Price of the good Elasticity of Demand Income Price of other goods Price elasticity of demand Income...

Priceof the good

Elasticity of Demand

Income

Priceof other goods

Price elasticity of demand

Income elasticity of demand

Cross elasticity of demand

Elasticity of Demand

What is price elasticity of demand?How to represent the different degrees

of elasticity of demand using graphs?What is cross elasticity of demand?What is income elasticity of demand?

Price elasticity of demand

The law of demand tells us that:

P Qd

But that’s not very useful to bizman.

More importantly:

the magnitude (extent) of the increase

Price elasticity of demand

Definition:

Responsiveness of quantity demanded to a change in the_________________, ceteris paribus.

Formula:

Price elasticity of demand (P)=

Price elasticity of demand

Compare the following cases:

a) 10% in price Qd increases by 30%

b) 10% in price Qd increases by only 2%

For case (a),• dd is sensitive to price changes• we say that the demand is __________• a given % Δ in price brings about a ________

% Δ in Qd

Price elasticity of demand

Compare the following cases:

a) 10% in price Qd increases by 30%

b) 10% in price Qd increases by only 2%

For case (b),• dd is unresponsive to price changes• we say that the demand is _________• a given % Δ in price brings about a _______

% Δ in Qd

Price elasticity of demand

Exercise:A theatre increases the price of its tickets from $5 to $10. As a result, its ticket sales falls from 500 tickets per week to 400 tickets per week.Is the demand for theatre tickets elastic or inelastic?

Price has increased from $5 to $10In % terms, price has increased by 100%

Qd has decreased from 500 tix to 400 tixIn % terms, Qd has decreased by 20%

Since % Δ in Qd < % Δ in price, dd is said to be ________

Price elasticity of demand

Formula:

Price elasticity of demand (P)= pricein %

Qdin %

Same Exercise:A theatre increases the price of its tickets from $5 to $10. As a result, its ticket sales falls from 500 tickets per week to 400 tickets per week.Find the value of the price elasticity of demand.

+ 100%

- 20%

P = - 0.2

Price elasticity of demand

Formula:

Price elasticity of demand (P)=pricein %

Qdin %

+ 100%

- 20%

P = - 0.2

P has a negative sign:_______________ between price of a good & Qd

P has a value of 0.2: for every 1% increase in price, Qd falls by only 0.2%.

Price elasticity of demand

Formula:

Price elasticity of demand (P) =pricein %

Qdin %

When demand is ________, • a given % Δ in price brings about a __________ proportionate % Δ in Qd• substituting into the formula above, the magnitude of P _____

Price elasticity of demand

Formula:

Price elasticity of demand (P) =pricein %

Qdin %

When demand is __________, • a given % Δ in price brings about a __________ proportionate % Δ in Qd• substituting into the formula above, the magnitude of P _____

Price elasticity of demand

Formula:

Price elasticity of demand (P)=pricein %

Qdin %

If a given change in price brings about a proportionate change in Qd, i.e. a 10% increase in price brings about a 10% reduction in Qd, demand is said to be _____________.

In this case, the magnitude of P is _____

Price elasticity of demand

Formula:

Price elasticity of demand (P) =pricein %

Qdin %

If price changes has _________ on Qd, demand is said to be ________________. (extremely insensitive)

In this case, the magnitude of P is _____

Price elasticity of demand

Formula:

Price elasticity of demand (P) = pricein %

Qdin %

If a small increase in price is enough to cause Qd to fall from its existing level _______, demand is said to be ______________. (extremely sensitive)

In this case, the magnitude of P is _____

Demand curves and P

Price

Qtydd

Price

Qty

dd

Price

Qtydd

Price

Qty

dd

Demand curves and P

Price

Qtydd

p = 1 (unit elastic)

p > 1 (elastic)

p < 1 (inelastic)

p =

p = 0

Demand curves and P

Price

Qty

dd

p = 0 (perfectly inelastic)

Quantity demanded remains fixed at Q regardless of price level

P0

P1

Q

Demand curves and P

Price

Qty

dd

p = (perfectly elastic)

The slightest increase in price is enough to cause Qd to fall from its existing level to zero.

P0

Q0

P1

0

Demand curves and P

Price

Qtydd

p = 1 (unit elastic)

A given % change in price will bring about the same % change in Qd

P0

P1

Q1 Q0

50%

50%

Q0

P0

Demand curves and P

Price

QtyD2 D1

A

Comparing the two dd curves D1 & D2.

Which has a more elastic dd at point A?

P1

Q2 Q1

C B

Q0

P0

Demand curves and P

Price

QtyD2 D1

A

P1

Q2 Q1

C B

For the same reduction in price,

dd curve _____ yields a greater increase in Qd

dd curve ____ is more elastic than dd curve _____

RECAP

Price elasticity of demand is defined as the _______________ of quantity demanded of a product to a change in ________, ceteris paribus.

The formula for calculating Ep is:

Ep almost always has a ______ sign because of _____________________________________

RECAP

Elastic demand• A given % Δ in P brings about _________

% Δ in Qd

• Magnitude of P is ____

Inelastic demand• % Δ in P brings about _________ % Δ in

Qd

• Magnitude of P is ______

Price

Qtydd

Price

Qty

dd

Price

Qtydd

Price

Qty

dd

RECAP

Perfectly inelastic dd

Ep = 0

Unitary elastic dd

Ep = 1

Perfectly elastic dd

Ep =

Ep falls as we move down the str line dd curve

Di De

Q0

P0

Price

Qty

A

P1

Q2 Q1

C B

Comparing the 2 dd curves below,

The steeper dd curve has a more ________ dd at point A

RECAP

Questions &

Answers

Ep and Revenue

$49.00 $129.50

Concept of Total Revenue

What is total revenue (TR)?The receipts from the sale of goods and services.

How to calculate TR? Fruit stall 50 Fuji apples a day at $1.50 each.What is the revenue earned by the stall holder?Total revenue = 50 $1.50 = $75Formula:

TotalRevenue

Concept of Total Revenue

Q

P

Price

Qty

D

Concept of Total Revenue

Suppose the firm lowers the selling priceWill it earn more or less revenue than before?

TR = P Q

The effect on TR depends on the relative magnitude of price & qty changes.This in turn depends on Ep.

?

Ep and Revenue

Question:

Why is it that Levis can sell its jeans at a much higher price and still remains profitable?

What does it tell you about the elasticity of dd for Levis jeans?

Ep and Revenue

Levis:• fashion icon• must-have

Still willing to buy despite the high price

Dd for Levis jeans is _________ in price _____ than proportionate in Qd Total revenue ______

TotalRevenue

Ep and Revenue

Q0

P0

Price

Qty

Inelastic dd

A

Q1

TotalRevenue

P1 B

Ep and Revenue

Giordano:• Appeals to the budget conscious

Attracted by low prices

Dd for Giordano jeans is _________ in price _____ than proportionate in Qd Total revenue ______

TotalRevenue

Ep and Revenue

Q0

P0

Price

Qty

Elastic dd

A

Q1

TotalRevenue

P1 B

Ep and Revenue

DD elasticity Price Qty Total Rev

Elastic

Inelastic

Unit Elastic

Ep

Elastic

Inelastic

depends on

Availability of substitutes

Share of budget

Degree of necessity

Definition of commodity

Time Frame

many

few

large

small

luxury

basic necessity

broad

specific

LR

SR

Factors affecting Ep

Priceof the good

Elasticity of Demand

Income

Priceof other goods

Price elasticity of demand

Income elasticity of demand

Cross elasticity of demand

Signs

Distinguish in terms of:

Definition

Determinants

Eab Ey

Distinguish between Ep, Eab and Ey

Ep

Magnitude

Price elasticity of demand

Definition:

Responsiveness of quantity demanded to a change in the price of the good, ceteris paribus.

Formula:

Price elasticity of demand (P)= pricein %

Qdin %

Income elasticity of demand

Definition:

Responsiveness of quantity demanded to a change in _______________, ceteris paribus.

Formula:

Income elasticity of demand (y)=

Cross elasticity of demand

Definition:

Responsiveness of quantity demanded to a change in ___________________, ceteris paribus.

Formula:

Cross elasticity of demand (AB)=

Price elasticity of demand

Sign:

price qty demanded

Ep has a negative sign to reflect this inverse relationship

Income elasticity of demand

Sign:

For most goods

income ____ demand

Ey has a ________ sign to reflect this _______ relationship for normal goods

Examples?

Income elasticity of demand

Sign:

For inferior goods

income _____ demand

Ey has a _________ sign to reflect this ________relationship for inferior goods

Examples ?

Cross elasticity of demand

Sign:

If goods A & B are substitutes (e.g. Pepsi & Coke)

price of good A ____ demand for good B

EAB has a _________ sign to reflect this ________ relationship for substitutes

Examples?

Cross elasticity of demand

Sign:

If goods A & B are complements (e.g. car & petrol)

price of good A ____ demand for good B

EAB has a __________ sign to reflect this _________ relationship for complements.

Examples?

Price elasticity of demand

Magnitude:

If a 10% Δ in P brings about a 15% Δ in Qd

dd is ____________ Ep has a magnitude of _____

If a 10% Δ in P brings about a 5% Δ in Qd

dd is _____________

Ep has a magnitude of _____

Income elasticity of demand

Magnitude:

If a 10% Δ in income brings about a 15% Δ in Qd

dd is ______________ Ey has a magnitude of _____

If a 10% Δ in income brings about a 5% Δ in Qd

dd is ________________

Ey has a magnitude of ____

Cross elasticity of demand

What is the significance of a large cross elasticity of demand?

Ey

Elastic

Inelastic

depends on

Nature of goods

Level of Y

luxury

basic necessity

low

high

Factors affecting Ey

many, close

few

not good complements

close

EAB

High

Low

depends on

ComplementsEAB < 0

SubstitutesEAB > 0

Factors affecting EAB

Elastic DD: Ep ____ Inelastic DD:Ep ___ Unitary DD: Ep=____

P TR

P TR

P TR

P TR

P TR

P TR

Activity Relationship of Ep and TR

Signs

Distinguish in terms of:

Definition

Determinants

Eab Ey

ActivityDistinguish between Ep, Eab and Ey

Ep

Magnitude