1.2.3 - Price, income and cross elasticities of demand. Flashcards
What is Price elasticity of demand ?
The responsive of demand to a change in price of the good.
What is perfectly inelastic* demand ?
The QD is completely unresponsive to a
change in P. The change in price has no effect on the output so demand is completely unresponsive to price.(very theoretical value e.g. heart transplant is extremely inelastic but possibly not perfectly)
Value : 0
What is perfectly elastic* demand ?
The %∆ in QD will fall to zero with any
%∆ in P (highly theoretical elasticity)
Value: ∞ (infinity)
What is inelastic* demand ?
The %∆ in QD is less than the %∆ in P (e.g. addictive products). It isn’t that responsive to a change in price.
Value : <1
What is Elastic* demand ?
The %∆ in QD is more than the %∆ in P (e.g. luxury products). It is very responsive to a change in price.
Value : >1
What is unitary elastic* demand ?
The %∆ in QD is exactly equal to the %∆ in P.
Value = 1
Blurt all the factors you know that affect PED of a good or service.
- Availability of substitutes: good availability of substitutes results in a higher value of PED (relatively elastic).
- Addictiveness of the product: addictiveness turns products into necessities resulting in a low value of PED (relatively inelastic).
Price of product as a proportion of income: the lower the proportion of income the price represents, the lower the PED value will be. Consumers are less responsive to price changes on cheap products (relatively inelastic).
Time period: In the short term, consumers are less responsive to price increases resulting in a low value of PED (relatively inelastic). Over a longer time period consumers may feel the price increase more and will then look for substitutes resulting in a higher value of PED (relatively elastic)
Necessity: If you nees something, the demand curve will be inelastic because even if the price goes up, you still need to buy it.
What is Income Elasticity of demand (YED)
how responsive the change in quantity demanded is to a change in income
Normal necessity
An increase in income will lead to an increase in demand for the good.
Value : Positive, but less than 1 (0 -1).
They tend to be inelastic. So unresponsive to a change in income
Also know as a superior goof.
Luxury good
An increase in income will lead to an increase in demand for the good. They are normally responsive to a change in income. So income elastic.
Value : Positive, and greater than 1.
Inferior good.
As income increase demand decreases. Goods can be both elastic or inelastic.
Value : Negative (<0)
Factors affecting YED.
● YED is influenced by any factors in an economy which change the wages of workers.
- During a recession wages usually fall and demand for inferior goods rises and luxury goods falls.
- During a period of economic growth and rising wages, demand for luxury goods increases and demand for inferior goods decreases.
Other influences on income include minimum wage legislation, taxation, increased international trade.
What is Cross Price Elasticity of Demand (XED)
The responsiveness of demand for one product (A) as a result of the change in price for another product (B).
Complementary goods.
Goods that are usually consumed together.
The negative value indicates the two goods are complements as if the price for good A increase the demand for it will decrease so the demand for good B will also decrease.
The higher the value the stronger the relationship.
XED : -
-1 is the least strongest and anything up from there is even stronger relationship
Substitute goods
Goods that can be consumed instead of one another. The coefficient for substitutes is always positive this is because if an increase in price for good A will increase demand for good B.
XED: +
