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8/9/2019 Econ 102 Ch 5
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8/9/2019 Econ 102 Ch 5
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Elasticity
ELASTICITY (price elasticity ofdemand) What is it
How do we compute it
What aects it
! dierent "raphs
How it is related to re#enue
ELASTICITY A$% ITSA&&LICATI'$
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You desi"n wesites for local usinesses*You char"e +,, per wesite-and currently sell . wesites per month*
Your costs are risin"
(includin" the opportunity cost of yourtime)-so you consider raisin" the price to +!,*
The law of demand says that you won/t sell
as many wesites if you raise your price*How many fewer wesites0 How much willyour re#enue fall- or mi"ht it increase0
You desi"n wesites for local usinesses*
You char"e +,, per wesite-and currently sell . wesites per month*
Your costs are risin"
(includin" the opportunity cost of yourtime)-so you consider raisin" the price to +!,*
The law of demand says that you won/t sell
as many wesites if you raise your price*How many fewer wesites0 How much willyour re#enue fall- or mi"ht it increase0
A scenario
1
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ELASTICITY A$% ITSA&&LICATI'$
2
Elasticity 3asic idea4
Elasticity measures how much one#ariale responds to chan"es inanother #ariale*
'ne type of elasticity measures howmuch demand for your wesites will fall
if you raise your price*
%e5nition4Elasticityis a numerical measure ofthe responsi#eness of Qd or Qs to
one of its determinants*
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ELASTICITY A$% ITSA&&LICATI'$
!
&rice Elasticity of %emand
Price elasticity of demandmeasures how much Qdresponds toa chan"e in P*
&riceelasticity ofdemand
6
&ercenta"e chan"e in
Qd
&ercenta"e chan"e inP
Loosely spea7in"- it measures the price8
sensiti#ity of uyers/ demand*
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ELASTICITY A$% ITSA&&LICATI'$
9
&rice Elasticity of %emand
&riceelasticityof demand
e:uals
P
Q
D
Q2
P2
P1
Q
1
Prisesy
.,;
Q fallsy
.!;
.!;
.,;6 .*!
&riceelasticity ofdemand
6
&ercenta"e chan"e in
Qd
&ercenta"e chan"e inP
E
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ELASTICITY A$% ITSA&&LICATI'$
=
Calculatin" &ercenta"e Chan"es
P
Q
D
+!,
>
3
+,
,
.
A
%emand foryour
wesites
Standard method
of computin" the
percenta"e (;)
chan"e4end #alue ? start
#aluestart#alue
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ELASTICITY A$% ITSA&&LICATI'$
>
Calculatin" &ercenta"e Chan"es
P
Q
D
+!,
>
3
+,
,
.
A
%emand foryour
wesites
Problem:
The standard method"i#es dierent answers
dependin" on where you
start*Brom A to 3-
Prises !;- Qfalls
11;-
elasticity 6 11! 6
.*11
Brom 3 to A-
Pfalls ,;- Qrises
!,;- elasticity 6 !,,6
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ELASTICITY A$% ITSA&&LICATI'$
Calculatin" &ercenta"e Chan"es So- we instead use the midpoint
method4end #alue ? start
#aluemidpoint
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ELASTICITY A$% ITSA&&LICATI'$
The %eterminants of &rice Elasticity4A Summary
The price elasticity of demanddepends on4
the e
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Price Elasticity and %otal&e'enue
ELASTICITY A$% ITSA&&LICATI'$
1,
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ELASTICITY A$% ITSA&&LICATI'$
1.
&rice Elasticity and Total Je#enue Continuin" our scenario- if you raise your
pricefrom +,, to +!,- would your re#enue riseor fall0
Je#enue 6 P< Q
A price increase has two eects on re#enue4
Hi"her Pmeans more re#enue on each
unit
you sell* 3ut you sell fewer units (lower Q)-
due to Law of %emand*
Which of these two eects is i""er0It depends on the price elasticity of demand*
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ELASTICITY A$% ITSA&&LICATI'$
1
&rice Elasticity and Total Je#enue
If demand is elastic- thenprice elast* of demand N .
; chan"e in Q N ; chan"e in P
The fall in re#enue from lower Q is "reaterthan the increase in re#enue from hi"her
P-so re#enue falls*
Je#enue 6 P
*) As a result of a fare war- the price of alu
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Elasticity
ELASTICITY (price elasticity of supply) What is it
How do we compute it What aects it
! dierent "raphs
How it is related to re#enue
ELASTICITY A$% ITSA&&LICATI'$
1
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ELASTICITY A$% ITSA&&LICATI'$
2,
&rice Elasticity of Supply
Price elasticity of supply
measures how much Qs
responds toa chan"e in P*
&riceelasticity of
supply
6
&ercenta"e chan"e in
Qs&ercenta"e chan"e inP
Loosely spea7in"- it measures sellers/
price8sensiti#ity*
A"ain- use the midpoint method tocompute the percenta"e chan"es*
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ELASTICITY A$% ITSA&&LICATI'$
2.
Q
2
&rice Elasticity of Supply
&riceelasticityof supplye:uals
P
Q
S
P2
Q1
P1
Prises
y >;
Qrises
y
.9;
>;6 *,
&riceelasticity of
supply
6
&ercenta"e chan"e in
Qs&ercenta"e chan"e inP
E
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ELASTICITY A$% ITSA&&LICATI'$ 2
The ariety of SupplyCur#es The slope of the supply cur#e is
closely related to price elasticity ofsupply*
Jule of thum4The Katter the cur#e- the i""er theelasticity*
The steeper the cur#e- the smallerthe elasticity*
Bi#e dierent classi5cations*
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ELASTICITY A$% ITSA&&LICATI'$ 21
S
&erfectly inelasticF (one e
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ELASTICITY A$% ITSA&&LICATI'$ 22
S
InelasticF
P
QQ1
P1
Q
2
P2
Q rises lessthan .,;
M.,;.,;
M
.
&rice
elasticityof supply
6; chan"e in
Q; chan"e in
P
6
Prisesy
.,;
Sellers/
price sensiti#ity4
S
cur#e4
Elasticit
y4
relati#ely steep
relati#ely low
M .
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ELASTICITY A$% ITSA&&LICATI'$ 2!
S
nit elasticF
P
QQ1
P1
Q
2
P2
Q rises
y .,;
.,;
.,;
6
.
&rice
elasticityof supply
6; chan"e in
Q; chan"e in
P
6
Prisesy
.,;
Sellers/
price sensiti#ity4
S
cur#e4
Elasticit
y4
intermediate
slope
intermediate
6 .
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ELASTICITY A$% ITSA&&LICATI'$ 29
S
ElasticF
P
QQ1
P1
Q
2
P2
Q risesmore than
.,;
N.,;.,;
N
.
&rice
elasticityof supply
6; chan"e in
Q; chan"e in
P
6
Prisesy
.,;
Sellers/
price sensiti#ity4
S
cur#e4
Elasticit
y4
relati#ely Kat
relati#ely hi"h
N .
&erfectly elasticF (the other
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ELASTICITY A$% ITSA&&LICATI'$ 2=
S
&erfectly elastic (the othere
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ELASTICITY A$% ITSA&&LICATI'$ 2>
The %eterminants of SupplyElasticity The more easily sellers can chan"e
the :uantity they produce- the"reater the price elasticity of supply*
E
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A C T I E L E A J $ I $ @ 3
Elasticity and chan"es in e:uilirium
2
The supply of eachfront property isinelastic* The supply of new cars is elastic*
Suppose population "rowth causesdemand for oth "oods to doule
(at each price- Qddoules)*
Bor which product will Pchan"e the most0 Bor which product will Qchan"e the most0
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A C T I E L E A J $ I $ @ 3
Answers
!,
3eachfrontproperty (inelastic
supply)4P
Q
D1 S
Q.
P. A
When supply
is inelastic-
an increasein demand
has a i""er
impact on
price than on:uantity*
D2
3
Q
P
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A C T I E L E A J $ I $ @ 3
Answers
!.
$ew cars(elastic supply)4
P
Q
D1
S
Q.
P. A
When supply
is elastic-
an increase
in demandhas a i""er
impact on
:uantity than
on price*
D2
Q
P
3
How the &rice Elasticity of Supply Can
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ELASTICITY A$% ITSA&&LICATI'$ !
S
How the &rice Elasticity of Supply Canary
P
Q
Supplyoftenecomesless elastic
as Qrises-due tocapacitylimits*
Supplyoftenecomesless elastic
as Qrises-due tocapacitylimits*
+.!
!!
.
!,,
+1
.,,
2
,,
elasticity N .
elasticity M .
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'ther Elasticities
ELASTICITY A$% ITSA&&LICATI'$ !1
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ELASTICITY A$% ITSA&&LICATI'$ !2
'ther Elasticities Income elasticity of demand4 measures
the response of Qdto a chan"e in consumerincome
Incomeelasticity of
demand
6&ercent chan"e in Qd
&ercent chan"e inincome
Jecall from Chapter 24 An increase in
income causes an increase in demand for a
normal"ood* Hence- for normal "oods- income elasticity N
,*
Bor inferior"oods- income elasticity M ,*
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ELASTICITY A$% ITSA&&LICATI'$ !!
'ther Elasticities Cross+price elasticity of demand4
measures the response of demand for one"ood to chan"es in the price of another "ood
Cross8price
elast*of demand
6; chan"e in Qd for
"ood .; chan"e in price of
"ood Bor sustitutes- cross8price elasticity N ,
(e.g*- an increase in price of eef causes an
increase in demand for chic7en) Bor complements- cross8price elasticity M ,
(e.g*- an increase in price of computers
causes decrease in demand for software)
A&&LICATI'$4 %oes %ru" Interdiction Increase or
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ELASTICITY A$% ITSA&&LICATI'$ !9
A&&LICATI'$4 %oes %ru" Interdiction Increase or
%ecrease %ru"8Jelated Crime0
'ne side eect of ille"al dru" use is crime4sers often turn to crime to 5nance their hait*
We e
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ELASTICITY A$% ITSA&&LICATI'$ !=
D1
&olicy .4 Interdiction
&rice of
%ru"s
Uuantity
of %ru"s
S1
S2
P1
Q
1
P2
Q2
Interdiction reduces
thesupply ofdru"s*Sincedemand for
dru"s isinelastic-Prisespropor8
tionally morethan Qfalls*Jesult4 an increase intotal spendin" ondru"s- and in dru"8
related crime
new #alue ofdru"8related
crime
initial#alue ofdru"8related
crime
&olicy 4 Education
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ELASTICITY A$% ITSA&&LICATI'$ !>
&olicy 4 Education
&rice of
%ru"s
Uuantity
of %ru"s
D1S
P1
Q
1
D2
P2
Q2
Education
reducesthedemandfor dru"s*
Pand Qfall*
Jesult4A decrease intotal
spendin" ondru"s- and indru"8relatedcrime*
initial#alue ofdru"8related
crime
new #alue ofdru"8related
crime
CHA&TEJ SQQAJY
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CHA&TEJ SQQAJY
Elasticity measures the responsi#eness of
Qdor Qsto one of its determinants*
&rice elasticity of demand e:uals percenta"echan"e in Qddi#ided y percenta"e chan"e inP*When it/s less than one- demand is inelastic*FWhen "reater than one- demand is elastic*F
When demand is inelastic- total re#enue riseswhen price rises* When demand is elastic-total re#enue falls when price rises*
!
CHA&TEJ SQQAJY
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CHA&TEJ SQQAJY
%emand is less elastic in the short run-for necessities- for roadly de5ned "oods-or for "oods with few close sustitutes*
&rice elasticity of supply e:uals percenta"echan"e in Qsdi#ided y percenta"e chan"ein P*When it/s less than one- supply is inelastic*FWhen "reater than one- supply is elastic*F
&rice elasticity of supply is "reater in thelon" run than in the short run*
9,
CHA&TEJ SQQAJY
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CHA&TEJ SQQAJY
The income elasticity of demandmeasures how much :uantity
demanded responds to chan"es inuyers/ incomes*
The cross8price elasticity of demand
measures how much demand for one"ood responds to chan"es in theprice of another "ood*