Elasticity

Question 1

Define Law of Demand

Answer 1

An inverse relationship between price and quantity demanded

Question 2

When is a demand curve elastic and inelastic?

Answer 2

When an increase in price reduces the quantity demanded by a lot

When an increase in price reduces the quantity demanded by a small amount

Question 3

How is the elasticity of demand calculated?

Answer 3

Percentage change in quantity demanded divided by the percentage change in price

Question 4

How is the total revenue calculated?

Answer 4

Price multiplied by quantity demanded (TR=PxQ)

Question 5

Give 4 factors that determine the price elasticity of demand

Answer 5

• The availability of close substitutes - fewer substitutes make it harder for consumers adjust the quantity when the price changes; demand is inelastic. More substitutes makes it easier for consumers to adjust the quantity when the price changes; demand is elastic
• Whether the good is a necessity or luxury - more sensitive to price changes for luxuries than necessities
• The share of income spent on the good - less sensitive to price changes when the good feels cheap but more sensitive when the good feels expensive
• The length of time since the price change; less time to adjust means lower elasticity (over time consumers can adjust their behaviour by finding substitutes)

Question 6

What does Cross Price Elasticity of Demand measure?

Answer 6

How sensitive the quantity demanded of good A is to the price of good B

Question 7

What is CPE in relation to substitutes and complements?

Answer 7

Substitutes - Positive

Complements - Negative

Question 8

What does Income Elasticity of Demand measure?

Answer 8

How sensitive the quantity demanded of a good is to changes in income (% change in quantity demanded/% change in income)

Question 9

What is IED in relation to normal and inferior goods?

Answer 9

Normal Goods - Positive

Inferior Goods - Negative

Question 10

When is income elasticity greater than 1?

Answer 10

When goods are income elastic

Question 11

When is income elasticity positive but less than 1?

Answer 11

When goods are income inelastic

Question 12

How is the price elasticity of supply calculated?

Answer 12

% change in quantity supplied/% change in price

Question 13

Give 2 factors which affect the price elasticity of supply

Answer 13

• Availability of inputs - if increased production is expensive then the supply curve will be inelastic
• Time - price elasticity of supply increases as producers have more time to respond to price changes. Long run price elasticity of supply is usually higher than short run elasticity