Econ 101 Ch. 6 Elasticity
% change in price
(∆ price / initial price) * 100
% change in quantity demanded
(∆ qty demaded / intial qty demanded) * 100
Complements and PED
Cross PED is negative for complements ex) when hotdog buns become more expensive, hotdog demand decreases DO NOT DROP THE NEGATIVE SIGN
Substitutes and cross PED
Cross PED is positive for substitutes ex) when hotdogs become more expensive, hamburger demand rises
1 < PED < infinity
Elastic; rise in price reduces total revenue Quantity effect dominates price effect
Inelastic
If PED < 1 Demand curve is more steep Increase in price (y variable) generates smaller decrease in qty demanded (x)
Elastic
If PED > 1 Demand curve is flatter Increase in price generates even bigger decrease in quantity
Income inelastic
If income elasticity of demand for that good is positive but less than one When income rises, the demand for income inelastic good rises, but more slowly than income
Income elastic
Income elasticity of demand for that good is greater than 1 When income rises, the demand for income elastic goods rises faster than income
Inferior good
Income elasticity of demand is negative Quantity demanded at any price decreases as income increases
Normal good
Income elasticity of demand is positive Quantity demanded at any price increases as income increases
Income elasticity of demand
Measure of how much the demand for a good is affected by changes in consumers' incomes. Determine if the good is normal or inferior (%∆ in qty demanded) / (%∆ income)
Elasticity using substitutes
More specific good (ex: granny smith apple) has more substitutes, thus it is more elastic More general goods(ex: food) has fewer substitutes and thus more inelastic
UNIT??
No! Elasticity is an unit free measure
0 < PEs < infinity
Ordinary upward sloping supply curve
Total revenue
The total value of sales of a good or service, equal to the price multiplied by the quantity sold TR = Price * quantity sold A square (in the graph) Total revenue curve looks like a dome; total revenue is highest when PED = 1
PED = 1
Unit elastic; change in price has no effect on total revenue
Perfectly elastic
When any price increase will cause the quantity demanded to drop to zero HORIZONTAL demand curve
High PED
When consumers change their quantity demanded by a large percentage compared with the percentage change in price Highly elastic (when PED > 1)
Perfectly elastic supply
When even a tiny increase or reduction in supply will lead to very large changes in the quantity supplied HORIZONTAL supply curve
Perfectly inelastic supply
When the PES is 0, so that changes in the price of the good has no effect on the quantity supplied VERTICAL supply curve
Perfectly inelastic demand
When the quantity demanded does not respond at all to the change in the price. VERTICAL demand line
Price elasticity of supply
A measure of responsiveness of the quantity of a good supplied to the price of that good PES = (%∆ in qty supplied) / (%∆ price)
0 < PED < 1
A rise in price increases total revenue Inelastic Price effect dominates quantity effect
Price effect
After a price increase, each unit sold sells at a higher price, which tends to raise revenue
Quantity effect
After price increase, fewer units are sold, which tends to lower revenue
How PED changes along the demand curve
At lower price, demand is elastic a higher price reduces total revenue. At one point, demand is unit-elastic At higher price, demand is inelastic; a higher price increases total revenue Total revenue curve looks like a dome; total revenue is highest when PED = 1
Cross price Elasticity of Demand
CP PED between two goods measures the effect of the change in one good's price on the quantity demanded of the other food. CP PED = (%∆ in qty A demanded) / (%∆ price B)
Inelastic demand & change in price
PED < 1. A higher price increases total revenue, Price effect is stronger than the quantity effect Price effect dominates the quantity effect; fall in price reduces the total revenue
Unit elastic
PED = 1
Unit elastic demand & change in price
PED = 1. Increase in price does not change the total revenue; the quantity effect
Elastic demand & change in price
PED > 1. An in crease in price reduces the total revenue. The quantity effect is stronger than the price effect. Quantity effect dominates the price effect, so a fall in price increases total revenue
Time elapsed since price change and PED
PED increase as consumers have more time to adjust to price change Long-run PED is higher than short run PED
The availability of close substitutes and PED
PED is high if there are other readily available goods that consumers regard as similar More substitutes - higher PED
Necessity v. Luxury and PED
PED is low for necessity PED is high for luxury goods
Share of income spent on the good and PED
PED is low when spending on a good accounts for a small share of the consumer's income When the good amounts for a significant share of a consumer's spending, the consumer is more responsive - high PED
The availability of inputs and PES
PES tends to be large when inputs are readily available and can be shifted into and out of production at relativity low cost PES is small when inputs are difficult to obtain
Time and PES
PES tends to grow larger as producers have more time to respond to a price change Long run PES is higher than short run PES
PED = Infinity
Perfectly inelastic; any rise in price causes quantity demand fall to 0. Any fall in price leads to an infinite quantity demanded Horizontal demand curve
High price & PED
Raising the price further reduces the total revenue PED changes depending on the current price
Price elasticity of demand
Ratio of the percent change in quantity demanded to the percentage change in price Drop the negative sign! Larger the PED, the more responsive the quantity demanded is to the price
Midpoint method
Technique for calculating the percentage change. Calculate changes in a variable compared with the average (midpoint) of the starting and final values % change in X = (change in X / Average value of X) * 100 Use for both qty and price
Factors that determine the PED
The availability of close substitutes Necessity v. luxury Share of income spent on good Time elapsed since price change
What determines the price elasticity of supply?
The availability of inputs Time
