equilibria by shifting supply or demand curves and
imposing legal constraints on prices. While they may achieve specific objectives, they also
produce unintended side effects such as shortages, surpluses, and inefficiencies. Economists
analyze these outcomes by looking at changes in equilibrium price, quantity, and overall
welfare, balancing efficiency against equity considerations.

Appendix

1. Algebraic Representation of Supply, Demand, and

Equilibrium
Supply and Demand Equations
A typical way to represent market behavior is by using linear equations:

• Supply Equation: QS = a + bP , where QS is the quantity supplied, P is the price,

and a and b are constants.

• Demand Equation: QD = c − dP , where QD is the quantity demanded, P is the

price, and c and d are constants.

These simple linear equations illustrate the fundamental distinction between supply and
demand:

• Supply: Positively sloped; higher prices lead to increased production.

• Demand: Negatively sloped; higher prices reduce the quantity consumers purchase.

Equilibrium Condition
Market equilibrium occurs where the quantity supplied equals the quantity demanded:

a + bP = c − dP.

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 Figure 7: Demand and Supply Applications

Solving for P gives:

c−a
(b + d)P = c − a =⇒ P∗ = .
b+d
Once P ∗ is found, substitute it back into either equation to determine the equilibrium quan-
tity Q∗ .
Example: If QS = 5 + 2P and QD = 10 − P , then:

5
5 + 2P = 10 − P =⇒ 3P = 5 =⇒ P∗ = ≈ 1.67.
3
Then, Q∗ = 5 + 2(1.67) ≈ 8.33.

2. Movements vs. Shifts in Supply and Demand

Movement Along a Curve
As you move down the rows:

• Quantity Supplied Increases: Suppliers are more willing to provide larger quan-
tities at higher prices (reflecting the positive relationship between price and quantity
supplied).

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 Figure 8: Demand and Supply Applications

• Quantity Demanded Decreases: Consumers buy fewer units as the price goes up
(reflecting the negative relationship between price and quantity demanded).

A change in the price of the good causes a movement along the existing supply or demand
curve. For instance, if the price increases from $1 to $2, the change in quantity demanded
or supplied can be calculated by substituting the new price into the equation.

Shifts of the Curve

A shift in the entire curve occurs when a non-price factor (e.g., technology, income, or
preferences) changes.

• A rightward shift in the supply curve, increasing the quantity supplied by a constant
amount at every price.

• A rightward shift in the demand curve, increasing the quantity demanded by a constant
amount at every price.

• Additional examples illustrating how to set up and solve linear supply and demand
equations step by step.

• A scenario referencing “Alice’s demand curve,” which shifts or changes intercepts to

reflect how her consumption changes with price.

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1. Shifting Supply: Example
Suppose the original supply equation is:

QS = −5 + 2P,

and we shift it outward by 3 units at every price, making the new supply:

Q′S = −2 + 2P.

Meanwhile, demand might remain at:

QD = 10 − P.

Steps to Solve for Equilibrium

1. Set the new supply equal to demand:

10 − P = −2 + 2P.

2. Solve for the new equilibrium price:

3P = 12 =⇒ P ∗ = 4.

3. Find the new equilibrium quantity:

Q′S = −2 + 2(4) = 6 or QD = 10 − 4 = 6.

Thus, the equilibrium price rises to $4, and the equilibrium quantity becomes 6 units, con-
sistent with a rightward shift in supply raising both price and quantity.

2. Shifting Demand: Example

Now suppose demand increases by 3 units at every price. If the original demand is:

QD = 10 − P,

the new demand curve is:

Q′D = 13 − P.

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If supply remains at QS = −5 + 2P , then:

13 − P = −5 + 2P =⇒ 3P = 18 =⇒ P ∗ = 6.

Substitute P ∗ = 6 back into either equation:

QS = −5 + 2(6) = 7 or Q′D = 13 − 6 = 7.

Hence, the new equilibrium is (P ∗ , Q∗ ) = (6, 7). This scenario shows how a rightward shift
in demand increases both equilibrium price and quantity.

3. Additional Examples and Calculations

Varying Intercepts and Coefficients

In some cases, both the intercept and the slope of supply or demand can change. For instance:

QS = −100 + 4P and QD = 500 − 2P.

Solving for equilibrium means:

−100 + 4P = 500 − 2P =⇒ 6P = 600 =⇒ P ∗ = 100,

and
Q∗ = −100 + 4(100) = 300.

This might represent thousands of units, e.g. 300 thousand bushels.

Price Ceilings and Price Floors

This snippet illustrates how to analyze a price ceiling and a price floor using simple
supply and demand equations:

QS = −5 + 2P, QD = 10 − P.

The market equilibrium is found by setting QS = QD .

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 1. Equilibrium Calculation

−5 + 2P = 10 − P
3P = 15
P ∗ = 5, Q∗ = 5.

Thus, the equilibrium price is $5, and the equilibrium quantity is 5 units.
2. Price Ceiling at $4
A price ceiling is a government-imposed maximum price set below equilibrium:

P = 4.

• Quantity Supplied: QS = −5 + 2(4) = 3.

• Quantity Demanded: QD = 10 − 4 = 6.

Since QD > QS , there is a shortage of 6 − 3 = 3 units.

3. Price Floor at $6
A price floor is a government-imposed minimum price set above equilibrium:

P = 6.

• Quantity Supplied: QS = −5 + 2(6) = 7.

• Quantity Demanded: QD = 10 − 6 = 4.

Since QS > QD , there is a surplus of 7 − 4 = 3 units.

Taxes and Subsidies

Excise Taxes
An excise tax on a good introduces a wedge between the price consumers pay (PD ) and the
price producers receive (PS ). For a per-unit tax t levied on producers:

PS = PD − t.

This effectively shifts the supply curve upward. The new equilibrium is found by substituting
PS into the supply equation and solving for the adjusted equilibrium.

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1. Tax on the Supplier
Original Supply and Demand

QS = −5 + 2P, QD = 10 − P.

Without a tax, solving for equilibrium:

−5 + 2P = 10 − P =⇒ 3P = 15 =⇒ P ∗ = 5, Q∗ = 5.

$1 Tax Imposed on Suppliers

Producers now effectively receive (P − 1) for each unit sold, so the supply equation
becomes:
QS = −5 + 2(P − 1) = −5 + 2P − 2 = −7 + 2P.

We keep demand at QD = 10 − P . Setting them equal:

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−7 + 2P = 10 − P =⇒ 3P = 17 =⇒ P = ≈ 5.67.
3
This is the price consumers pay. The supplier receives P − 1 ≈ 4.67. The new equilibrium
quantity is found by substituting P back:

17 −21 + 34 13
 
Q = −7 + 2 = = ≈ 4.33.
3 3 3
2. Tax on the Demander
If the $1 tax is placed on demanders, they effectively pay (P + 1) for each unit. The
demand equation becomes:
QD = 10 − (P + 1) = 9 − P.

Supply remains QS = −5 + 2P . Equating them:

14
−5 + 2P = 9 − P =⇒ 3P = 14 =⇒ P = ≈ 4.67.
3
Here, the supplier receives P ≈ 4.67, while consumers pay P + 1 ≈ 5.67. Substituting P into
either equation yields:

14 −15 + 28 13
 
Q = −5 + 2 = = ≈ 4.33.
3 3 3

3. Incidence of the Tax In both scenarios, the equilibrium quantity is 13

3
≈ 4.33 units.
The total wedge between what consumers pay and what producers receive is $1.

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 • Supplier Tax: Consumer price is $5.67, producer net is $4.67.

• Demander Tax: Consumer net price is $5.67, producer receives $4.67.

Thus, the outcome for market quantity and overall price is effectively the same, demonstrat-
ing that tax incidence depends on the relative elasticities of supply and demand, not on
which side of the market is legally responsible for paying the tax.

Subsidies
Subsidies work like negative taxes by lowering production costs or increasing effective de-
mand. A subsidy shifts the supply curve downward (or the demand curve upward) and leads
to a higher equilibrium quantity, with a differential between the price paid by consumers
and the net price received by producers.

4. Price Ceilings and Price Floors

Price Ceilings A price ceiling is a legal maximum price set below the market equilibrium.
When binding, it creates a shortage since:

QD > QS .

Example: Rent control in some cities restricts rental prices, leading to housing shortages
and reduced property maintenance.
Price Floors A price floor is a legal minimum price set above the market equilibrium.
When binding, it creates a surplus because:

QS > QD .

Example: A minimum wage set above the market-clearing wage can lead to unemployment
as the number of workers willing to work exceeds the number of jobs available at that wage.

5. Quotas
A quota is a government-imposed limit on the quantity of a good that can be produced or
sold. Instead of controlling price directly, quotas restrict the maximum quantity available,
which can lead to higher prices if demand remains strong. Quotas may create an implicit
price called quota rent, similar in effect to the wedge created by a tax. Example: Quota
of 34 Units Consider a simple demand equation:

QD = 10 − P,

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and a quota limiting supply to:
4
QS = .
3
Since the quantity supplied is fixed at 43 , the market price must adjust until consumers are
willing to buy exactly 43 units.
Finding the Price Set QD = 43 :

4 4 26
= 10 − P =⇒ P = 10 − = ≈ 8.67.
3 3 3
This is the price consumers pay. Suppliers receive this entire amount since there is no explicit
tax, but they can only sell 43 units in total.

Comparison to a Tax
Much like a tax, a quota restricts the quantity below equilibrium. However, the difference
is:

• Tax: Creates a wedge between the price consumers pay and the price producers receive.
The government collects tax revenue.

• Quota: Imposes a hard cap on quantity, raising the market price until demand meets
that fixed supply. The “quota rent” (the difference between the lower free-market price
and the higher quota-driven price) goes to whoever holds the quota rights.

6. Overall Takeaways
• Algebraic methods allow us to calculate equilibrium price and quantity precisely.

• Movements along the curves are driven by changes in the good’s own price, while
shifts result from changes in external factors.

• Taxes and subsidies alter the effective prices, shifting curves and changing equilib-
rium outcomes.

• Price ceilings and floors are direct government interventions that can lead to short-
ages or surpluses.

• Quotas restrict the total quantity available and can raise market prices.

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Conclusion
By transitioning from graphical representations to algebraic equations, we gain a clearer,
quantitative understanding of how market forces interact and how policies impact these
forces. Whether dealing with taxes, subsidies, price controls, or quantity restrictions, the
algebraic approach helps us predict changes in equilibrium and assess the trade-offs involved.
This framework is essential for analyzing both theoretical models and real-world economic
policies.

Part II: Elasticity (Chapter 6)

1. Defining Elasticity
Elasticity measures how much one variable responds to changes in another. The most
common type is price elasticity of demand, (Ed ), which tells us how sensitive quantity
demanded is to a change in price.

% change in quantity demanded

Ed =
% change in price
Price elasticity of supply (Es ) measures the responsiveness of the quantity supplied
to a change in price. It is calculated as:

% change in quantity supplied

Es = .
% change in price

Because supply generally has a direct relationship with price, Es is typically reported as
a positive value. In contrast, demand has an inverse relationship with price, leading to a
negative elasticity, though economists often discuss the magnitude as a positive number for
convenience.

Illustrative Examples
• Price Elasticity of Demand Example: If the price of a good rises by 10% and
quantity demanded falls by 20%, the price elasticity of demand is:

20%
Ed = = 2.
10%
Even though the mathematical result is −2 due to the inverse relationship, economists
typically use the absolute value and say “2” to emphasize the responsiveness.

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 • Price Elasticity of Supply Example: Suppose the price rises by 10%, and quantity
supplied increases by 2%. The price elasticity of supply is:

2%
Es = = 0.2.
10%
This relatively small value indicates that suppliers are not highly responsive to price
changes in this scenario.

• Another Demand Example: If a 10% price hike causes a 15% drop in quantity
demanded, the price elasticity of demand is:

15%
Ed = = 1.5.
10%

Interpretation

• A larger elasticity (greater than 1 in absolute value) means quantity is highly re-
sponsive to price changes.

• A smaller elasticity (less than 1 in absolute value) indicates quantity changes rela-
tively little in response to price shifts.

Price elasticity of demand and supply quantitatively measures how much the quan-
tity demanded or supplied responds to a change in price. A higher elasticity value indicates a
more pronounced response to price shifts, while a lower elasticity value suggests a relatively
minor response.

• Elasticity of Demand = 0.3: A 10% increase in price leads to only a 3% decline in

quantity demanded. This indicates demand is not very responsive to price changes.

• Elasticity of Demand = 5: The same 10% increase in price causes a 50% drop in
quantity demanded, reflecting a highly responsive (elastic) demand.

2. Types of Elasticity
• Elastic Demand: Elasticity > 1. A 1% price increase leads to more than a 1% decrease
in quantity demanded.

• Inelastic Demand: Elasticity < 1. A 1% price increase leads to less than a 1% decrease
in quantity demanded.

• Unit Elastic: Elasticity = 1. A 1% price change leads to an exactly 1% change in

quantity demanded.

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• Perfectly Inelastic: Elasticity = 0. Quantity demanded does not change at all with
price (rare in real markets).

• Perfectly Elastic: Elasticity → ∞. A tiny price change causes an extreme change in

quantity demanded (also rare).

3. Real-World Examples of Price Elasticity

• Case 1 (Toll Roads in Orange County, Florida): A toll increase led to only a
1.8% drop in the number of motorists, despite a 14% price increase. This yields an
elasticity of about 0.13, indicating inelastic demand for toll roads.

• Case 2 (Gasoline in Washington, D.C.): When gas prices rose by 1%, quantity
demanded fell by 4%. This corresponds to an elasticity of 4, showing an elastic response
to price changes.

• Case 3 (Gasoline in Vermont): A gas price rise of 11% caused an 8% drop in

quantity demanded, giving an elasticity less than 1 (around 0.7–0.8), again relatively
inelastic compared to Case 2.

4. The Midpoint Formula

The formula for a percentage change in price is:

P2 − P1
%∆P = (P2 +P1 )
× 100%.
2

Similarly, the percentage change in quantity is:

Q2 − Q1
%∆Q = (Q2 +Q1 )
× 100%.
2

Once these percentage changes are found, price elasticity of demand is:

%∆Q
Ed = .
%∆P
Illustrative Example
If the price increases from $20 to $26:

(26 − 20) 6
%∆P = 26+20 × 100% = × 100% ≈ 26.1%.
2
23

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 Figure 9: Demand and Supply Applications

If the quantity demanded decreases from 14 units to 10 units:

(10 − 14) −4
%∆Q = 10+14 × 100% = × 100% = −33.3%.
2
12

Hence, the elasticity is:

−33.3%
Ed = ≈ −1.27.
26.1%
Economists often drop the negative sign for demand and report |Ed | ≈ 1.27.
Elasticity Along Straight-Line Curves and Substitution Factors

5. Elasticity vs. Slope

Elasticity measures how responsive quantity is to price changes, whereas slope measures the
rate of change in quantity with respect to price. On a straight-line demand or supply curve,
the slope is constant, but elasticity varies from one point to another:

• High-price, low-quantity region: Demand (or supply) tends to be more elastic

because a small absolute change in quantity can be a large percentage change.

• Low-price, high-quantity region: Demand (or supply) becomes less elastic because
a change in quantity is a smaller percentage relative to the larger base quantity.

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6. Five Terms to Describe Elasticity
1. Perfectly Elastic (E = ∞): Even a tiny price change causes an infinite change in
quantity.

2. Elastic (E > 1): The percentage change in quantity exceeds the percentage change in
price.

3. Unit Elastic (E = 1): The percentage change in quantity equals the percentage
change in price.

4. Inelastic (E < 1): The percentage change in quantity is smaller than the percentage
change in price.

5. Perfectly Inelastic (E = 0): Quantity does not respond at all to price changes.

7. Changing Elasticity Along a Straight-Line Curve

• On a linear demand curve, the upper portion is typically elastic (since price is high
and quantity is low), while the lower portion is inelastic (price is lower and quantity
is higher).

• The point at which E = 1 (unit elastic) divides the curve into an elastic region above
and an inelastic region below (for a typical downward-sloping demand curve).

• Supply curves can also move from perfectly inelastic (where the curve intercepts the
quantity axis) to perfectly elastic (where it intercepts the price axis), changing elasticity
along the way.

8. Factors Influencing Elasticity

• Substitution Availability: The more (and closer) substitutes a good has, the more
elastic its demand. For example, if Hulu’s price increases, consumers can switch to
Netflix.

• Time Horizon: Demand (or supply) often becomes more elastic over time as con-
sumers (or producers) find alternatives or adjust behaviors.

• Necessities vs. Luxuries: Necessities (e.g., salt) tend to be inelastic; luxuries (e.g.,
cheesecake) are more elastic.

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 Figure 10: Demand and Supply Applications

• Share of Budget: Goods that consume a large portion of one’s budget are more
elastic in demand because price changes have a greater impact on overall spending.

• Market Definition: How narrowly or broadly a good is defined (e.g., “gasoline in

Washington, D.C.” vs. “gasoline in adjacent states”) can affect measured elasticity, as
cross-border or cross-product substitution options may exist.

Illustrative Examples

• Gas Taxes: A 10% price increase may have only a small immediate effect on quantity
demanded if consumers lack quick alternatives, but over time, they may buy more
fuel-efficient cars, making long-run demand more elastic.

• Regional Price Differences: In border areas (e.g., Vermont vs. New Hampshire,

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 Washington vs. Oregon), consumers may cross state lines to take advantage of cheaper
prices, showing higher elasticity for certain goods.

9. Elasticity and Total Revenue

Elastic, Inelastic, and Unit Elastic Demand - If a good’s demand is elastic (Ed > 1),
a rise in price reduces total revenue because the percentage drop in quantity demanded is
larger than the percentage increase in price. - If demand is inelastic (Ed < 1), a rise in
price increases total revenue because quantity demanded falls by a smaller percentage than
the price rises. - If demand is unit elastic (Ed = 1), a price change leaves total revenue
unchanged.

Figure 11: Demand and Supply Applications

Total Revenue Along a Demand Curve - Total Revenue (T R) is P × Q. - As

we move along a straight-line demand curve, elasticity changes from elastic (high price, low
quantity) to inelastic (low price, high quantity). - When output is zero, total revenue is zero;
similarly, when price is zero, total revenue is zero. Between these extremes, total revenue
rises at first and eventually falls as quantity grows large.

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10. Other Types of Elasticity
Income Elasticity of Demand

% change in quantity demanded

Income Elasticity of Demand = .
% change in income

- If a good is normal, the income elasticity is positive (EI > 0). - If a good is inferior, the
income elasticity is negative (EI < 0). - For a necessity, 0 < EI < 1; for a luxury, EI > 1.
Examples - Luxury vs. Necessity: A 20% income increase might raise music stream-
ing consumption by more than 20% if it’s considered a luxury (elastic). By contrast, a basic
staple like shoes might have an income elasticity between 0 and 1, showing a smaller propor-
tional increase in quantity demanded. - Inferior Goods: Some goods (e.g., certain cheaper
staple foods) may experience a decline in consumption as income rises.
Cross-Price Elasticity of Demand

% change in quantity demanded of Good A

Cross-Price Elasticity of Demand = .
% change in price of Good B

- If the cross-price elasticity is positive, the goods are substitutes (e.g., iPhones and
Android phones). - If it is negative, the goods are complements (e.g., hot dogs and
buns). - If it is zero, the goods are unrelated.
Examples - Beef and Lamb: If the price of beef rises, and consumers switch to lamb,
we see a positive cross-price elasticity for lamb. - Gasoline and Cars: Typically, gasoline
and large cars could be seen as complements, implying a negative cross-price elasticity if a
price change in one affects demand for the other in the opposite direction.

11. Elasticity in Pricing Decisions

• Inelastic Demand: If demand for a good is inelastic, a price increase can raise total
revenue because the drop in quantity demanded is proportionally smaller than the
price increase. In the short run, some businesses might benefit from higher prices if
consumers are not very responsive.

• Elastic Demand: If demand is elastic, raising prices can lead to a significant drop in
quantity demanded, causing total revenue to fall. In such markets, lowering the price
could increase total revenue by attracting more buyers.

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12. The Power of Supply/Demand Analysis
• Long-Run vs. Short-Run Effects: Elasticities often grow larger over time as buy-
ers adjust. A short-run price hike could yield higher revenue, but in the long run,
consumers may reduce usage or switch to substitutes, eroding those gains.

• Firm Strategy: Firms use elasticity insights to forecast how a price change will affect
revenue and profit, considering both immediate reactions and longer-term adjustments
in the market.

• Policy Insight: Policymakers also rely on elasticity analysis to anticipate how taxes,
subsidies, or regulations will shift consumption, production, and overall market behav-
ior.

Key Insight
• Elastic Demand (or Supply): A shift in the opposite curve (supply or demand)
primarily affects quantity rather than price. For example, if demand is highly elastic
and supply shifts, the new equilibrium will see a large change in quantity but only a
small change in price.

• Inelastic Demand (or Supply): A shift in the opposite curve largely affects price
rather than quantity. For example, if demand is highly inelastic and supply shifts,
the new equilibrium will show a significant price change but only a minor change in
quantity.

Examples of Observed Changes

Consider three scenarios:

1. Price rises significantly; quantity hardly changes. This suggests demand is

highly inelastic (or supply shifts drastically).

2. Price remains almost constant; quantity rises enormously. This indicates

demand is highly elastic (or supply shifts, but price barely moves).

3. Price falls significantly; quantity hardly changes. Again, an inelastic response

(or the opposite curve is shifting and demand/supply is inelastic).

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Conclusion
Understanding whether supply or demand is elastic or inelastic is crucial for predicting
how shifts in one curve will affect equilibrium. If either side is inelastic, expect substantial
price movements and minimal quantity changes. If either side is elastic, anticipate more
substantial quantity changes and smaller price adjustments. This interplay helps economists
and policymakers forecast market outcomes when external factors (technology, preferences,
resource costs, etc.) shift supply or demand.

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