Elasticity

Question 1

define (PED)

Answer 1

Price elasticity of demand (PED) measures the responsiveness of demand after a change in price.

Question 2

what is the equation for PED ?

Answer 2

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

Question 3

if PED < 1 what is the type of demand ?

Answer 3

inelastic demand

Question 4

if PED > 1 what type of demand is it ?

Answer 4

elastic demand

Question 5

if PED = 0 what type of demand is it ?

Answer 5

Perfectly Elastic

Question 6

what are some characteristics
of elastic goods ?

4/4

Answer 6

1.They are luxury goods, e.g. sports cars
2.They are expensive and a big % of income e.g. sports cars and holidays
3.Goods with many substitutes and a very competitive market. E.g. if Sainsbury’s put up the price of its bread there are many alternatives, so people would be price sensitive.
4.Bought frequently

Question 7

what are some charecteristics of inelastic goods

4/4

Answer 7

1. They have few or no close substitutes, e.g. petrol, cigarettes.
   2.They are necessities, e.g. if you have a car, you need to keep buying petrol, even if price of petrol increases
   3.They are addictive, e.g. cigarettes.
   4.They cost a small % of income or are bought infrequently.

Question 8

define Price Discrimination

Answer 8

if demand is inelastic firms can become price setters as consimers will pay any price for the good / service.

Some people pay higher prices for tickets for trains because their deman

Question 9

what is Tax Incidence?

Answer 9

If demand is price inelastic, then a higher tax will lead to higher prices for consumers (e.g. tobacco tax). If demand is price elastic, firms will face a bigger burden, and consumers will have a lower tax burden.

The tax incidence will mainly be borne by consumers.

Question 10

knowledge of elasticity

extra points

Answer 10

1. If demand is inelastic then increasing the price can lead to an increase in revenue. This is why OPEC try to increase the price of oil.
2. If demand is elastic, firms would be unlikely to increase revenue as this could lead to a fall in revenue. Instead, they could try advertising to increase brand loyalty and make demand more inelastic

Question 11

Define price elasticity of supply

Answer 11

Price elasticity of supply measures the responsiveness of quantity supplied to a change in price.

Question 12

Whats the equation for PES ?

Answer 12

PES = % change in quantity supplied / % change in price

Question 13

what supply type happens when PES < 1

Answer 13

inelastic supply

Inelastic supply – a change in price causes a smaller proportional chang

Question 13

what supply type happens when PES > 1

Answer 13

elastic

Elastic supply – a change in price causes a bigger proportional change i

Question 13

Examples of goods with inelastic supply

Answer 13

Nuclear reactors – It takes considerable time and expertise to build a new reactor. If there is high demand, few firms would be able to increase output in quick time
Grapes – Harvest is once a year, so in short-term, supply would be very inelastic.
Flood defences – If there is heavy rainfall and flooding, there would be high demand for flood defences. But, to supply barriers against the floods cannot occur overnight. It will take many months of construction to build.
During an economic boom when demand for the goods is very high and firm is running out.

Question 14

Supply could be elastic for the following reasons

Answer 14

If there is spare capacity in the factory.
If there are stocks available.
In the long run, supply will be more elastic because capital can be varied.
If it is easy to employ more factors of production.
If a product can be sold from the internet which increases the scope of international competition and increases options for supply.

Question 14

Importance of elasticity of supply

Answer 14

If supply is elastic, an increase in demand will cause only a small rise in price, but a significant increase in demand.
If supply is inelastic, an increase in demand will cause a large rise in price but only a small increase in demand.

Question 14

Supply could be inelastic for the following reasons

Answer 14

-Firms operating close to full capacity.
-Firms have low levels of stocks, therefore there are no surplus goods to sell.
-In the short term, capital is fixed in the short run e.g. firms do not have time to build a bigger factory.
- If it is difficult to employ factors of production, e.g. if highly skilled labour is needed
-With agricultural products, supply is inelastic in the short run, because it takes at least six months to grow new crops. In September the farmer cannot suddenly produce more potatoes if the price goes up.

Question 14

Examples of goods with elastic supply

Answer 14

Fidget spinners. These goods are relatively easy to make, requiring only basic raw materials of plastic. Many manufacturing firms could easily adapt production to increase supply.
Taxi services. It is relatively easy for people to work as a taxi driver. People can work part-time and only need a qualified driving license. With mobile apps like Uber, it has also become easier to fit consumers with a broader range of options. If price rises, Uber can offer higher wages and encourage more people to come out to work. There are still some supply constraints on very popular days. But, mostly, supply is quite elastic.
During recession and excess supply. In a recession with a fall in demand, the firm will have unsold goods and a large stock.

Question 15

Define income elasticity of demand ( YED )

Answer 15

Income elasticity of demand (YED) measures the responsiveness of demand to a change in income.

Question 16

what is the equation for YED

Answer 16

YED = % change in demand / % change in income

Question 17

Define an inferior good

Answer 17

This occurs when an increase in income leads to a fall in demand. Therefore YED<0. When your income increase you buy better quality goods and so buy less of the low-quality goods.

Examples of inferior goods clothes from charity shops, cheap bread.

Question 18

Define a normal good

Answer 18

This occurs when an increase in income leads to an increase in demand for the good, Therefore YED >0

Question 19

Define a luxary good

Answer 19

This occurs when an increase in demand causes a bigger percentage increase in demand, therefore YED>1.

Luxury goods will also be normal goods and we can say they will be incom

Question 20

knowledge points of YED

Answer 20

Firms will make use of income elasticity of demand by producing more luxury goods during periods of economic growth.
In a recession with falling incomes, supermarkets might be advised to promote more ‘value’ inferior goods.

Question 21

Define cross elasticity of demand

Answer 21

Cross elasticity of demand (XED) measures the percentage change in quantity demand for a good after a change in the price of another.

Question 22

what is the equation for XED

Answer 22

XED = % change in quantity demanded of good A / % change in price of good B

Question 23

what type of good has a positive XED

Answer 23

Substitute goods will have a positive cross-elasticity of demand.

Question 24

what type of goods will have a negative XED

Answer 24

complements will have a negative cross elasticity of demand

Question 25

what type of goods have 0 XED

Answer 25

Unrelated goods will have a cross-elasticity of demand of zero.

The price of apples has no effect on demand for Apple computers.

Question 26

knowledge of XED
key points

Answer 26

Substitutes? When setting prices firms will have to look at what alternatives the consumer has, if there are no close substitutes they will be able to increase the price. For this reason, firms spend a lot of money on advertising to differentiate their products and reduce cross-elasticity of demand.
Loss leaders Firms can use knowledge of complementary products to increase overall revenue. For example, many companies sell printers as cheaply as possible because if they sell a printer, they know the demand for their replacement ink cartridges will increase.
If a firm makes a small increase in price and finds people are very willing to switch to alternatives (high XED) they may make greater efforts to pursue product differentiation and brand loyalty to reduce XED.