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Chapter 4

Chapter 4 elasticity.docx

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Department
Economics
Course
Economics 2150A/B
Professor
Prof
Semester
Winter

Description
Chapter 4 – Elasticity Price Elasticity of Demand - when supply increases, the equilibrium price falls, equilibrium quantity increases o to determine how much the price fall and raised and how much the quantity increased by, it depends on the RESPONSIVENESS OF THE QUANTITY DEAMNDED TO A CHANGE IN PRICE - Price elasticity of demand : units-free measure of the responsiveness of the quantity demanded of a good to a change in its price when all other influences on buying plans remain the same - Price elasticity of demand = percentage change in quantity demanded / percentage change in price o Price elasticity of demand = difference between the quantity demanded / average quantity demanded difference between the prices/ average price - Use average price and quantity due to the reason that it gives the most precise measurement of elasticity (midpoint between the original and new) - Percentage and proportions: elacticity is the ratio of 2 percentagechanges (same answer with percentage or not) - A unit-free measure - Minus sign and elasticity : when the price of a good rises, the quantity demanded decreases o Positive change in price brings a negative change in the quantity demanded o Use magnitutde of the elasticity and ignore the minus sign Inelastic and elastic demand 1. If the quantity demanded is constant regardless of price then the price elasticity of demand is 0 (perfect inelastic demand) ex. Insulin , diabetics needs them so the price change does not affect their demand 2. If the percentage change in quantity demanded equals the percentage change in the price (price elasticity 1) = unit elastic demand 3. Percentage change in the quantity demanded is less than the percentage change in price (between 0 and 1), inelastic demand ex. Food and shelter are example of goods that have inelastic demand 4. Quantity demanded changes by an infinitely percentage in response to a tiny price change then the price elasticity of demand is infinity then the good is said to be perfectly elastic demand ex. Soft drink from 2 campus machines located side by side, same price but people decide to buy from one but not the other a. Perfect substitute is perfectly elastic b. Automobiles and furniture are example of goods that have elastic demand Elasticity along a straight line demand curve - Elasticity and slop are not the same, however they are related - The price elasticity of demand at an average price of ____ is ___. - Elasticity is higher when the price is higher Total revenue and Elasticity - Total revenue: sale of a good equals the price of the good multiplied by quantity sold - Price change will cause the total revenue also changes o If demand is elastic, a 1 percent price cut increases the quantity sold by more than 1 percent and total revenue increases o If demand is inelastic, a 1 percent price cut increases the quantity sold by less than 1 percent and total revenue decreases o If demand is unit elastic, a 1 percent price cut increases the quantity sold by 1 percent and toal revenue does not change Total revenue test: a method of estimating the price elasticity of demand by observing the change in total revenue that results from a change in the price when all other influences on the quantity sold remain the same - If a price cut increases total revenue , demand is elastic - If a price cut decreases total revenue, demand is inelastic - If a price cut leaves total revenue unchanged, demand is unit elastic Your expenditure and your elasticity - If your demand is elastic, a 1 percent price cut increases the quantity you buy by more than 1 percent and your expenditure on the item increases - If your demand is inelastic, a 1 percent price cut increases the quantity you buy by less than 1 percent and your expenditure on the tiem decreases - If your demand is unit elastic, a 1 percent price cut increases the quantity you buy by 1 percent and your expenditure on the item does not change The factors that influence the elasticity of demand - Closeness for substitutes o The closer the substitute for a good or service, the more elastic is the demand for it  Oil has no close substitute thus inelastic , plastic has a close substitute for metals (elastic)  Necessity is a good that has poor substitutes and that is curcial for our well being (inelastic demand)  Luxury is a good that usually has many substitutes, one of which is not buying it. So a luxury generally has an elastic
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