Microeconomics Elasticity Notes
Microeconomics Elasticity Notes Econ 22060-002
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This 4 page Class Notes was uploaded by Jacquelyn McGee on Wednesday February 3, 2016. The Class Notes belongs to Econ 22060-002 at Kent State University taught by Jeremiah Harris in Spring 2016. Since its upload, it has received 36 views. For similar materials see Microeconomics in Economcs at Kent State University.
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Date Created: 02/03/16
Elasticity 2/8/16 &2/10/16 Elasticity Definition: elasticity is the measure of responsiveness o For example if you change price, how does the quantity demanded respond Slope=ΔP/ΔQ=$/Product(ex. Pizzas) Price of Elasticity of Demand Definition: a measure of the responsiveness of quantity demanded to a price change. o The slope of the line will be price over quantity (Slope=P/Q); but the slope doesn’t work because the slope will always be based on the unit of measure. o This will result in an invalid comparison of different goods We want a measurement that is independent of the units of measurement The units of Measure vary so “unit-free” measure is needs- Use percentage changes for price and Quantity demanded o %ΔQd/%ΔP Price elasticity of demand=(εd)=|%ΔQd/%ΔP|**** this formula is important o Always positive because of the absolute value There are 3 ranges for Price elasticity of demand o εd>1 |%ΔQd/%ΔP|>1 |% ΔQd|>|%ΔP| “elastic” Demand o εd<1 |%ΔQd/%ΔP|<1 |% ΔQd|<|%ΔP| “inelastic” Demand o εd=1 |%ΔQd/%ΔP|=1 |% ΔQd|=|%ΔP| “unit elastic” Demand Calculating the Percent changes o General definition: %ΔP2-P1/P1 or P1-P2/P2 Average Price Sum of P/2 o Base=Sum Qd/2=average Qd o Base=Sum P/2=average P o = = o Example P=-2QD+12 If P: $2 $4 Qd: 5 4 Is this elastic or inelastic? Inelastic because the εd= 1/3 < 1 making it inelastic o Example P= 2QD+12 P: $5$7 Qd: 3.5 2.5 Unit elastic because εd=1 As the price rises, the demand becomes more elastic o Above midpoint of quantity εd<1 o Below midpoint of quantity εd>1 o Midpoint of quantity εd=1 o Above midpoint of price εd>1 o Below midpoint of price εd<1 o Midpoint price εd=1 Determinants of εd Factors influence the elasticity of demand o Closeness of Substitutes Lots of Substitutes Demand more elastic Fewer Substitutes Demand less elastic Example: Luxuries such as vacations generally have elastic demand and have lots of substitutes; where necessities such as food do not have many substitutes so they have inelastic demand. o The proportion of income that’s spent on the good Small portion is less elastic/more inelastic Large portion is more elastic/less inelastic Example: small portion; consider a candy bar, a 50% increase in price does not change demand much. Large portion; consider the purchase of your first home, a 50%increase doesn’t change things much o Time elapsed since the price change More time has demand that is more elastic Less time has demand that is less elastic The more consumers have to adjust/change a price, the more elastic is the demand for that/those goods Two Extremes in Elasticity Perfectly Inelastic Demand (vertical line) o Example: Insulin, because when you need it you will pay whatever price you have to get what you need. (Absolutely have to have something so the price change doesn’t affect the consumer decision) o εd= =0 Perfectly elastic demand (horizontal) o Example: 2 pop machines with different prices at the same place; the consumer is more likely to choose the machine with the cheaper prices. o εd= =∞ Price Elasticity of Demand Cont. Total Revenue and Elasticity o Total Revenue: equals the price of the good multiplied by the quantity sold from the sale of good or service o When the price changes, the total revenue also changes o But a rise in price doesn’t always increase total revenue Total revenue is not the same as profit! Revenue= P x Qd(Inelastic) o An increase in price causes a small decrease in Qd an increase in Revenue o A decrease in price leads to a small increase in Qd and a decrease in Revenue o When εd<1 the revenue follows the P change; when price goes up revenue goes up, when price goes down revenue goes down εd<1 |%ΔQd|>|%ΔP| (Elastic) o |%ΔQd| drives Revenue An increase in price causes a big drop in Qd and a decrease in Revenue A decrease in price causes a large increase in Qd and an increase in revenue Cross-price Elasticity of Demand Cross-price elasticity of demand: a measure of the responsiveness of demand for a good to a change in price of a substitute or a compliment, other things remaining the same o Cross-price elasticity= Notice, there are different subscripts for good x and good y o Example: x=Nike; y=Adidas Increase in price of Nike causes an increase in Qd of Adidas Income Elasticity of Demand Income elasticity of demand: measures how the quantity demanded of a good responds to a change in income, other things remaining the same o Income elasticity= o Positive normal good o Negative inferior good Elasticity of Supply Elasticity of Supply: measures the responsiveness of the quantity supplied to change in the price of a good when all other influences on selling plans remain the same o εs= >0 o εs>1 elastic o εs<1 inelastic o εs=1 unit elastic Demand of εs Availability of substitute inputs o Fewer substitute inputs Less elasticity supply o More substitute inputs More elastic supply Time o More time more elastic supple o Less time less elastic supply
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