Question

What is the difference between price elasticity of demand and elasticity of substitution? Explain the various measures of price elasticity of demand.

Answer 1

Price effect, that is, the effect on the quantity demanded of a good due to a change in price, depends upon income effect on the one hand and substitution effect on the other. Similarly, price elasticity of demand which is the relative measure of the price effect depends upon the income elasticity on the one hand and substitution elasticity on the other.

Thus, price elasticity, in a way, is a compromise between income elasticity and substitution elasticity of demand. The relationship between these three elasticity’s can be expressed in the form of Slutsky equation.