Chapter 8/9/10 Flashcards
Price elasticity of demand/supply + income elasticity
What is price elasticity of demand (PED)?
How responsive quantity demanded for a product is when price changes.
If a demand curve is straighter is it more or less elastic?
Straighter= Less elastic
What’s the difference between elastic and inelastic demand?
Elastic- when the change in price is less than change in Qd.
Inelastic- when the change in price is greater than change in Qd.
How do we calculate PED?
% change in Qd/ % change in price
If PED < 1 what does it mean? e.g -0.5
Inelastic demand
If PED > 1 what does it mean? e.g - 2.5
Elastic demand
PED = 0
PED= ∞
PED= -1
0- Perfectly inelastic (Vertical graph)
∞- Perfectly elastic (Horizontal graph)
-1- Unitary elasticity
Define unitary elasticity
When the responsiveness of demand is proportionately equal to change in price. TR never changes.
What factors effect the PED?
- Substitutes
- Proportion of income
- Luxury/necessity
- Addictive
- Time
How does the availability of substitutes affect the PED of a product?
If there are many close substitutes it will be price elastic since consumers will have many options to choose from.
How does the proportion of income spent on the product affect PED?
If proportion of income spent is higher, people will be willing to wait for the price to drop so its price elastic.
How does time affect the PED for a product?
If goods are needed soon, price is inelastic
If goods can wait till the long-term, price is elastic
What is Price elasticity of supply (PES)?
Responsiveness of supply to a change in price
If the supply curve is straighter is PES more or less responsive?
Straighter curve= Less responsive
What is the difference between inelastic and elastic supply?
Inelastic supply- When change in price is greater than in change in Qs
Elastic supply- When change in Qs is greater than change in price
How do we calculate PES?
% change in Qs/ % change in price
If PES> 1 what does it mean?
Elastic supply
If PES < 1 what does it mean?
Inelastic supply
PES = 0
PES = Infinite
PES = 1
0 - Perfectly inelastic (Vertical graph)
Infinite - Perfectly elastic (Horizontal)
1 - Unitary elasticity
What factors affect PES?
- Factors of production
- Availability of stocks
- Spare capacity
- Time
How does availability of stocks influence PES?
If its impossible/ expensive to hold stocks e.g fruits are perishable, PES= inelastic
How does spare capacity influence PES?
If there is spare capacity and price for the product increases, producers can increase supply. If there’s spare capacity= PES is elastic.
How does time influence PES?
If producers can react quickly to change in price (less time needed to increase supply), PES is elastic. If not (e.g. fruits), PES= inelastic
How do the factors of production influence PES?
If the factors of production can be increased quickly then PES= elastic
What is income elasticity of demand?
The responsiveness of demand to a change in income
How do we calculate for income elasticity of demand?
% change in demand / % change in income
How can we use Income elasticity of demand to interpret the nature of a product?
Basic goods- Income inelastic
Luxury goods- Income elastic
Inferior goods- Negative PES value
Normal goods- Positive PES value
When will governments place indirect taxes on products?
When the PED is inelastic and they want to make a profit. Or when they want the demand for products (e.g. cigarettes) to be smaller.
When will governments provide subsidies to businesses?
When they want to increase supply of a product to make the good cheaper. Demand must be price inelastic.
