Chapter 4 - Elasticity Flashcards
Elasticity
The responsiveness of the quantity demanded of a good to a change in its price
Price elasticity of demand definition
A units-free measure of the responsiveness of the quantity DEMANDED of a good to a change in its price when all other influences on buying plans remain the same.
It is units free because elasticity is a RATIO of percentages, so a change in units of price or quantity leaves elasticity value the same
Price elasticity of demand formula
Percentage change in quantity demanded / percentage change in the price
(Y2-y1)/average
Regardless whether the price rises or falls, by using the average price and average quantity, we get the same elasticity value
The formula for the price elasticity of demand yields a ___ value because ___
Negative ; because price and quantity move in opposite directions. We take the absolute value as such. The magnitude is what tells us how responsive the quantity change has been to a price change.
Demands can be (three things)
In elastic
Unit elastic
Or elastic and can range from zero to infinity
Perfectly inelastic demand
If the quantity demanded does not change when the price changes, the price elasticity of demand is ZERO and the good is perfectly inelastic
In this case, the demand curve would be a vertical line
Unit elastic demand
Percentage change in quantity demanded = percentage change in price.
Price elasticity of demand = 1
Inelastic demand
Elasticity of demand is less than 1
If the percentage change in the quantity demanded is smaller than the percentage change in price, then the demand is inelastic.
Elastic demand
Elasticity of demand is greater than 1
If the percentage change in the quantity demanded is greater than the percentage change in price, the elasticity of demand is elastic.
Perfectly elastic demand
If the percentage change in the quantity demanded is infinitely large when the price barely changes, the price elasticity of demand is INFINITE and therefore the good has a perfectly elastic demand.
All or nothing
If the price decreases —> quantity demanded goes to infinity
If the price increases —> quantity demanded goes to zero
What is an example of perfectly inelastic demand
A person needing life-saving drugs (like a person w kidney failure who needs insulin to stay alive), the change in price wont affect their need for the drug because they need it to live.
Graph will have a vertical demand line (y axis is price x axis is quantity demanded)
What are factors that affect elasticity of demand
Closeness of substitutes
Proportion of income spent on the good
The time elapsed since a price change
How does the closeness of substitutes affect elasticity of demand
It is a factor that influences the elasticity of demand
The closer the substitutes for a good or service, the more elastic is the demand for the good or service
( if there are more substitutes its more elastic)
So necessities like food or housing is inelastic (cuz there are no substitutes)
Luxuries like exotic vacations have elastic demand
How does the proportion of income spent on the good affect elasticity of demand
The greater the proportion of income consumers spend on a good, the larger is the elasticity of demand for that good
How does the time elapsed since the last price change affect price elasticity of demand
The more time consumers have to adjust to a price change, or the longer a good can be stored without losing its value the more elastic the demand is for that good
The total revenue From the sale fo a good or service=
the price of the good multiplied by the quantity sold
Income elasticity of demand definition
Measures how the QUANTITY DEMANDED of a good responds to a CHANGE IN INCOME, other things remaining the same.
Formula of calculating income elasticity of demand
Percentage change in quantity demanded / percentage change in income
When is a demand income elastic
If the INCOME ELASTICITY of demand is greater than 1, demand is income elastic and the good is a NORMAL GOOD
Remember: a normal good is a type of good that experiences an INCREASE IN DEMAND due to an INCREASE IN INCOME.
When is a demand income inelastic
If the income elasticity is BETWEEN 0 AND 1, the demand income is inelastic and the good is a normal good
When is the income elasticity of demand less than zero
When the good is an inferior good.
Remember: an inferior good is a good whose demand DECREASES when consumer income rises.
Cross elasticity of demand definition
Is a measure of the responsiveness of a demand for a good to a change in the price of a substitute or a complement, other things remaining the same.
Remember: two goods are substitutes if the product could be used for the same purpose by the consumers.
Remember: a complementary good is a good whose appeal increases with the popularity of its complement (ex DVD and DVD player)
Cross elasticity of demand formula
The percent change in quantity demanded / % change in price of substitute or complement
The cross elasticity of demand between that are substitutes are …
Positive
Remember: two goods are substitutes if the product could be used for the same purpose by the consumers.
The cross elasticity of demand between goods that are complements are…
Negative
Remember: a complementary good is a good whose appeal increases with the popularity of its complement (ex DVD and DVD player)
