1.2 How markets work - elasticity Flashcards
Give the equation for price elasticity of demand.
PED =
% change in quantity demanded
———————————————–
% change in price
What does PED measure?
How responsive the quantity demanded is to changes in price.
What is PED affected by?
-Number of substitutes
-Time ( in the short term it is hard for people to change habits)
-Necessities tend to be price inelastic
-Cost of switching between products
What are the uses of PED?
-Help firms determine the optimum price to charge
-Helps firms decide whether they should increase or decrease price
What are the limitations of PED?
-Values are based on estimates
-Information used to calculate it can become outdated
-The elasticity will change over time
What are the rules of elasticity?
Perfectly inelastic =
Price elastic =
Unitary elastic =
Price inelastic =
Perfectly inelastic = 0
Price elastic = >1
Unitary elastic = 1
Price inelastic = <1
Give the equation for income elasticity of demand.
YED =
% change in quantity demanded
———————————————–
% change in income
What does YED measure?
How responsive quantity demanded is to changes in income.
What does the sign tell you when working out YED?
+ Normal good
- Inferior good
What’s a normal good?
A good such as crisps and t-shirts. When incomes rise the demand for these rises as well.
What’s an inferior good?
Are goods that are shops own brand goods. As incomes fall demand for these rise.
What’s a superior good?
These are goods that as luxuries.
Do normal and inferior goods have a positive or negative income of elasticity?
Normal goods have a positive income of elasticity.
Inferior goods have a negative income of elasticity.
What are the uses of YED?
-Helps firms predict the effects of changes in incomes
-Helps businesses spread risk by offering different products at different price points
-Helps businesses plan ahead
What are the limitations of YED?
-Values are based on estimates
-Forecasting changes in demand is difficult
-Information to calculate YED can become outdated
Give the rules of elasticity for these numbers.
0
>1
1
<1
0 = Perfectly inelastic
>1 = Price elastic
1 = Unitary elastic
<1 = Price inelastic
Give the equation for Cross price elasticity of demand.
% change in price of Y
What does YED measure?
Measures how responsive quantity demanded of one good is to changes in price of another good.
What does the sign tell you about XED?
+ Are substitute goods
- Are complimentary goods
What is a substitute good?
Two goods that have a positive cross elasticity. E.g. an increase in the price of gas will lead to an increase in the quantity demanded of electricity.
What are complementary goods?
Two goods that have a negative cross elasticity. E.g. an increase in the price of sand will lead to a decrease in the quantity demanded of cement.
What are unrelated goods?
These goods have a cross elasticity of 0. These goods are completely unrelated and have little to no effect on each other.
What are the uses of XED?
-Helps to classify goods as complementary or substitutes
-Helps determine pricing policy
What are the limitations of XED?
-Values are based on estimates
-Forecasting changes are difficult
-Information used to calculate it can become outdated
Give the rules of elasticity.
Perfectly inelastic = 0
Price elastic = >1
Unitary elastic = 1
Price inelastic = <1
Give the equation for price elasticity of supply.
% change in price
What does PES measure?
How responsive quantity supplied is to changes in price.
What is PES affected by?
-Availability of producer substitutes
-The shorter the time period the harder producers find it from switching from making one product to another.
-Some products take longer to make
-Some products are impossible to hold in stock e.g. electricity
What are the uses of PES?
-To help firms respond quickly to changes in price and demand
-To help take measures to improve the elasticity of their supply
What are the limitations to PES?
-Values are based on estimates
-Information used to calculate it can become outdated
-Other factors may shit the supply curve cancelling the QS affect
