1.2 How markets work

Question 1

Define PED with a formula

Answer 1

PED is the responsiveness of demand to a change in price

%changeQD / %changeP

Question 2

Explain PED

Question 3

PED determinants

Question 4

Define PES with a formula

Answer 4

PES is the responsiveness of supply to a change in price
Always positive
%changeQS / %changeP

Question 5

Explain PES

Question 6

PES determinants

Answer 6

Availability of stock - If there is a low level of stock, PES is inelastic in the short term.

Unemployment level - If a country or industry has low unemployment, little spare capacity. It takes time to recruit workers and firms will be unresponsive to a change in price in the short term. Migrant workers can increase elasticity.

Spare capacity available - If there is spare capacity of land and capital in production, businesses can expand output readily in response to a price change.

Artificial limits on supply - legal constraints EG patents – only firms with a licence can supply a product for a specified period of time. Those firms can respond to a change in price but others may not.

Flexibility and mobility of resources: If the production process can be adjusted quickly and easily and products can be moved in and out of storage easily, PES is relatively elastic.

Time frame:
Momentary (now) – perfectly inelastic PES
Short run - inelastic PES
Long run - elastic PES

Stock availability - When stocks can be released onto the market, supply is elastic.

Availability of Subs in production - If factors of production are highly specialised, it will be harder to substitute them and PES is inelastic.

Question 7

Why would firms want their goods to be as price elastic as possible

Answer 7

So that businesses can respond to price increases by increasing supply to maximise revenue and increase their producer surplus.

Question 9

How can firms keep PES elastic

Answer 9

They can keep their resources flexible, like training staff for multiple roles, keep buffer stock, employ multi-purpose capital.

However this can be expensive, some industries require specialist labour and capital, meaning it cannot be flexible.

Question 10

Define YED with a formula

Answer 10

YED is the responsiveness to demand due to a change in income.

%changeQD / %changeY

Question 11

YED normal/inferior goods

Answer 11

normal good - positive YED and the demand will increase as income increases
inferior good - negative YED and demand would decrease if income increases

Question 12

YED inelastic/elastic

Answer 12

0-1 inelastic: if Y rises, QD rises but by a smaller % (necessities)
1+ elastic: if Y rises, QD rises more than proportionately (i.e. holidays)

Question 13

Define XED and give a formula

Answer 13

XED is the responsiveness of demand for good X to a change in the price for good Y.

%changeQD[A] / %changeP[B]

Question 14

Explain XED

Answer 14

Goods with a negative XED are complementary and goods with a positive XED are substitutes. An increase in the price of petrol is likely to cause a decrease in demand for motor vehicles.

Question 18

Define direct tax

Answer 18

levied on income, wealth and profit and includes Income Tax, National Insurance Contributions, Corporation Tax, Capital Gains Tax.​

Question 19

Define indirect tax + 2 types

Answer 19

a charge levied by the Government on expenditure, i.e. the selling price of a good or service.​

specific + ad valorem

Question 21

Define Specific Tax

Answer 21

A fixed amount of tax per unit sold

Question 22

Define Ad valorem tax

Answer 22

a percentage of the selling price, changes on the value of the good