Chapter 4 -Subtleties of the Supply and Demand Model Flashcards
Elasticity
A measure of how sensitive one variable is to another.
Ex: In the supply and demand model, elasticity measures how sensitive the quantity of good that people demand, or that firms supply, is to the price of that good.
(2) types of price controls
Price Ceiling
Price Floor
Price Control
A government law or regulation that sets or limits the price to be charged for a good
Price Ceiling
A government price control that sets the maximum allowable price for a good
Price Floor
A government price control that sets the minimum allowable price for a good
Why would a government choose to intervene in the market and put in price controls?
To help consumers in situations in which the government feels the equilibrium price is either too high or too low.
Ex: Oil prices (ceiling) minimum wage (floor)
What are the side effects of price ceilings?
Shortages: Sellers are unwilling to supply as much as buyers want.
What are some effects of shortages?
Ration Coupons
Long queues
Black market
Reduction in quality of the good sold
What are the side effects of price floors?
Surpluses: Sellers are willing to produce more output than buyers want to buy.
What are some effects of surpluses?
Government has to buy the surplus, leading to higher prices paid by taxpayers, (i.e. welfare)
Price elasticity of demand
A measure of how much the quantity demanded changes when the price changes.
Formula: price elasticity of demand = % change in quantity demanded / % change in price
Most goods are normal and have a _________income elasticity of demand.
positive
________ goods have a negative income elasticity of demand.
Inferior
Price elasticity of supply
A measure of how much the quantity supplied changes when the price changes.
Formula: price elasticity of supply = % change in quantity supplied / % change in price
Demand is said to be _______ if the price elasticity of demand is greater than one.
elastic
