Inelastic Demand: Definition, Formula, Curve, Examples
People Don't Buy More of These Strange Things Even When Prices Drop
Definition: Inelastic demand in economics is when people buy about the same amount whether the price drops or rises. That happens with things people must have, like gasoline. Drivers must purchase the same amount even when the price increases. Likewise, they don't buy much more even if the price drops.
Inelastic demand is one of the three types of demand elasticity. It describes how much demand changes when the price does.
The other two are:
- Elastic demand: When the quantity demanded changes more than the price does.
- Unit elastic demand: When the quantity demanded changes the same as the price.
You calculate demand elasticity by dividing the percent change in the quantity demanded by the percent change in the price. For example, if the quantity demanded changes the same percent as the price, the ratio would be one. If the price dropped 10 percent, and the quantity demanded increased 10 percent, then the ratio would be 0.1/0.1 = 1. The Law of Demand says that the amount purchased moves inversely to price. That means you can ignore the plus and minus signs. That is called unit elastic.
Elastic demand is when the quantity to price ratio is more than one. That means if the price dropped 10 percent, and the amount demanded rose 50 percent, then the ratio would be 0.5/0.1 = 5.
At the other extreme, if the price dropped 10 percent and the quantity demanded didn't change, then the ratio would be 0/0.1 = 0.
That is known as being perfectly inelastic. Inelastic demand occurs when the ratio of quantity demanded to price is between zero (perfectly inelastic) and one (unit elastic).
For example, beef prices in 2014 rose 28 percent, but demand only fell 14.9 percent. This link takes you to the demand schedule.
Inelastic Demand Curve
You can also tell whether the demand for something is inelastic by looking at the demand curve. Since the quantity demanded doesn't change as much as the price, it will look steep. In fact, it will be any curve that is steeper than the unit elastic curve, which is diagonal.
The more inelastic the demand, the steeper the curve. If it's perfectly inelastic, then it will be a vertical line. That's because the quantity demanded won't budge, no matter what the price is. That's shown in the chart above.
Five factors determine demand for each individual. They are price, the price of alternatives, income, tastes and expectations. For aggregate demand, the sixth determinant is number of buyers. The demand curve shows how the quantity changes in response to price. If one of the other determinants change, it will shift the entire demand curve. That means more (or less) will be demanded, even though the price remains the same.
There is no example in real life of something with perfectly inelastic demand. If that were the case, then the supplier could charge an infinite amount, and people would have to buy it.
The only thing that would come close would be if someone managed to own all the air, or all the water, on Earth.
There is no substitute for either. People must have air and water, or they'd die in a short period. Even that's not perfectly inelastic. That's because the supplier couldn't charge 100 percent of the income in the world. People would still need some money for food, or they'd starve within a few weeks. It's hard to imagine a situation that would create perfectly inelastic demand.
But some products come close. For example, gasoline is something that drivers need a certain amount each week. Gas prices change every day. If there is a drop in supply, the prices will skyrocket. For example, that's what happened during the OPEC oil embargo in 1973.
People will still buy gas because they can't immediately change their driving habits. To shorten their commute time, they'd need to change jobs. They'd still need to get groceries at least weekly.
They could go to a store that's closer, if possible. But most people would tolerate higher gas prices before they would make such drastic changes. You can see how that would cause demand-pull inflation.
Price elasticity of demand, also known simply as "price elasticity," is more specific to price changes than the general term known as "elasticity of demand."
The formula for price elasticity is:
Price Elasticity = (% Change in Quantity) / (% Change in Price)
Let's look at an example. Assume that when gas prices increase by 50%, gas purchases fall by 25%. Using the formula above, we can calculate that the price elasticity of gasoline is:
Price Elasticity = (-25%) / (50%) = -0.50
Thus, we can say that for every percentage point that gas prices increase, the quantity of gas purchased decreases by half a percentage point.
Price elasticity is usually negative, as shown in the above example. That means that it follows the law of demand; as price increases quantity demanded decreases. As gas price goes up, the quantity of gas demanded will go down.
Price elasticity that is positive is uncommon. An example of a good with positive price elasticity is caviar. The buyers of caviar are generally wealthy individuals who believe that the more expensive the caviar, the better it must be. Thus, as the price of caviar goes up, the quantity of caviar demanded by wealthy people goes up as well.