Chapter 05ad

8/9/2019 Chapter 05ad

1/64

Elasticity and Its

Application

Chapter 5

Copyright 2001 by Harcourt, Inc.

All rights reserved. Requests for permission to make copies of any part of

the

work should be mailed to:Permissions Department, arcourt !ollege Publishers,


2/64

arcourt, +nc. items and derived items copyright #-- by arcourt, +nc.

Elasticity . . .

is a measure of how much buyers and

sellers respond to changes in marketconditions

allows us to analye supply and

demand with greater precision!


3/64


Price Elasticity of Demand

"rice elasticity of demandis the

percentage change in #uantity demanded

gi$en a percent change in the price!

It is a measure of how much the #uantity

demanded of a good responds to a changein the price of that good!


4/64


Determinants of

Price Elasticity of Demand

Necessities versus Luxuries

Availability of Close Substitutes

Definition of the Market

Time Horizon


5/64


Determinants of

Price Elasticity of DemandDemand tends to be more elastic

if the good is a lu%ury!

the longer the time period!

the larger the number of closesubstitutes!

the more narrowly defined the market!


6/64


Computing the Price Elasticity

of Demand&he price elasticity of demand is computed

as the percentage change in the #uantity

demanded di$ided by the percentagechange in price!

Price Elasticity of Demand =

Percentage Change

in Quantity DemandedPercentage Change

in Price

Price Elasticity of Demand =

Percentage Change

in Quantity DemandedPercentage Change

in Price


7/64



of Demand

!riceinchan"e#ercenta"e

demanded$uatityinchan"e#ercenta"edemandofelasticity#rice =

'%ample( If the price of an ice cream cone increasesfrom )2!00 to )2!20 and the amount you buy falls from

10 to * cones then your elasticity of demand would be

calculated as(

#percent-

percent#-

--

--#

--##-#

---

)-

==

.

)..(

)(


8/64


Computing the Price Elasticity of

Demand Using the Midpoint

Formula

&he midpoint formulais preferable when

calculating the price elasticity of demandbecause it gi$es the same answer regardless

of the direction of the change!

)/2]P)/[(PP(P

)/2]Q)/[(QQ(Q=DemandofElasticityPrice

1212

1212

+

+


9/64arcourt, +nc. items and derived items copyright #-- by arcourt, +nc.


of Demand

'%ample( If the price of an ice cream cone increasesfrom )2!00 to )2!20 and the amount you buy falls from

10 to * cones the your elasticity of demand, using the

midpoint formula,would be calculated as(

(#.#/.0

##

#12#-.#--.#3

2--.##-.#3

#12)-32)-3

==

+

+

percent

percent

)/2]P)/[(PP(P

)/2]Q)/[(QQ(Q=DemandofElasticityPrice

1212

1212

+

+



Ranges of Elasticity

%nelastic Demand +uantity demanded does not res!ondstrongly to

price changes! "rice elasticity of demand is less thanone!

&lastic Demand

+uantity demanded res!onds stron"lyto changesin price!

"rice elasticity of demand is"reater thanone!




of Demand

Demand is price elastic

$5

4 Demand

Quantity1000

Price

50

-3percent22-

percent6

!"##)/2($"##

!"##)-($"##!#)/2(1##

!#)-(1##

ED

==

+

+=




#erfectly %nelastic

+uantity demanded does not respond to price

changes!

#erfectly &lastic

+uantity demanded changes infinitely with any

change in price!

'nit &lastic+uantity demanded changes by the same

percentage as the price!



A ariety of Demand Cur!es

ecause the price elasticity

of demand measures howmuch #uantity demanded

responds to the price, it is

closely related to the slope ofthe demand cur$e!



Perfectly Inelastic Demand

" Elasticity e#uals $

Quantity

Price

4

$5

Demand

1002. ...leaves the quantity demanded unchanged.

1. Anincreasein price...



Inelastic Demand

" Elasticity is less than %

Quantity

Price

4

$51. A 22%increasein price...

Demand

10002. ...leads t! a 11% decrease in quantity.



Unit Elastic Demand

" Elasticity e#uals %

Quantity

Price

4


Demand

100"02. ...leads t! a 22% decrease in quantity.



Elastic Demand

" Elasticity is greater than %

Quantity

Price

4


Demand

100502. ...leads t! a #% decrease in quantity.



Perfectly Elastic Demand

" Elasticity e#uals infinity

Quantity

Price

Demand$4

1. At any pricea!ve $4& quantity

demanded is 'er!.

2. At e(actly $4&

c!nsumers )illuy any quantity.

*. At a price el!) $4&

quantity demanded is in+inite.



Elasticity and &otal Re!enue

&otal re$enueis the amount paid by

buyers and recei$ed by sellers of a good!

Computed as the price of the good times

the #uantity sold!

TR = P x Q



$4

Demand

Quantity

P

0

Price

P x Q = $400

,t!tal revenue-

100Q





-ith an inelasticdemand

cur$e, an increase in price

leads to a decrease in #uantity

that is proportionately

smaller! &hus, total re$enue

increases!



Elasticity and &otal Re!enue'

Inelastic Demand

$*

Quantity0

Price

"0

evenue ($240

Demand$1 Demand

Quantity0

evenue ($100

100

Price

.n increase in price

from )1 to )/!!!

leads to an increase

in total re$enue

from)100 to )20




-ith an elastic demandcur$e,

an increase in the price leads to

a decrease in #uantity demanded

that is proportionately larger!

&hus, total re$enue decreases!




Elastic Demand

Demand

Quantity0

Price

$4

50

Demand

Quantity0

Price

evenue ($100

$5

20

evenue ($200


from ) to )!!!

leads to a decrease

in total re$enue

from)200 to )100



Computing the Elasticity of a

)inear Demand Cur!e

Price *uantity

&otal Re!enue

+Price ,

*uantity-

Percent Change

in Price

Percent

Change

in *uantity Elasticity Description

$ %/ $ 0$$1 %51 $.% Inelastic% %0 %0 23 %4 $. Inelastic

0 %$ 0$ /$ 00 $.2 Inelastic

4 0/ 06 06 % Unit elastic

/ 2 0/ 00 /$ %.4 elastic

5 / 0$ %4 23 .3 elastic

2 0 %0 %5 0$$ % elastic3 $ $



Income Elasticity of Demand

Income elasticity of demandmeasures

how much the #uantity demanded of a

good responds to a change in consumersincome!

It is computed as the percentage change

in the #uantity demanded di$ided by thepercentage change in income!



Computing Income Elasticity

%ncome

Elasticityof Demand

Percenta&e '(an&ein Q)antity

DemandedPercenta&e '(an&ein %ncome

=


28/64


29/64


Income Elasticity

" &ypes of 7oods " 3oods consumers regard as necessities

tend to beincome inelastic

'%amples include food, fuel, clothing, utilities,and medical ser$ices!

3oods consumers regard as lu%uries tend

to beincome elastic!'%amples include sports cars, furs, ande%pensi$e foods!


30/64


Price Elasticity of 8upply

"rice elasticity of supplyis the

percentage change in #uantity supplied

resulting from a percent change in price! It is a measure of how much the #uantity

supplied of a good responds to a change

in the price of that good!


31/64



"erfectly 'lastic

ES=

4elati$ely 'lastic

ES> 1

5nit 'lasticES= 1


32/64



4elati$ely Inelastic

ES 1

"erfectly Inelastic

ES= !


33/64


Perfectly Inelastic 8upply


Quantity

Price

4

$5

/upply

1002. ...leaves the quantity supplied unchanged.



34/64


Inelastic 8upply


Quantity

Price

4


110100

/upply

2. ...leads t! a 10% increase in quantity.


35/64


Unit Elastic 8upply


Quantity

Price

4


125100

/upply



36/64


Elastic 8upply


Quantity

Price

4


200100

/upply

2. ...leads t! a #% increase in quantity.


37/64


Perfectly Elastic 8upply


Quantity

Price

/upply$4


supplied is in+inite.

2. At e(actly $4&

pr!ducers )illsupply any quantity.

*. At a price el!) $4&quantity supplied is 'er!.


38/64


Determinants of

Elasticity of 8upply.bility of sellers to change the amount of

the good they produce!

each6front land is inelastic! ooks, cars, or manufactured goods are

elastic!

&ime period!7upply is more elastic in the long run!


39/64


40/64


Application of Elasticity

Can good news for farming be bad news for

farmers8

-hat happens to wheat farmers and the market

for wheat when uni$ersity agronomists disco$er a

new wheat hybridthat is more producti$e than

e%isting $arieties8


41/64


Application of Elasticity

'%amine whether the supply or demand

cur$e shifts!

9etermine the direction of the shift of thecur$e!

5se the supply6and6demand diagram to

see how the market e#uilibrium changes!



42/64

An Increase in 8upply in the

Mar9et for :heat

$*

Quantity !+ heat1000

Price !+heat

Demand

S1



43/64

*. ...and a pr!p!rti!nately smaller

increase in quantity s!ld. As a result&revenue +alls +r!m *00 t! 220.


Mar9et for :heat

$*


Price !+heat 1. hen demand is inelastic&

an increase in supply...

Demand

S1 S2

2

110

2. ...leads

t! a large

+all in

price...


44/64


Compute Elasticity

-#"2$#"$#"#*!-

2"##)/2(3"##2"##-3"##

11#)/2(1##11#-1##

=ED

=

+

+


45/64


Compute Elasticity

-#"2$#"$#"#*!-

2"##)/2(3"##2"##-3"##

11#)/2(1##11#-1##

=ED

=

+

+

Demand is inelastic


46/64


8ummary

"rice elasticity of demand measures

how much the #uantity demanded

responds to changes in the price!

If a demand cur$e is elastic, total

re$enue falls when the price rises!

If it is inelastic, total re$enue rises as

the price rises!


47/64


8ummary

&he price elasticity of supply measures

how much the #uantity supplied

responds to changes in the price!

In most markets, supply is more elastic

in the long run than in the short run!


48/64


3raphical4e$iew


49/64



of Demand

Demand is price elastic

$54 Demand

Quantity1000

Price

50

-3percent22-

percent6

!"##)/2($"##!"##)-($"##

!#)/2(1##!#)-(1##

ED

==

+

+=


50/64


Perfectly Inelastic Demand


Quantity

Price

4

$5

Demand

1002. ...leaves the quantity demanded unchanged.



51/64


Inelastic Demand


Quantity

Price

4


Demand

10002. ...leads t! a 11% decrease in quantity.


52/64


Unit Elastic Demand


Quantity

Price

4


Demand

100"02. ...leads t! a 22% decrease in quantity.


53/64


Elastic Demand


Quantity

Price

4

$5

1. A 22%increasein price...

Demand

100502. ...leads t! a #% decrease in quantity.


54/64


Perfectly Elastic Demand


Quantity

Price

Demand$4


demanded is 'er!.

2. At e(actly $4&

c!nsumers )illuy any quantity.

*. At a price el!) $4&quantity demanded is in+inite.


55/64


$4

Demand

Quantity

P

0

Price

PP xx QQ == $400$400

,t!tal revenue-,t!tal revenue-

100Q



56/64



Inelastic Demand

$*

Quantity0

Price

"0

evenue ($240

Demand$1 Demand

Quantity0

evenue ($100

100

Price


from )1 to )/!!!

leads to an increase

in total re$enue

from)100 to )20


57/64



Elastic Demand

Demand

Quantity0

Price

$4

50

Demand

Quantity0

Price

evenue ($100

$5

20

evenue ($200


from ) to )!!!

leads to a decrease

in total re$enue

from)200 to )100


58/64


Perfectly Inelastic 8upply


Quantity

Price

4

$5

/upply

1002. ...leaves the quantity supplied unchanged.


8


59/64


Inelastic 8upply


Quantity

Price

4


110100

/upply



60/64

El ti 8 l


61/64


Elastic 8upply


Quantity

Price

4


200100

/upply

2. ...leads t! a #% increase in quantity.

P f tl El ti 8 l


62/64


Perfectly Elastic 8upply


Quantity

Price

/upply$4


supplied is in+inite.

2. At e(actly $4&

pr!ducers )illsupply any quantity.

*. At a price el!) $4&quantity supplied is 'er!.


63/64



64/64


Mar9et for :heat

*. ...and a pr!p!rti!nately smaller

$*


Price !+heat 1. hen demand is inelastic&

an increase in supply...

Demand

S1 S2

2

110

2. ...leads

t! a large

+all in

price...

Chapter 05ad

Documents