Chapter 6: Concepts/ Theory Flashcards
Price elasticity of demand (E)
measure of the responsiveness of quantity demanded to a change in price along a demand curve indicating the effect of price on consumer expenditure
Formula for price elasticity of demand (E)
%change in Q/ %change in P= (change in Q/change in P)*(P/Q)= P/P-A, where A is the price intercept
What is the responsiveness and numerical value when the price is elastic?
Responsiveness:
l%change in Ql > l%change in Pl
Numerical Value:
lEl > 1
What is the responsiveness and numerical value when the price is inelastic?
Responsiveness:
l%change in Ql < l%change in Pl
Numerical Value:
lEl < 1
What is the responsiveness and numerical value when the price is unitary elastic?
Responsiveness:
l%change in Ql = l%change in Pl
Numerical Value:
lEl = 1
What does it mean for demand to be elastic?
consumers respond strongly to a change in price
What does it mean for demand to be inelastic?
consumers do not respond strongly to change in price
Total Revenue definition and equation
total amount paid to producers for a good or service
TR=P*Q
What is the price effect? What is the relationship between P and Q?
the effect on TR of changing price, holding output constant
P and Q are inversely related
What is the quantity effect?
the effect on TR of changing output, holding price constant
Quantity effect: What direction does TR move in?
TR moves in the direction of the stronger effect, either P or Q
How is the effect of a change in the price of TR determined?
the effect of a change in price of TR is determined by the price elasticity of demand (E).
when demand is elastic, the quantity effect dominates.
when demand is inelastic, the price effect dominates.
What factors affect E?
availability of substitutes
percentage of consumer budget
time period for adjustment
Interval (arc) elasticity
E calculated over an interval of a demand curve
Point elasticity and how to find it
measurement of demand elasticity calculated at a point on the demand curve rather than over an interval
multiply the slope of demand (change in Q/ change in P) at the point of measure by the ratio P/Q computed from values at the point of measure
What is the formula for point elasticity when demand is linear or curved?
E=P/ P-A
What is the relationship between price and lEl?
For linear demands: direct relationship- the higher the price, the more elastic
For curvilinear demands: no general rule EXCEPT Q=aP^b
Marginal Revenue (MR)
addition to TR attributable to selling one more unit of output, also the slope of TR
Inframarginal units
units of output that could have sold at a higher price had a firm not lowered its price to sell the marginal unit
MR= P- revenue lost by inframarginal units
What is MR when TR is maximized?
MR=0
Where is MR when demand is linear?
half-way between the demand and price axes
MR is twice as steep as demand
When MR > 0, what happens to TR and lEl?
TR increases as Q increases and P decreases
lEl is elastic
When MR < 0, what happens to TR and lEl?
TR decreases and Q increases and P decreases
lEl is inelastic
When MR= 0, what happens to TR and lEl?
TR is maximized
lEl is unitary elastic
Income elasticity (Em) and formula
measure of responsiveness of quantity demanded to changes in income, holding all other variables in the general demand function constant
Em= %change in Q/ %change in M= (change in Q/ change in M) x (avg M/ avg Q)
Cross-price elasticity (Exr) and formula
measure of responsiveness of Qd to changes in the price of a related good, holding all other variables constant
Exr= %change in Qx/ %change in Pr= (change in Qx/ change in Pr) x (avg Pr/ avg Q)
What does it mean when Exr is positive? Negative?
Positive means the goods are substitutes
Negative means the goods are complements
