Chapter 6 Flashcards
What is elasticity?
A measure of responsiveness or sensitivity
What is the formal definition of elasticity?
The percentage change in a dependent variable if the relevant independent variable changes by one percent
What is price elasticity of demand ?
The percentage change of the quantity of a product if the price changes by 1 percent
How is elasticity calculated always ?
% change in dependent
E = ————————————
% change in independent
What are the important aspects and and implications of the definition of price elasticity of demand that must be emphasized?
- Elasticity is calculated by using percentage changes, which are relevant changes, not absolute changes. If we use percentage changes, the units in which prices and quantities are measured do no affect the results
- Elasticity coefficients enable us to compare how consumers react to changes in the prices of different goofs and services
- The measured price elasticity of demand has a negative sign, since the change in the price of a product and the change in the quantity demanded move in opposite directions (but the negative sign is ignored and we only focus on the absolute value)
What is the relationship between price elasticity of demand and total revenue(TR) ?
The proce elasticity of demand can be used to determine by how much the total expenditure by consumers on a product (TR of firms producing that product) changes when the price of the product changes
What does the effect of a price change on total revenue depend on ?
It depends in the relative sizes of the price change and the change in the quantity demanded ~
- If the price elasticity of demand is greater than 1, TR (= PQ) will change in the opposite direction to the price change (it will increase as Quantity sold increases )
- If the price elasticity demand is = 1, the TR will remain unchanged ( TR reaches a maximum)
- If the price elasticity of demand is small than 1, TR will change in the same direction as the price change ( TR falls as quantity sold increases)
What are the different categories if price elasticity of demand
- Perfectly inelastic demand ( EP = 0)
- Inelastic demand ( 0< EP< 1)
- Unitary elastic demand (EP=1)
- Elastic demand (1<EP<♾)
- Perfectly elastic demand ( EP=♾)
What is income of elasticity of demand ?
The % change in the quantity demanded of a product if the consumers’ income changes by 1%
What does a positive income elasticity of demand mean ?
It means that an increase in income is accompanied by an increase in the quantity demanded of the product concerned
~ goods with a positive income elasticity of demand are called normal goods
What a negative income elasticity of demand mean ?
It means that an increase in income leads to a decrease in the quantity demanded of the good concerned
~ Goods with negative income elasticity of demand are called inferior goods
What are normal goods classified as ?
~ when EY>1; when %change in Q demanded is> % change in income, they are classified as luxury goods
~ When 0<EY<1; when %change in Q demanded is < %change in income, they are classified as essential goods
What are normal goods classified as ?
~ when EY>1; when %change in Q demanded is> % change in income, they are classified as luxury goods
~ When 0<EY<1; when %change in Q demanded is < %change in income, they are classified as essential goods
What is cross price elasticity of demand (EC) ?
The sensitivity of the quantity demanded due to a change I’m the price of a related product
OR
The %change in the quantity demanded for product A, if the change in the price of product B increase by 1 percent
What is the cross elasticity of demand when 2 goods are unrelated?
EC = 0
~ cross elasticity of demand measures the responsiveness of the quantity demanded of a particular good to changes in the price of a related good
