ECON chapter 6

The Determinants of the price elasticity of demand

-availability of close substitutes -passage of time -luxuries versus necessities -definition of the market -share of a good in the consumer budget

Summary of cross price elasticity of demand.

If products are : -substitutes - the cross price elasticity of demand will be positive. eg. two brands of tablet computers -complements - the cross price elasticity of demand will be negative. eg. tablet computers and applications downloaded from online stores -unrelated - the cross price elasticity of demand will be zero eg. tablet computers and peanut butter

Summary of the income elasticity of demand.

If the income elasticity of demand is : - positive but less than 1 , than the good is normal and a necessity. eg bread. - positive but greater than 1, than the good is normal and a luxury. eg Caviar -negative, than the good is inferior eg. high fat meat.

Goods : Luxuries and necessities, inferior goods.

Luxuries - a good is a luxury if the quantity demanded is very responsive to changes in income. eg a 10 increase in price results in a more than a 10 percent increase in quantity demanded. Necessities - a good is a necessity if the quantity demanded is not very responsive to changes in income, so that 10 percent increase in income results in less than a 10 percent increase in quantity demanded. eg food and clothing Inferior - if the quantity demanded falls when income increases.

Substitutes

Substitute goods are two goods that could be used for the same purpose. If the price of one good increases, then demand for the substitute is likely to rise. Therefore, substitutes have a positive cross elasticity of demand.

Passage of time

The more time passes the more elastic the demand for a product becomes

Elasticty

a measure of how much one economic variable responds to changes in another economic variable

Income elasticity of demand

a measure of the responsiveness of quantity demanded to changes in income, measured by the percentage change in quantity demanded divided by the percentage change in income

Complements

are products that are used together

Elastic Demand

demand is elastic when the percentage change in quantity demanded is greater than the percent change in price. so the price elasticity is greater than 1 in absolute value.

unit elastic

demand is unit elastic when the percent change in quantity demanded is equal to the percent change in quantity demanded is equal to the percent change in price. = 1

Elasticity and revenue with a linear demand curve

elasticity is not constant along a linear demand curve.

Availability of close substitutes

the availability of substitutes is the most important determinant of price elasticity of demand because how consumers react to a change in the price of a product depends on what alternatives they have. *if a product has more substitutes available it will have a more elastic demand *if a product has fewer substitutes available, it will have a less elastic demand

Perfectly Inelastic Demand

the case where the quantity demanded is completely unresponsive to price and the price elasticity of demand equals zero.

Perfectly elastic Demand

the case where the quantity demanded is infinitely responsive to price, and the price elasticity of demand equals infinity

Luxuries versus necessities

the demand curve for a luxury is more elastic than the demand curve for a necessity

Share of a good in a consumers budget

the demand for a good will be more elastic the larger the share of the good in the average consumers budget.

Definition of the market

the more narrowly we define a market, the more elastic demand will be demand for gasoline as a product on the other hand, is inelastic because consumers have few alternatives

Cross price elasticity of demand

the percentage change in quantity demanded of one good divided by the percentage in the price change of another good

Price Elasticity of Demand

the responsiveness of the quantity demanded to a change in price, measured by dividing the percentage change in the quantity demanded of a product by the percentage in the products price *percentage change in price will be negative *percentage change in demand will be positive Price elasticity of demand is always negative in relative size -3 in price elasticity is greater than -2 (abs. value)

Total revenue

the total amount of funds received by a seller of a good or service, calculated by multiplying price per unit by the number of units sold. when demand is inelastic, price and total revenue move in the same direction: -an increase in price raises total revenue, -a decrease in price reduces total revenue when demand is elastic, price and total revenue move inversely: -an increase in price reduces total revenue -a decrease in price raises total revenue

Inelastic

when quantity demanded is less than percent change in price. The price elasticity of demand is inelastic when it is lass than 1