Chapter 5 | Elasticity

Question 1

Elasticity

Answer 1

Elasticity measures how responsive quantity demanded is to a change in price.

The tool that businesses use to measure consumer responsiveness when making pricing decisions is

Question 2

price elasticity of demand

Answer 2

which measures by how much quantity demanded responds to a change in price.

Question 3

Formula for elasticity

Answer 3

Price elasticity of demand = % change in quantity demanded / % change in price

Question 4

Midpoint Formula

Answer 4

The midpoint formula between any two points on a demand curve like (Q0, P0) and (Q1, P1) is:

Q1 - Q0 / (Q1+ Q0 / 2) / P1 - P0 / (P1+P0 /2 )

Question 5

Inelastic demand

Answer 5

small response in quantity demanded when price rises.

– Example: Demand for insulin by a diabetic.

Value for formula is less than one.
– Low willingness to shop elsewhere.

Question 6

Perfectly inelastic demand

Answer 6

price elasticity of demand equals zero; quantity demanded does not respond to a change in price.

Question 7

Elastic demand

Answer 7

large response in quantity demanded when price rises.

– Example: Demand for blue earbuds.
– Value for formula is greater than one.
– High willingness to shop elsewhere.

Question 8

Perfectly elastic demand

Answer 8

price elasticity of demand equals infinity; quantity demanded has an infinite response to a change in price.

Question 9

Price Elasticity of demand of a product influences;

Answer 9

– available substitutes — more substitutes mean more elastic demand.
– time to adjust — longer time to adjust means more elastic demand.
– proportion of income spent — greater proportion of income spent on a product or service means more elastic demand.

Question 10

What does elasticity determine?

Answer 10

Elasticity determines business pricing strategies to earn maximum total revenue — cut prices when demand is elastic and raise prices when demand is inelastic.

Question 11

Total revenue

Answer 11

— all money a business receives from sales = price per unit (P) multiplied by quantity sold (Q).

– For businesses facing elastic demand, price cuts are the smart choice and increase total revenue.
– For businesses facing inelastic demand, price rises are the smart choice and increase total revenue.

Question 12

Graph Stuff
As you move down a straight line demand curve, elasticity changes and is not the same as slope.

Answer 12

– Elasticity goes from elastic, to unit elastic, to inelastic.
– Total revenue increases, reaches a maximum when elasticity equals 1, and then decreases.

Question 13

What does elasticity of supply measure?

Answer 13

Elasticity of supply measures the responsiveness of quantity supplied to a change in price, and depends on the difficulty, expense, and time involved in increasing production

Question 14

Elasticity of supply

Answer 14

measures by how much quantity supplied responds to a change in price.

Question 15

Elasticity of supply formula

Answer 15

Elasticity of supply = % change in quantity supplied / % change in price

Question 16

Inelastic (Supply)

Answer 16

For inelastic supply, small response in quantity supplied when price rises. Difficult and expensive to increase production.

– Example: supply of mined gold.
– Value for formula is less than 1.

Question 17

Perfectly inelastic supply

Answer 17

— price elasticity of supply equals zero; quantity supplied does not respond to a change in price.

Question 18

Elastic (supply)

Answer 18

For elastic supply, large response in quantity supplied when price rises. Easy and inexpensive to increase production.

– Example: snow-shovelling services.
– Value for formula is greater than 1.

Question 19

Perfectly elastic supply

Answer 19

price elasticity of supply equals infinity; quantity supplied has infinite response to a change in price.

Question 20

Elasticity Supply influences:

Answer 20

– availability of additional inputs — more available inputs means more elastic supply.
– time production takes — less time means more elastic supply.

Question 21

Elasticity of supply allows more accurate predictions of future outputs and prices, helping businesses avoid disappointing customers.

Answer 21

Elasticity of supply allows more accurate predictions of future outputs and prices, helping businesses avoid disappointing customers.

Question 22

Cross elasticity of demand

Answer 22

measures the responsiveness of the demand for a product or service to a change in the price of a substitute or complement.

Question 23

Cross elasticity of demand FORMULA

Answer 23

% Change in quantity demanded / % change in price of a substitute or complement

Question 24

Cross elasticity of demand is a positive number for substitutes. The larger the number:

Answer 24

– the larger the change in demand.
– the larger the shift of the demand curve.
– the closer the products or services are to being perfect substitutes.

Question 25

Cross elasticity of demand is a negative number for complements. The larger the number:

Answer 25

– the larger the change in demand.
– the larger the shift of the demand curve.
– the closer the products or services are to being perfect complements.

Question 26

Income elasticity of demand

Answer 26

measures the responsiveness of the demand for a product or service to a change in income.

Question 27

Income elasticity of demand

Answer 27

% Change in quantity demanded / % change in income

– Positive for normal goods;
increase in income increases demand for normal goods.
– Negative for inferior goods;
increase in income decreases demand for inferior goods.

Question 28

Income inelastic demand

Answer 28

– income elasticity greater than 0 but less than 1
– percentage change in quantity is less than the percentage change in price
– normal goods that are necessities

Question 29

Income elastic demand

Answer 29

– income elasticity greater than 1
– percentage change in quantity is greater than the percentage change in price
– normal goods that are luxuries

Question 30

Tax incidence

Answer 30

the division of a tax between buyers and sellers; depends on elasticities of demand and supply

Question 31

Elasticity of demand and tax incidence:

Answer 31

– perfectly inelastic demand — buyers pay all
– more inelastic demand — buyers pay more
– more elastic demand — sellers pay more
– perfectly elastic demand — sellers pay all

Question 32

Elasticity of supply and tax incidence:

Answer 32

– perfectly inelastic supply — sellers pay all
– more inelastic supply — sellers pay more
– more elastic supply — buyers pay more
– perfectly elastic supply — buyers pay all

Question 33

The more inelastic demand and supply are, the greater the tax revenue for government. For maximum revenue, governments try to tax products and services with inelastic demands and supplies.

Answer 33

The more inelastic demand and supply are, the greater the tax revenue for government. For maximum revenue, governments try to tax products and services with inelastic demands and supplies.