Economics Chapter 5-8 Flashcards
Price elasticity
the relationship between the percent change in price resulting in a corresponding percentage change in the quantity demanded or supplied
Price Elasticity of Demand
Percentage change in the quantity demanded of a good or service divided the percentage change in price
Price Elasticity of Supply
Percentage change in the quantity supplied divided by the percentage change in price (Price elasticity of demand should be an absolute value)
Elastic demand
When the elasticity of demand is greater than one, indicating a high responsiveness of quantity demanded or supplied to changes in price
Elastic supply
When the elasticity of either supply is greater than one, indicating a high responsiveness of quantity demanded or supplied to changes in price
Inelastic supply
when the elasticity of supply is less than one, indicating that a 1 percent increase in price paid to the firm will result in a less than 1 percent increase in production by the firm; this indicates a low responsiveness of the firm to price increases (and vice versa if prices drop)
inelastic demand
when the elasticity of demand is less than one, indicating that a 1 percent increase in price paid by the consumer leads to less than a 1 percent change in purchases (and vice versa); this indicates a low responsiveness by consumers to price changes
Unitary elasticities
when the calculated elasticity is equal to one indicating that a change in the price of the good or service results in a proportional change in the quantity demanded or supplied
Midpoint Method for Elasticity
The average percent change in both quantity and price
Midpoint Method for Elasticity Equation
% change in quantity= (Q2–Q1)/((Q2+Q1)/2) × 100
% change in price=P2–P1/((P2+P1)/2) × 100
The advantage of the Midpoint Method
You obtain the same elasticity between two price points whether there is a price increase or decrease. This is because the formula uses the same base (average quantity and average price) for both cases.
Infinite elasticity (perfect elasticity)
the extremely elastic situation of demand or supply where quantity changes by an infinite amount in response to any change in price; horizontal in appearance
Examples of goods with readily available inputs and whose production can easily expand will feature highly elastic supply curves (close to perfect)
pizza, bread, books, and pencils.
Examples of items that take a large share of individuals’ income, and goods with many substitutes are likely to have highly elastic demand curves.
Caribbean cruises and sports vehicles.
An infinite elasticity curve will be
perfectly horizontal
Zero elasticity (perfect inelasticity)
The highly inelastic case of demand or supply in which a percentage change in price, no matter how large, results in zero change in the quantity; vertical in appearance
Examples of goods with limited supply of inputs are likely to feature highly inelastic supply curves.
diamond rings or housing in prime locations such as apartments facing Central Park in New York City.
Examples of necessities with no close substitutes are likely to have highly inelastic demand curves.
Life-saving drugs and gasoline.
Constant unitary elasticity, in either a supply or demand curve, occurs when
A price change of one percent results in a quantity change of one percent.
Unlike the demand curve with unitary elasticity
the supply curve with unitary elasticity is represented by a straight line, and that line goes through the origin.
If demand is elastic (% change in Qd > % change in P)
A given % rise in P will be more than offset by a larger % fall in Q so that total revenue (P × Q) falls.
If demand is unitary (% change in Qd=% change in P)
A given % rise in P will be exactly offset by an equal % fall in Q so that total revenue (P × Q) is unchanged.
Inelastic (% change in Qd< % change in P)
A given % rise in P will cause a smaller % fall in Q so that total revenue (P × Q) rises.
Since demand for food is generally inelastic, farmers may often face the situation that
A surge in production leads to a severe drop in price that can actually decrease the total revenue that farmers receive.
Example of products that for which producers can pass higher costs on to consumers.
Addictive substances
tax incidence
manner in which the tax burden is divided between buyers and sellers
For tax burden:
If demand is more inelastic than supply, ____________ and if supply is more inelastic than demand,
consumers bear most of the tax burden,
sellers bear most of the tax burden.
Pc
price paid by consumers
Pp
price received by producers
Tax rate
The distance between Pc and Pp
Since we can view a tax as raising the costs of production, this could also be represented by a
leftward shift of the supply curve,
The tax revenue is given by the shaded area, which we obtain by multiplying
the tax per unit by the total quantity sold Qt.
The tax incidence on the consumers is given by the
difference between the price paid Pc and the initial equilibrium price Pe.
The tax incidence on the sellers is given by the
difference between the initial equilibrium price Pe and the price they receive after the tax is introduced Pp.
The more elastic the demand curve, the more likely that consumers will
reduce quantity instead of paying higher prices.
The more elastic the supply curve, the more likely that sellers will
reduce the quantity sold, instead of taking lower prices.
In a market where both the demand and supply are very elastic,
the imposition of an excise tax generates low revenue.
Elasticities are often lower in the short run than in the long run. (T/F)
T
On the supply side of markets, producers of goods and services typically find it easier to expand production in the long term of several years rather than in the short run of a few months. (T/F)
T
The income elasticity of demand is the
percentage change in quantity demanded divided by the percentage change in income.
What types of products will experience a lower quantity demanded as income increases?
Inferior goods
cross-price elasticity of demand
the percentage change in the quantity of good A that is demanded as a result of a percentage change in the price of good B
Substitute goods have _______ cross-price elasticities of demand
positive
Complement goods have _______ cross-price elasticities of demand
negative
Wage elasticity of labor supply
the percentage change in hours worked divided by the percentage change in wages
Elasticity of savings
the percentage change in the quantity of savings divided by the percentage change in interest rates
Is the wage elasticity of labor supply more elastic in younger or older workers?
younger
at least in the short run, the elasticity of savings with respect to the interest rate appears fairly
inelastic
Average Household Income before Taxes
$62,481
Average Annual Expenditures
$48,109
budget constraint (or budget line)
shows the possible combinations of two goods that are affordable given a consumer’s limited income
total utility
satisfaction derived from consumer choices
choices. In a budget constraint line, the quantity of one good is on the ________ and the quantity of the other good on the ________.
horizontal axis, vertical axis
marginal utility
the additional utility provided by one additional unit of consumption
MU equation
Change in total utility/change in quantity
diminishing marginal utility
the common pattern that each marginal unit of a good consumed provides less of an addition to utility than the previous unit
marginal utility per dollar
the additional satisfaction gained from purchasing a good given the price of the product; MU/Price
consumer equilibrium (utility maximizing choice)
point on the budget line where the consumer gets the most satisfaction; this occurs when the ratio of the prices of goods is equal to the ratio of the marginal utilities.
Consumer equilibrium equation
MU1/P1 = MU2/P2
Consumer equilibrium other rule
the ratio of the prices of the two goods should be equal to the ratio of the marginal utilities.
p1/p2 = MU1/MU2
How income affects consumer choices
Rise = usually rise in consumption
Rise = change in preferences (inferior -> normal goods)
