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ELASTICITY OF DEMAND TUTORIALThe purpose of this tutorial is to provide an opportunity to review elasticity of demand which was covered during the Supply and Demand unit. There is a brief quiz at the end of this tutorial.

1. Elasticity Formula

2. Elastic or Inelastic?

Elasticity Problems

Stand-Alone Instructional Resource Project

by Jason Skeels

August 10, 2009CEP 811

Learning the Elasticity Formula Objective The object of this tutorial is to review

the elasticity formula. Students will review the basics of the formula and how it can be broken down and easier for them to understand.

Looks confusing right? Don’t worry, you’ll get it in no time!

Learning the Elasticity Formula The Elasticity Formula is

designed to teach students how to figure out if a good or service is elastic or inelastic when prices cause quantities to change. By the end of the StAIR students should be able to put the formula to use for any good being demanded as long as they are given the changes in price and quantity.

How to Find % Change

When finding whether demand is elastic or inelastic, the first step is to find the % change in quantity demand and the % change in price.

The formula for this is as follows: (Original number – New number) / Original number =

% change This may seem tricky but always take the first

quantity/price given and subtract the second quantity/price. Take this answer and divide it by the original number and you will have the % change.

Remember you have to do this twice (once for quantity and once for price).

Example #1

The price of stamps went from $.34 to $.42 and demand dropped from 1,458 to 1,211 at the local Post Office.

(1,458-1,211)/1,458 = .17 (this is the numerator)

($.34-$.42)/$.34 = .24 ( this is the denominator)

Quantity #1Quantity #2Quantity #1 again

Price#1 againPrice #2Price #1

Learning the Elasticity Formula

1. How can we find % change (since it is needed for the numerator and the denominator)?

% change in quantity demanded% change in price

a. (Original number x New number) / New number = % changeb. (Original number – New number) / Original number = % changec. (Original number + New number) / New number = % changed. (New number – Original number) / Original number = % change

= Elasticity

Click here if you need help!!

Learning the Elasticity Formula

CORRECT!

You have a great start to understanding the elasticity formula. Now let’s learn some more about the elasticity formula.

In order to even start the formula you must find the % change for both the numerator and denominator and to do this you take:

(Original number – New number) / Original number = % change

CLICK HERE TO MOVE ON

Learning the Elasticity Formula

Sorry that is Incorrect!

Now let’s find out why…..

You always want the original number (or 1st number they give you) to come first….you then subtract the second number they give you from the original number…..then lastly divide that answer by the original number.

When trying to figure out the elasticity formula, we must remember that:

Find the Original NumberSubtract the New NumberTake this final number and divide it by the Original Number again.This will give you the % change.

TRY AGAIN!!

Example #2

They started charging less at basketball games hoping to get more fans to come. At last weeks game they charged $4 per person and 156 people came. At this weeks game they charged $2 per person and 171 people came to the game. Fill in the following blanks:

(_____ - _____) / _________________________ (_____ - _____) / _____

= .192

Example #2 Continued

A. (171-156)/156 ($4-$2)/$4

B. (156-171)/156($4-$2)/$4

C. ($4-$2)/$2(156-171)/156

D. ($4-$2)/$4(171-156)/171

= .192

= .192

= .192

= .192

CORRECT!!

You seem to be doing well, move on Learning the Elasticity Formula!

Sorry Try Again!

Make sure quantity demanded is on the top (numerator) and price is on the bottom (denominator).

Also, the first quantity and first price given go first in the equation. These same numbers are also the ones being divided at the end!

Take Another Stab At It!

Learning the Elasticity Formula Putting the equation together as a whole:

We now know how to find % change for the numerator and denominator, now we must divide those 2 numbers together.

By doing this, we will have the final equation and be able to move onto whether a good is elastic or inelastic.

Elasticity = % change in quantity demanded% change in price

Learning the Elasticity Formula We are already familiar with finding %

change in Quantity and % change in Price.

REVIEW:(Original number – New number) / Original number = %

change

Now let’s put this formula into action with some problems!

Yumm…..

I go to the store and Ben and Jerry’s Ice Cream went from $4 to $5 a pint! What a rip off! The store said last week they sold 20 pints at $4 and only sold 14 this week at $5.

How do we put the formula to use?(20-14)/20 ($4-$5)/$4

Uh oh….one thing I forgot to mention….you need to ignore any negative signs, keep everything as a positive number. So our answer is 1.2 Let’s try one out on your own now.

= -1.2

Does A Body Good

Meijer drops their prices on gallons of milk. Last month they sold 150 gallons at $2.99 a piece. This month they sold 211 gallons at $1.88 a piece. Use the formula to find the correct answer…….don’t forget to ignore negatives!

Hint: Elasticity = % change in quantity demanded

% change in price

Do the math and choose the correct answer:

A: .756B: 1.11C: .69D: 750,201

Learning the Elasticity Formula

CORRECT!

You seem to be understanding the elasticity formula and can do it on your own now.

Now that you can figure out the formula, lets figure out what that answer you got really means!

1.11????????

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Learning the Elasticity Formula

Sorry that is Incorrect!

Now let’s find out why…..

Make sure you did the following:(150-211)/150 = -.41 (make sure to drop the negative)

($2.99-$1.88)/$2.99 = .37

Now .41/.37 = 1.11

Go back and try it again!

You must follow these steps:

Take the original quantity and subtract the new quantity from it.

Divide that answer by the original quantity.

Take the original price and subtract the new price from it.

Divide that answer by the original price

Take these two answers you get and divide the numerator by the denominator.

Starbucks

Starbucks recently raised the price of their Strawberry Banana smoothie from $2.98 to $3.59. Demand dropped from an average of 27 buyers a day to 12 buyers every day. Which of the following is the correct answer?

A. 7.2B. .41C. 1.01D. 2.75

Learning the Elasticity Formula

CORRECT!

You seem to be understanding the elasticity formula and can do it on your own now.

Now that you can figure out the formula, lets figure out what that answer you got really means!

2.75???????????????

CLICK HERE TO MOVE ON

Learning the Elasticity Formula

Sorry that is Incorrect!

Now let’s find out why…..

You must make sure you are following these steps:(27-12)/27 = .55($2.98-$3.59)/$2.98 = -.20 (make sure to drop the negative)

Now .55/.20 = 2.75

Try it again! You will be tested on this later!

You must follow these steps:

Take the original quantity and subtract the new quantity from it.

Divide that answer by the original quantity.

Take the original price and subtract the new price from it.

Divide that answer by the original price

Take these two answers you get and divide the numerator by the denominator.

Elastic Demand

Now that we understand how to use the formula, what does that answer (1.11 and 2.75 in the previous problems) mean?

Well……. If demand is elastic, a small change in price

leads to a large change in quantity demanded. If your final answer is more than 1, demand is elastic.

So in our first example, milk would elastic, meaning because the price dropped so much more people began to buy it and quantity demanded increased.

Inelastic Demand

If demand is inelastic, consumers do not care about the change in price. A change in price means only a small change in quantity demanded. If your final answer is less than 1, demand is inelastic.

Some inelastic goods are things such as gasoline, prescription drugs, or anything with a small amount of substitutes.

Example Problem: (10-15)/10 ($6-$2)/6

Whatever this product was, people were not influenced by the large drop in price, only a few more bought it because of the drop in price….price was not a factor in their decision to purchase the product.

= .75….inelastic

Unitary Elastic

When demand is unitary elastic, a change in price is met by an equal percentage change in quantity demanded. Elasticity of demand is exactly 1.

Example Problem: (50-100)/50 ($10-$20)/$10

▪ In this problem, with the decrease in price, we saw a the exact same percentage increase in quantity demanded.

= 1…unitary elastic

Practice-Elastic, Inelastic, or Unitary Elastic?

(60-42)/60($4-$5)/$4

Is this product:A. ElasticB. InelasticC. Unitary ElasticD. None of the Above

= 1.2

CORRECT!

It is elastic because with the increase in price a large amount of people stopped buying the product, leading to a large percentage change in quantity demanded.

The final answer was greater than 1 (1.2) so it was elastic.

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Elastic, Inelastic, or Unitary Elastic?

Sorry that is Incorrect!You must follow these steps:

If the number is greater than 1 it is elastic (small change in price leads to a large change in quantity demanded).If the number is less than 1 it is inelastic (a change in price will lead to a small change in quantity demanded).If the number is exactly 1 than it is unitary elastic (a change in price is met by an equal percentage change in quantity demanded).

TRY AGAIN!!!

IF A PRODUCT IS INELASTIC WHAT DOES THAT MEAN?

A. People may be influenced by a change in price and some will purchase it while others will not.

B. People will be influenced by a change in price, they will not buy the product if the price increases too much.

C. People will not be influenced by a change in price, they will buy the product regardless of price.

D. There are a large amount of substitutes available.

CORRECT!

Good job, if a product is inelastic they will purchase the product regardless of a change in price.

•Products that are normally inelastic are necessities without substitutes.

•Milk•Gasoline•Eggs•Diapers•Antibiotics

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Elastic, Inelastic, or Unitary Elastic?

•Normally inelastic products are purchased because they are necessities, these are things consumers must have! •There are also very few if any substitutes for these goods.

•Gasoline•Diapers•Eggs•Milk•Antibiotics

Sorry that is Incorrect!

Now let’s find out why…..

If a product is inelastic they will purchase the product regardless of a change in price (increase or decrease).

Try Again!

Elastic, Inelastic, or Unitary Elastic?

Question #1

The price of a 2-liter of Mountain Dew increased from $1.99 to $2.55 last week. The store sold 29 when it was $1.99 and only 25 when it was $2.55. What is the elasticity of demand for this product?

GET YOUR CALCULATOR OUT!!

A. .25B. 1.40C. 0.00D. .50

CORRECT!

If you followed your steps correctly it should have looked like the following:

(29-25)/29($1.99-$2.55)

You must follow these steps: Take the original quantity and subtract the new quantity from it.

Divide that answer by the original quantity.

Take the original price and subtract the new price from it.

Divide that answer by the original price

Take these two answers you get and divide the numerator by the denominator.

CLICK HERE TO MOVE ON

Elastic, Inelastic, or Unitary Elastic?

= .14/.28

= .50

Try Again!

Make sure to use this formula:

Incorrect !!!!

Click here to try again.

Question #2

Since we now know that the answer for the previous question was .50, what does that make demand for the 2-liter of Mountain Dew?

A. ElasticB. InelasticC. Unitary ElasticD. None of the Above

CORRECT!

Since the number was .50 and that is less than 1, demand is inelastic. In this example, people will continue to buy the 2-liters of Mountain Dew even with the price increase.

Elastic = greater than 1Inelastic = less than 1Unitary Elastic = 1 exactly

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Elastic, Inelastic, or Unitary Elastic?

Try Again!

Incorrect !!!!

Click here to try again.

Elastic = greater than 1

Inelastic = less than 1 Unitary Elastic = 1

exactly

Question #3

A store raises their prices on Tropicana Orange Juice from $2.69 for 64 oz. to $3.29. That same store saw a drop in demand from 106 to only 71. What is the elasticity of demand?

A. 1B. 1.11C. 1.5D.2.17

CORRECT!You must follow these steps:

Take the original quantity and subtract the new quantity from it.

Divide that answer by the original quantity.

Take the original price and subtract the new price from it.

Divide that answer by the original price

Take these two answers you get and divide the numerator by the denominator.

CLICK HERE TO MOVE ON

If you followed your steps correctly it should have looked like the following:

(106-71)/106($2.69-$3.29)

= .33 .22

= 1.5

Try Again!

USE THIS FORMULA!

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Question #4

So we now know the answer is 1.5, what can we consider the demand for this orange juice?

A. ElasticB. InelasticC. Unitary ElasticD. None of the Above

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Elastic, Inelastic, or Unitary Elastic?

CORRECT!

Since the number was 1.5 and that is more than 1, demand is elastic. In this example, most people will stop buying to buy the Tropicana Orange Juice because of the price increase.

Elastic = greater than 1Inelastic = less than 1Unitary Elastic = 1 exactly

Try Again!

USE THIS TO HELP YOU!

Click here to try again.

Elastic = greater than 1

Inelastic = less than 1 Unitary Elastic = 1

exactly

Question #5

We now know the Tropicana Orange Juice is elastic and that people stopped buying it because of the price increase. Which of the following vocabulary terms best demonstrates the idea of consumers buying another brand instead of the Tropicana?

A. DemandB. SupplyC. Substitutes D. Complements

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Substitutes

CORRECT!

Most consumers would substitute Tropicana with another brand in this situation!

Try Again!

Think that we would purchase somethingelse instead of the Tropicana, what is thatother product called?

Click here to try again.

Question #6

If there is suddenly a huge price drop in the price of honey from $10.54 a gallon to $8.63 a gallon more consumers flood the market. Before there were only 150 people who bought the honey by the gallon, now there are 504. What is the elasticity of demand?

A. 1.04B. 11.67C. -2.58D. 13.1

CORRECT!You must follow these steps:

Take the original quantity and subtract the new quantity from it.

Divide that answer by the original quantity.

Take the original price and subtract the new price from it.

Divide that answer by the original price

Take these two answers you get and divide the numerator by the denominator.

CLICK HERE TO MOVE ON

If you followed your steps correctly it should have looked like the following:

(150-504)/150($10.54-$8.63)/$10.54

= 2.36 .18

= 13.1

Try Again!

TRY TO USE THIS FORMULA!

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Question #7

Since the answer to the previous question was 13.1 what does that mean? We know that it is an extremely elastic good but what does that truly mean?

A. More consumers purchased the good because it fell so much in price. B. A large amount of consumers were turned away because of the high price.C. People will buy it regardless of a change in price.D. Honey tastes really good on toast with peanut butter.

CORRECT!

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The reason more people purchased the honey was because the large drop in price. If it would have only fallen a little, then things would have probably been different. It is likely that it would not have been as elastic! It has nothing to do with toast and peanut butter…..

Incorrect, Try Again!

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Remember, more people purchased the honey because of the large drop in it’s price from $10.54 a gallon to $8.63.

CONGRATULATIONS!!!!

You have successfully completed the lesson on Elasticity of Demand!

Be prepared, you will be tested on this next Tuesday.

If you continue to have any questions on the formula or whether an answer is elastic or inelastic do not hesitate to run through this lesson again.