Elasticities of Demand

Question 1

What is elasticity?

Answer 1

A measure of how responsive something is in response to a change in a given factor.

Question 2

What is price elasticity of demand (PED)?

Answer 2

A measure of how responsive the quantity demanded for a good or service is in response to a change in price of given good or service.

Question 3

What does PED stand for?

Answer 3

Price elasticity of demand.

Question 4

What is the formula for PED?

Answer 4

PED = %change in quantity demanded / %change in price

Question 5

What is perfectly inelastic demand?

Answer 5

Quantity demanded does not change as price rises.

Question 6

What is inelastic demand?

Answer 6

Quantity demanded changes by a smaller percentage than price changes.

Question 7

What is unitary elastic demand?

Answer 7

Quantity demanded changes by the same percentage as a change in price.

Question 8

What is elastic demand?

Answer 8

Quantity demanded changes by a greater percentage than a change in price.

Question 9

What is perfectly elastic demand?

Answer 9

Buyers will purchase all they can at a given price, but none at a higher price.

Question 10

What is the numerical representation of perfectly inelastic demand?

Answer 10

Zero (0).

Question 11

What is the numerical representation of inelastic demand?

Answer 11

Between zero and one ( 0<PED<1).

Question 12

What is the numerical representation of unitary elastic demand?

Answer 12

One (1).

Question 13

What is the numerical representation of elastic demand?

Answer 13

Between 1 and infinity (1<PED<∞).

Question 14

What is the numerical representation of perfectly elastic demand?

Answer 14

Infinity (∞).

Question 15

What is the graphical representation of perfectly inelastic demand?

Answer 15

A vertical line.

Question 16

What is the graphical representation of inelastic demand?

Answer 16

A steep line.

Question 17

What is the graphical representation of unitary elastic demand?

Answer 17

A diagonal line.

Question 18

What is the graphical representation of elastic demand?

Answer 18

A shallow line.

Question 19

What is the graphical representation of perfectly elastic demand?

Answer 19

A horizontal line.

Question 20

What are the determinants of PED (2)?

Answer 20

1) The availability of substitutes.
2) Time.

Question 21

How does time influence PED?

Answer 21

If the price of petrol (inelastic good) rose, there would be little impact on demand. However, over time, alternative means of travel will be discovered (walking, cycling, etc.) and demand would fall.

Question 22

How does the availability of substitutes influence PED?

Answer 22

The greater the quality and availability of substitutes that a good has, the higher its elasticity. E.g. sweets have many substitutes (wine gums, Haribo, Maoams, etc.) so they are relatively elastic. In contrast, salt has no substitutes, so is relatively inelastic.

Question 23

What is income elasticity of demand?

Answer 23

A measure of the sensitivity of the quantity demanded for a certain good or service in response to a change in real income.

Question 24

What is YED?

Answer 24

Income elasticity of demand.

Question 25

What is the formula for YED?

Answer 25

YED = %change in quantity demanded / %change in income

Question 26

What is cross-elasticity of demand?

Answer 26

A measure of the responsiveness in the quantity demanded of one good in response to a change in the price of another good.

Question 27

What is CED?

Answer 27

Cross-elasticity of demand.

Question 28

What is the formula for CED?

Answer 28

CED = %change in quantity demanded for good X / %change in price of good Y

Question 29

What are the 6 different types of goods?

Answer 29

1) Normal goods. 2) Inferior goods. 3) Complementary goods. 4) Substitute goods. 5) Luxury goods. 6) Necessity goods.

Question 30

What is a normal good?

Answer 30

A good that sees an increase in demand as incomes rise (and vice versa). E.g. food, clothing and household appliances.

Question 31

What is an inferior good?

Answer 31

A good that sees a fall in demand as incomes rise (and vice versa). E.g. ready meals, frozen foods and used cars.

Question 32

What is a complementary good?

Answer 32

A good that is typically brought alongside another. Complementary goods will always have a negative CED. E.g. cereal and milk, bread and butter, smartphones and phone cases, etc.

Question 33

What is a substitute good?

Answer 33

A good which can be replaced by another good, perhaps due to a rise in price. Substitutes will always have a positive CED. E.g. butter and margarine, Coca Cola and Pepsi, similar holiday destinations, etc.

Question 34

What is a luxury good?

Answer 34

A good for which demand increases more than proportionally as income rises. E.g. designer clothing, premium watches and high end cars.

Question 35

What are necessity goods?

Answer 35

Products and services that consumers will buy regardless of changes in their income levels. E.g. haircuts, water and electricity.

Question 36

At what value of PED is total revenue maximised?

Answer 36

PED = +/- 1, when PED is unitary.

Question 37

What is the formula for revenue?

Answer 37

Revenue = selling price x quantity sold

Question 38

If PED is inelastic, what will happen to revenue when prices rise and fall?

Answer 38

1) When prices rise, so will total revenue. 2) When prices fall, so will total revenue.

Question 39

If PED is unitary, what will happen to revenues when prices rise and fall?

Answer 39

1) When prices rise, total revenue will be unchanged. 2) When prices fall, total revenue will be unchanged.

Question 40

If PED is elastic, what will happen to revenue when prices rise and fall?

Answer 40

1) When prices rise, total revenue falls. 2) When prices fall, total revenue rises.

Question 41

How can knowledge of YED be useful to firms (2)?

Answer 41

1) Information about YED can be used for sales forecasting. 2) Information about YED can be used to decide which product is best to sell depending on the economic climate. E.g. in a boom, firms may choose to sell a product with a high YED.

Question 42

How can knowledge of CED be useful to firms?

Answer 42

Understanding of CED can help firms to monitor price changes in substitute and complementary goods in order to adjust their own prices accordingly.