CH5: Elasticity Flashcards
What is elasticity in economics?
Elasticity measures the sensitivity of one economic variable to a change in another, such as how demand responds to price changes.
What does the elasticity formula represent?
Elasticity = % change in dependent variable / % change in independent variable.
What is price elasticity of demand?
It measures the percentage change in quantity demanded when the price changes by 1%, ceteris paribus.
How is price elasticity of demand calculated?
ep = (% change in quantity demanded) / (% change in price).
Give an example of price elasticity calculation.
If price changes by 5% and quantity demanded changes by 10%, ep = 10% / 5% = 2.
What does ep > 1 imply?
Demand is elastic – quantity demanded changes more than price.
What does ep = 1 imply?
Demand is unit elastic – quantity and price change proportionally.
What does ep < 1 imply?
Demand is inelastic – quantity changes less than price.
What is the impact of a steeper demand curve on elasticity?
A steeper demand curve means less responsive demand and greater price changes.
What is arc elasticity?
It calculates elasticity over a range using the average of starting and ending prices and quantities.
What is point elasticity?
Elasticity calculated at a specific point on the demand curve.
What is the formula for arc elasticity?
ep = ((Q2 - Q1) / (Q1 + Q2)) / ((P2 - P1) / (P1 + P2)).
What is total revenue?
Total Revenue (TR) = Price (P) × Quantity (Q).
How does elastic demand affect total revenue?
If demand is elastic, a price decrease increases total revenue.
How does inelastic demand affect total revenue?
If demand is inelastic, a price increase increases total revenue.
What is perfectly inelastic demand?
ep = 0 – Quantity demanded does not change regardless of price.
What is the shape of a perfectly inelastic demand curve?
Vertical line – quantity remains constant despite price changes.
What is inelastic demand?
ep < 1 – Quantity demanded changes less than proportionately to price.
What is unitary elasticity?
ep = 1 – Quantity and price change in equal proportions.
What is the shape of a unitarily elastic demand curve?
Rectangular hyperbola (not a straight line).
Concept
Explanation
Elastic Demand
A price change leads to a proportionally greater change in quantity demanded (elasticity > 1). Lowering price increases total revenue.
Perfectly Elastic Demand
Elasticity coefficient is infinity. Consumers will buy any quantity at a certain price, but quantity demanded drops to zero if price increases.
Substitution Possibilities
More and better substitutes increase the price elasticity of demand.
Complementary Goods
Highly complementary goods tend to have inelastic demand.
Type of Want
Necessities (basic goods) have inelastic demand; luxuries have elastic demand.
Time Period
Demand tends to be more elastic in the long run as consumers adjust.
Income Elasticity of Demand
Measures responsiveness of quantity demanded to income changes. Positive for normal goods, negative for inferior goods.
Normal Good
Quantity demanded increases as income increases (positive income elasticity).
Inferior Good
Quantity demanded decreases as income increases (negative income elasticity).
Luxury Good
Normal good with income elasticity > 1.
Essential Good
Normal good with income elasticity between 0 and 1.
Cross Elasticity of Demand
Measures responsiveness of quantity demanded of one good to price change in another.
Substitute Goods (Cross Elasticity)
Positive cross elasticity – increase in price of one increases demand for the other.
Complementary Goods (Cross Elasticity)
Negative cross elasticity – increase in price of one decreases demand for the other.
Price Elasticity of Supply
Measures responsiveness of quantity supplied to price changes.
Perfectly Inelastic Supply
es = 0. Quantity supplied does not change with price.
Inelastic Supply
es > 0 but < 1. Quantity supplied changes less than proportionately to price.
Unitarily Elastic Supply
es = 1. Quantity supplied changes proportionately to price.
Elastic Supply
es > 1. Quantity supplied changes more than proportionately to price.
Perfectly Elastic Supply
es = ∞. Any quantity supplied at a given price.
