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1、,Chapter 5,Elasticity of demand and supply,3,Key concepts,Defining elasticity Explaining: price elasticity of demand income elasticity of demand cross elasticity of demand price elasticity of supply Understanding how a tax burden and elasticity are related,4,The concept of elasticity,Elasticity is t
2、he term used in economics to explain the sensitivity of one variable to changes in another variable. Elasticity is useful for business decision-making (e.g. pricing, marketing) and policy-making.,6,Price elasticity of demand (cont.),Example: A concert raises ticket prices from $25 to $30, and the nu
3、mber of seats sold falls from 20 000 to 10 000.,Price elasticity of demand (cont.),When we move along a demand curve between two points, we get different answers to elasticity depending on whether we are moving up or down the demand curve. When the price is lowered rather than raised:,7,8,The midpoi
4、nt formula,We can overcome this disparity using the midpoint formula: Recalculating our previous example yields Ed = 3.7,9,Elasticity coefficients,At introductory levels, it is conventional to ignore the minus sign that should result from calculations. The elasticity coefficient could be: elastic (E
5、d 1) inelastic (Ed 1) unitary elastic (Ed = 1),10,Elastic demand (Ed 1),Elastic demand indicates that the percentage change in quantity demanded is greater than the percentage change in price. This means consumers are sensitive to the price change.,11,Example of elastic demand,A rock group decreases
6、 its prices from $30 to $20, and quantity demanded rises from 10 000 to 30 000 tickets. Using the percentage change method:,12,Example calculations,Using the midpoint formula:,Ed = 2.5 demand is price elastic.,Elastic demand coefficients,14,Other coefficients,Inelastic: When the percentage change in
7、 the quantity demanded is smaller than the percentage change in the price. Consumers are not sensitive to the price change. Unitary elastic: When the percentage change in the quantity demanded is equal to the percentage change in price.,Other coefficients (cont.),15,16,The total revenue test,Total r
8、evenue is the revenue a firm earns from sales it is equal to price multiplied by quantity demanded. Depending on the elasticity coefficient, a decrease in price may lead to: increase in total revenue (elastic) decrease in total revenue (inelastic) no change in total revenue (unitary).,17,Perfectly e
9、lastic demand &perfectly inelastic demand,Perfectly elastic demand: a small percentage change in price brings about an infinite percentage change in the quantity demanded. Perfectly inelastic demand: the quantity demanded does not change as the price rises.,Perfectly elastic demand &perfectly inelas
10、tic demand,18,19,Variations along a straight-line demand curve,The price elasticity of demand varies as we move along the demand curve. Any straight line demand curve has three ranges: a price elastic range (at high prices) a unitary elastic point a price inelastic range (at low prices).,Variations
11、along a straight-line demand curve (cont.),20,Notice how TR reflects the variation in elasticity along the demand curve.,21,Determinants of price elasticity of demand,A number of factors influence the price elasticity of a good or service: the availability of substitutes the proportion of the consum
12、ers budget that is spent on that product adjustments to price changes over time.,22,Availability of substitutes,Demand is more price-elastic for goods that have close substitutes because consumers can switch to alternative products. Price elasticity depends upon how broadly (or narrowly) we define t
13、he good or service. For example, the Ed of Ford cars is greater than the Ed for cars in general.,23,Share of budget spent on the product,Consumers are more sensitive to a price change, and the demand curve is more elastic, when the good or service takes a larger proportion of their income. This is b
14、ecause consumers think more carefully about alternatives when prices change.,24,Adjustment to price change over time,The longer consumers have to adjust, the more sensitive they are to a price change, and the more elastic the demand curve.,25,Other elasticity measures,Income elasticity of demand Cro
15、ss elasticity of demand,26,Income elasticity of demand,The ratio of the percentage change in the quantity demanded of a good to a given percentage change in income:,27,Income elasticity of demand (cont.),Income increases from $1000 to $1250 per week. Ticket sales rise from 10 000 to 15 000,Ticket sa
16、les are responsive to a change in income.,28,Income elasticity coefficients,If the income elasticity coefficient is positive, then this is a normal good consumers purchase more when their income rises. If the income elasticity coefficient is negative, then this is an inferior good consumers purchase less when their income rises.,29,Cross-elasticity of demand,The ratio of the percentage change in quantity demanded of a good to a given percentage change in price of another good:,30,Substitutes
