Elasticity:demand and supply : Elasticity:demand and supply Chapter 19 Economics, 8th Edition
Boyes/Melvin
elasticity : elasticity The responsiveness of quantity demanded or quantity supplied to a change in one of the determinants of demand and/or supply. 2 Copyright © Cengage Learning. All rights reserved.
Price Elasticity of Demand : Price Elasticity of Demand Definitions of Price Elasticity of Demand:
the percentage change in the quantity demanded of a product divided by the percentage change in the price of that product.
The more price-elastic demand is, the more responsive consumers are to a price change. Conversely, the less price-elastic demand is, the less responsive consumers are to a price change. 3 Copyright © Cengage Learning. All rights reserved.
Price Elasticity: Mathematical Definition : Price Elasticity: Mathematical Definition The price elasticity of demand, ed, is: 4 Copyright © Cengage Learning. All rights reserved.
Defining elasticities : Defining elasticities When price elasticity is between zero and -1 we say demand is inelastic.
When price elasticity is between -1 and - infinity, we say demand is elastic.
When price elasticity is -1, we say demand is unit elastic. 5 Copyright © Cengage Learning. All rights reserved.
Sign of Price Elasticity : Sign of Price Elasticity According to the law of demand, whenever the price rises, the quantity demanded falls, and vice versa. There is an inverse relationship between price and quantity demanded. Thus the price elasticity of demand is always negative.
Because it is always negative, economists often state the value without the sign (absolute value).
In this case: 1 is unit elastic, 0 to 1 is inelastic, and 1 to infinity is elastic. 6 Copyright © Cengage Learning. All rights reserved.
Demand Curve Shapes and Elasticity : Demand Curve Shapes and Elasticity Perfectly Elastic Demand Curve
The demand curve is horizontal, any change in price can and will cause consumers to change their consumption.
Perfectly Inelastic Demand Curve
The demand curve is vertical, the quantity demanded is totally unresponsive to the price. Changes in price have no effect on consumer demand.
In between the two extreme shapes of demand curves are the demand curves for most products. 7 Copyright © Cengage Learning. All rights reserved.
Demand Curve Shapes and Elasticity : Demand Curve Shapes and Elasticity 8 Copyright © Cengage Learning. All rights reserved.
Price Elasticity Along a Straight Line Demand Curve : Price Elasticity Along a Straight Line Demand Curve The price elasticity of demand changes as we move up or down a straight-line demand curve. The price elasticity becomes more inelastic as we move down the curve.
If an entire demand curve (D2) is more elastic than another (D1), it means that at every single price, D2 is more elastic than D1. 9 Copyright © Cengage Learning. All rights reserved.
Elastic and Inelastic : Elastic and Inelastic All downward-sloping straight-line demand curves are divided into three parts:
Elastic region
Unit elastic point
Inelastic region 10 Copyright © Cengage Learning. All rights reserved.
The price elasticity of demand along a straight-line demand curve : The price elasticity of demand along a straight-line demand curve 11 Copyright © Cengage Learning. All rights reserved.
Determinants of the Price Elasticity of Demand : Determinants of the Price Elasticity of Demand The degree to which the price elasticity of demand is inelastic or elastic depends on:
How many substitutes there are
How well a substitute can replace the good or service under consideration
The importance of the product in the consumer’s total budget
The time period under consideration 12 Copyright © Cengage Learning. All rights reserved.
Other Demand Elasticities : Other Demand Elasticities Demand may respond to changes in other variables. The measures of such responses are also elasticities.
Cross-Price Elasticity of Demand: The percentage change in the quantity demanded for one good divided by the percentage change in price of a related good.
Measures the degree to which goods are substitutes or complements.
If the cross-price elasticity is positive, then the goods are substitutes.
If the cross price elasticity is negative, then the goods are complements. 13 Copyright © Cengage Learning. All rights reserved.
Other Demand Elasticities : Other Demand Elasticities Income Elasticity of Demand: the percentage change in the quantity demanded of a good divided by the percentage change in income.
Normal goods: goods for which the income elasticity of demand is positive.
Inferior goods: goods for which the income elasticity of demand is negative.
Luxury goods: goods for which the income elasticity of demand is a large positive number. 14 Copyright © Cengage Learning. All rights reserved.
Calculating elasticity : Calculating elasticity Price elasticity can be calculated in two ways:
Point elasticity: price elasticity of demand measured at a single point on the demand curve.
Arc elasticity: price elasticity of demand measured over a range of prices and quantities along the demand curve. 15 Copyright © Cengage Learning. All rights reserved.
Point elasticity : Point elasticity Point elasticity of demand = [Q/P]*[P/Q].
[Q/P] is the inverse of the slope of the demand curve. 16 Copyright © Cengage Learning. All rights reserved.
Arc elasticity : Arc elasticity Arc elasticity of demand =
[Q2 – Q1]/[Q2 + Q1]/2
[P2 – P1]/[P2 + P1]/2
This is the equivalent to:
[Q/P][average P/average Q] 17 Copyright © Cengage Learning. All rights reserved.
Calculation of income elasticity : Calculation of income elasticity The definition of income elasticity is:
Q/I * I/Q,
Where I represents income. 18 Copyright © Cengage Learning. All rights reserved.
Calculation of cross-price elasticity : Calculation of cross-price elasticity The definition of cross-price elasticity is:
Q/PX * PX/Q
Where PX is the price of a related good. 19 Copyright © Cengage Learning. All rights reserved.
The Price Elasticity of Supply : The Price Elasticity of Supply The price elasticity of supply is the percentage change in the quantity supplied divided by the percentage change in price. 20 Copyright © Cengage Learning. All rights reserved.
Price Elasticity of Supply and Shape of Supply Curve : Price Elasticity of Supply and Shape of Supply Curve The price elasticity of supply is either zero or a positive number.
A zero price elasticity of supply means that the quantity supplied will not vary as the price varies.
A positive price elasticity of supply means that as the price of an item rises, the quantity supplied rises. 21 Copyright © Cengage Learning. All rights reserved.
Supply Curve Shapes and Elasticity : Supply Curve Shapes and Elasticity 22 Copyright © Cengage Learning. All rights reserved.
Supply Elasticities in the Long and Short Runs : Supply Elasticities in the Long and Short Runs The shape of the supply curve depends primarily on the length of time being considered.
In the short run, at least one of the resources used in production cannot be changed.
In the long run, the firm has long enough to change any aspect of production, and therefore can more fully respond. 23 Copyright © Cengage Learning. All rights reserved.
Interaction of Price Elasticities of Demand and Supply : Interaction of Price Elasticities of Demand and Supply Both the price elasticity of demand and the price elasticity of supply determine the full effect of a price change.
If the price elasticity of supply of an item is large and the demand for it is price inelastic, then the firm can raise the price without losing revenue.
Conversely, if the price elasticity of supply is small and the price elasticity of demand is large, then the firm is unable to raise the price because the consumer will switch to another firm or product. 24 Copyright © Cengage Learning. All rights reserved.