Elastic

Key Takeaways

• Elasticity is a ratio: the percentage change in quantity divided by the percentage change in price. A ratio above 1 is elastic and a ratio below 1 is inelastic.
• A 5 percent price change that moves quantity 7 percent is elastic. The same 5 percent change moving quantity only 3 percent is inelastic.
• Housing demand is usually treated as relatively inelastic in the short run, because shelter is hard to postpone, while new construction supply is treated as more elastic because builders respond to price.
• Elasticity is always a statement about a time frame. The same market can be nearly frozen over three months and quite responsive over three years.

What It Means

Elastic describes how strongly buyers or sellers react when a price moves. The test is a ratio: divide the percentage change in the quantity demanded or supplied by the percentage change in price. If a 5 percent price cut brings a 7 percent jump in the quantity people want, the ratio is 1.4 and the response is elastic. If that same 5 percent cut moves quantity only 3 percent, the ratio is 0.6 and the response is inelastic. Above 1 is elastic. Below 1 is inelastic. That is the whole test.

Real estate splits along that line in a way worth memorizing. Demand for housing is usually treated as relatively inelastic in the short run, because people need somewhere to live and cannot defer shelter the way they defer a vacation. The supply of new construction is treated as more elastic, because builders do respond to price: when values rise, permits and starts follow. Neither side reacts instantly, which is why elasticity is always a question about a time frame, and why a Market Value opinion carries a date. The same swing is what a broker is describing when they call a market a buyer's market or a seller's market.

How It Works in Washington

Washington's Growth Management Act is the reason supply elasticity behaves differently here than in a state with looser land use. Under RCW 36.70A.110, each planning county must designate an urban growth area within which urban growth is encouraged and outside of which growth can occur only if it is not urban in nature, and the county and its cities must include areas and densities sufficient for the urban growth projected for the succeeding twenty-year period. RCW 36.70A.115 adds that comprehensive plans and development regulations must, taken collectively, provide sufficient capacity of land suitable for development to accommodate allocated housing and employment growth, consistent with the twenty-year population forecast from the office of financial management.

Read that as a supply constraint with a slow release valve. A price spike cannot pull raw land into the market here the way it might elsewhere, because the boundary is drawn in a Comprehensive Plan and moving it takes a public process, not a check. In the short run, land supply inside a built-out urban growth area is close to inelastic, so price pressure surfaces as bidding rather than as new lots. Over a planning cycle, Rezoning and density changes let supply respond. That timing gap explains much of what separates King County from the rest of the state.

Example

Dana lists a two-bedroom condo in Tacoma at $420,000. In three weeks she logs 40 showings and receives no offers. She cuts the price 5 percent to $399,000. Over the next three weeks showings climb to 58, an increase of 45 percent, and two offers arrive. Divide the 45 percent change in buyer activity by the 5 percent change in price and the ratio is 9. Anything above 1 is elastic, so demand at that price point was highly elastic, and a small cut did a large amount of work.

The supply side of the same building tells the opposite story on the same timeline. The building is finished and the parcel is fully built out, so the price signal her two offers send produces zero additional units over those six weeks. Supply there is effectively inelastic in the short run, which is why the price signal shows up as competing offers on her unit instead of new inventory next door.

Common Mistakes and Exam Traps

• Elastic describes how much the quantity moves when price moves. It does not describe how much the price itself moves.
• A ratio above 1 is elastic and a ratio below 1 is inelastic. A 5 percent price change that shifts quantity 3 percent is inelastic, even though something did change.
• Demand and supply have separate elasticities in the same market. Exam questions often describe an inelastic demand curve and an elastic supply curve in the same paragraph on purpose.
• Elasticity depends on the time frame. Land inside a Washington urban growth area is close to fixed over a season even when prices rise sharply, and only responds over a planning cycle.