Elasticity Flashcards
Price elasticity of demand
Is the responsiveness of quantity demanded to a change in the price of the good or service
% change in QD
Divided by
% change in price
3 types of elasticity
Elastic demand vs. inelastic demand
Elastic- small change in price causing a relatively large change in quantity demanded eg. BMWs
Inelastic- large price change having a relatively small change in quantity demanded eg. Insulin/flour
Normal good or Unitary elastic- direct relationship between price and quantity demanded eg. Potato gems
Methods to measure price elasticity of demand
% change
Mid point method
Total revenue
The product of price paid/received and the quantity bought/sold
Effect on total revenue when price is changed and demand in elastic
Price falls- revenue may rise
Price rises- revenue may fall
Effect on total revenue when price is changed and demand is Inelastic
Price falls- revenue may fall
Price rises- revenue may rise
Determinants of price elasticity of demand
Availability of substitutes- (higher number of substitutes, higher elasticity of demand)
Necessity vs luxury- (N- generally inelastic, necessity as no substitutes and we require for survival)
Proportion of income spent- (expensive goods relatively elastic as it is a larger portion of a consumers income/budget)
Time- (having time to respond to a $ change = more price elastic. in the short run more commodities inelastic)
Income elasticity of demand
YED
Measures the response of quantity demanded to a change in income.
The ratio of percentage change in QD and the % change of income in households
Behaviour of normal goods vs inferior goods in response to change in income
When YED is positive it’s a normal good, normally extra income increases demand
YED greater than 1, luxury product, income elastic, extra money is spent on these
YED 0-1, necessity, income elastic, consumers were already buying necessities
Negative, inferior, income rises consumers switch to better products
Cross elasticity of demand
XED
Is the measure of the response in demand for a product when the price of a related good changes
Eg. How sensitive the demand for apples when there’s a change in demand for oranges
Terms for levels of cross price elasticity of demand
Value Term High+positive, close subs Low+positive, remote subs Zero, independent/unrelated Low+negative, remotely complementary High+negative, close complements
Price elasticity of supply
Measure of reaction or response of a firm in quantity supplied to a market following a change in price of the product
Factors effecting price elasticity of supply
Time-short run, long run, very long run
Technical complexity- more complex, longer time to create new capacity
Mobility of resources- ability+ willingness to move resources to a new location
Ability to hold stocks/inventories- products may be perishable
Amount of unused capacity- (vacant assembly line/unused room)
Does supply rely on external factors- you’re supplier going on strike/ a natural disaster
Significance of price and income elasticity for consumers, businesses and govt
Income
Firms would want to know if demand follows and economic cycle
Consumers effect in budget share for products they buy, income elasticity indicates extent of change in budget share
Govts- structural changes in economy on primary, secondary and tertiary levels relative sizes shift as patterns of spending change
Reserve bank policy, more effective when d income elastic
Elasticity is
Describes the level of response, reaction to, sensitivity of impact on the quantity demanded or supplied of a product to a change in some relevant factor such as its price, the price of other goods or income
