Download - Elasticity and its application
Elasticity and its Application
Elasticity•A measure of how much buyers and sellers respond to changes in market conditions
•A measure of the responsiveness of quantity demanded or quantity supplied to a change in one of its determinants
Price Elasticity of Demand•Measures how much the quantity demanded responds to a change in price.
Factors Influencing PED
•Availability of Close Substitute
• Necessities vs. Luxuries
• Definition of Market
• Time Horizon
Computing the PED
Price Elasticity of Demand = % ∆ Qd
% ∆P
PED = 20% / 10% = 2
Midpoint Method• Price elasticity between two points on a demand curve
Ex. Point A: P=$4 Q=120
Point B: P=$6 Q=80
$6
$5
$4
80 100 120
B
A
A (6-4)/ 5 X 100 = /40%/
B (4-6)/ 5 X 100 = /40%/
Variety of Demand Curves
• Elastic- when elasticity is greater than 1.
• Inelastic-when elasticity is less than 1.
•Unit Elastic- when elasticity is equal to 1.
• Perfectly elastic- when elasticity is infinite.
• Perfectly inelastic- when elasticity is 0.
PERFECTLY INELASTIC DEMAND: ELASTICITY EQUALS 0
demand
Inelastic Demand: Elasticity Is Less Than 1
demand
Unit Elastic Demand: Elasticity Equals 1
demand
Elastic Demand: Elasticity Is Greater Than 1
demand
Perfectly elastic demand: Elasticity equals infinity
demand
Total Revenue and the PED
• amount paid by the buyers and received by the sellers. (PxQ)
a. The Case of Inelastic Demand
Ex. Consider rice as an inelastic demand. An increase in price leads to a decrease in quantity demanded that is proportionately smaller
$5
$4
90 100
$5
$4
70 100
b. The Case of Elastic Demand
The increase in price leads to a decrease in quantity demanded that is proportionately larger.
Elasticity and TR along a linear demand curve
•The slope of a linear demand curve is constant but its elasticity is not.
Price Quantity TR(PxQ)
%Change in Price
% Change in Quantity
ElasticityDescription
7 0 0 15 200 13.0 Elastic
6 2 12 18 67 3.7 Elastic
5 4 20 22 40 1.8 Elastic
4 6 24 29 29 1.0 Unit elastic
3 8 24 40 22 0.6 Inelastic
2 10 20 67 18 0.3 Inelastic
1 12 12 200 15 0.1 Inelastic
0 14 0 Inelastic
Price
Quantity
Elasticity is larger than 1
Elasticity is smaller than 1
Income Elasticity of demand• Measures how the quantity demanded changes as
consumer income changes.
• = %∆Qd/%∆Y
Cross Price Elasticity of Demand
-- measures how the quantity demanded of one good respond to a change in the price of another good.
= %∆Qd of good 1
%∆P of good 2
The Elasticity of Supply
DETERMINANTS
Flexibility of Sellers
Time Period
Price Elasticity of Supply
•Measures how much the quantity supplied responds to changes in the price
•= %∆ Quantity Supplied
%∆ in Price
(a) Perfectly Inelastic Supply: Elasticity Equals 0
supply
Supply
(b) Inelastic Supply: Elasticity Is Less Than 1
supply
c) Unit Elastic Supply: Elasticity Equals 1
(d) Elastic Supply: Elasticity Is Greater Than 1
supply
Supply
Perfectly Elastic Supply
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