3.1.11 the meaning and significance of price elasticity of demand and supply Flashcards
price elasticity demand
the price elasticity of demand measures the responsiveness of the quantity demanded relative to the percentage change in price.
Why is price elasticity important?
Price elasticity is important because it helps businesses and policymakers understand how changes in price affect consumer demand. If demand is highly elastic, a small price increase can lead to a large drop in sales, while if demand is inelastic, prices can be raised with little impact on sales. This knowledge helps companies set prices effectively and make informed decisions about production, marketing, and revenue strategies.
define elastic demand ( high price elasticity)
a product will have a high PED if the absolute value is greater than 1
- consumers are highly responsive
-% change in quantity demanded willl be greater than % change in price
-PED would be flat
define inelastic demand ( low price elasticity)
a product will have low PED if the value is less than 1
-a consumer is not responsive to price changes
-when percentage change in quantity demanded will be less than the percentage change in price.
-Ped will be steep
define demand is of unit elastic (medium PED)
the percentage change in quantity demanded and price may be equal. this is known as unit elasticity because the elasticity value will be equal to 1.
why do businesses value PED
business’s would prefer to operate in an environment where the goods they sell have relatively low PED
-profit maximisation
factors affecting PED of demand
-degree of necessity
-availability of substitutes
-proportion of income
-time
explain how the degree of necessity for a good can make it either elastic or inelastic
goods and services that are deemed to be necessities will usually be inelastic whereas luxury products will be elastic
-consumers have less choice when it is linked to survival
explain how the availability of substitutes can make a good inelastic or elastic
products will many substitutes tend to be considered elastic
-available substitutes allow consumers to switch to a close substitute when the price of another product rises.
explain how proportion of income can make a good inelastic or elastic
the greater the percentage of income that is needed to purchase a good or service, the more inelastic it gets.
explain how time can make a good inelastic or elastic
if you need it immediately, inelastic
price elasticity of supply
refers to how responsive producers are to changes in price.
define elastic supply (high PES)
Elastic supply occurs when the quantity supplied changes by a greater percentage than the change in price (PES > 1).
define unit elastic supply (medium PES)
Unit elastic supply occurs when the percentage change in quantity supplied is equal to the percentage change in price (PES = 1).
define inelastic supply (low PES)
Inelastic supply occurs when the percentage change in quantity supplied is less than the percentage change in price (PES < 1).
determinates of the price elasticity of supply
-production period
-spare capacity
-durability of goods
explain how production period of a good can affect its price elasticity
if prices increase for a particular good, this will signal to suppliers that allocating resources into this area may now be profitable.The production period affects price elasticity because goods that take longer to produce (e.g., crops, manufactured goods with complex processes) have inelastic supply, as firms cannot quickly adjust output.
In contrast, goods that can be produced quickly (e.g., simple manufactured items) have more elastic supply, as firms can respond faster to price changes.
explain how spare capacity can affect the price elastic of a good
If a business has spare capacity, it can easily reallocate resources to produce more of the most profitable goods, making supply more elastic.
However, if all resources are already in use, shifting production is difficult, making supply more inelastic.
