Chapter 6. Elasticity

Chapter 6ElasticityCopyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.Price Elasticity of DemandMeasures buyers’ responsiveness to price changesElastic demandSensitive to price changesLarge change in quantityInelastic demandInsensitive to price changesSmall change in quantityLO1 Ed = Price Elasticity of Demand FormulaFormula for price elasticity of demandpercentage change in quantitydemanded of product Xpercentage change in priceof product XLO1Price Elasticity of Demand FormulaUse the midpoint formulaEnsures consistent resultsEd =÷Change in quantitySum of quantities/2 Change in priceSum of prices/2LO1Total Revenue TestTotal Revenue = Price X QuantityTotal Revenue TestInelastic demandP and TR move in the same directionElastic demandP and TR move in opposite directionsLO2Determinants of Price Elasticity of DemandSubstitutabilityMore substitutes, demand is more elasticProportion of incomeHigher proportion of income, demand is more elasticLO3Determinants of Price Elasticity of DemandLuxuries versus necessitiesLuxury goods, demand is more elasticTime More time available, demand is more elasticLO3Price Elasticity of SupplyMeasures sellers’ responsiveness to price changesElastic supply, producers are responsive to price changesInelastic supply, producers are not as responsive to price changesLO4Price Elasticity of SupplyFormula for price elasticity of supplyLO4percentage change in quantitysupplied of Product Xpercentage change in priceof product XEs =Price Elasticity of SupplyEs > 1 supply is elasticEs = 1 supply is unit elasticEs < 1 supply is inelasticAdditionally,Es = 0 supply is perfectly inelasticLO4Price Elasticity of SupplyTime is primary determinant of elasticity of supplyTime periods consideredImmediate market periodShort runLong runLO4Es: The Immediate Market PeriodPerfectly inelastic supplyD1D2SmQ0PmP0LO4The Short RunShort run supply is more elastic than in the immediate market periodD1D2SsQ0PsP0QsLO4The Long RunLong run supply is even more elastic than in the short runLO4D1D2SLQ0PlP0QlCross Elasticity of DemandFormula for cross elasticity of demandEx,y =percentage change in quantity demanded of product Xpercentage change in priceof product YLO5Cross Elasticity of DemandMeasures responsiveness of purchases of one good to change in the price of another goodSubstitute goods if elasticity is positiveComplement goods if elasticity is negativeIndependent goods if elasticity is 0LO5Income Elasticity of DemandFormula for income elasticity of demandLO5Ei=percentage change in quantity demandedpercentage change in incomeIncome Elasticity of DemandMeasures responsiveness of buyers to changes in their incomeNormal goods if elasticity is positiveInferior goods if elasticity is negativeLO5Income Elasticity InsightsHigh income elasticitiesMost affected by a recessionLow or negative income elasticityNot affected that much by a recessionLO5