Elasticity

Question 1

Define price elasticity of demand (PED)

Answer 1

The responsiveness of quantity demanded for a product to a change in its price

Question 2

Define income elasticity of demand (YED)

Answer 2

The responsiveness of quantity demanded for a product to changes in consumer incomes

Question 3

Define cross price elasticity of demand (XED)

Answer 3

The responsiveness of quantity demanded for a product to changes in the price of another product

Question 4

Define price elasticity of supply (PES)

Answer 4

The responsiveness of quantity supplied for a product to a change in its price

Question 5

How to workout PED

Answer 5

% change in Qd divided by % change in P

Question 6

How to work out % change

Answer 6

New - old
————— x 100
Old

Question 7

Interpretation of the sign of PED

Answer 7

Is always negative as numerator and denominator will always have different signs, represents the negative relationship between P and Qd, when P rises Qd will fall and vica versa

Question 8

Interpretation of magnitude for PED, YED, XED, PES

Answer 8

Represents how responsive Qd is to P changes
0 = perfectly inelastic
1 = unitary elasticity 
Infinity = perfectly elastic 
0 to 1 = inelastic 
1 to infinity = elastic

Question 9

What are the determinants of PED

Answer 9

Number and availability of substitutes
Proportion of income spent on the product 
The degree of habit 
Necessity or luxury 
The time period

Question 10

How to work out YED

Answer 10

% change in Qd
________________

% change in Y

Question 11

Interpretation of the sign of YED

Answer 11

YED positive = normal goods

YED negative = inferior goods

Question 12

How to work out XED

Answer 12

% change in Qd of good A
___________________________

% change in P of good B

Question 13

Interpretation of sign of XED

Answer 13

XED is positive = substitutes

XED is negative = compliments

Question 14

Define total revenue

Answer 14

The income a firm receives from selling its good or service

Question 15

How to work out total revenue

Answer 15

Total revenue = price x quantity sold

Question 16

How to work out PES

Answer 16

% change in Qs
________________

% change in P

Question 17

Interpretation of sign of PES

Answer 17

Always positive

Question 18

What are the determinants of PES

Answer 18

Time
Availability of stock
Factor mobility
Availability of the FOP

Question 19

What to do to increase revenue when PED is inelastic

Answer 19

Increase price to increase total revenue, overall revenue rises

Question 20

What to do to increase revenue when PED is elastic

Answer 20

Decrease price to increase total revenue, overall revenue rises

Question 21

How to work out profit

Answer 21

Profit = total revenue - total costs

Question 22

What to do when PED is unitary to increase D

Answer 22

Keep price unchanged and use other marketing techniques such as advertising in order to shift the demand curve to the right

Question 23

Limitations of this analysis

Answer 23

Only applies to small changes in price
Only applies if the firms objective is to increase revenue
Assumes ceteris paribus

Question 24

How to use YED

Answer 24

Used to predict income of a firm

Used to understand the target market of a product

Question 25

Using XED to determine a firm’s marketing strategies

Answer 25

If XED is high ( elastic ) negative, would suggest a close complementary relationship so firm would want to avoid increasing P as it could significantly effect D for compliments

If XED is a high ( elastic ) positive, this would suggest a close substitute, if this is with a competitor’s product then it may suggest price cuts would be very effective if advertised to the competitor’s consumers

Question 26

General limitations of using any elasticity figure

Answer 26

Elasticity figure are likely to be estimates
Past data from firms can often be inaccurate as current and future market conditions are not necessarily the same as the past and elasticity can change over time - ceteris paribus doesn’t hold in the real world.