Positive microeconomics- elasticities of demand and supply Flashcards
price elasticity of demand (PED)
price elasticity of demand (PED) is the percentage change in the quantity
demanded divided by the corresponding percentage change in its price.
PED=(% change in quantity)/(% change in price)
Why might we use the arc elasticity of demand formula to calculate elasticity demand instead of the standard PED formula?
Because when using standard percentage change in the quantity
demanded divided by the corresponding percentage change in its price there is asymmetry.
As in if we increase the price from $1 to $2 and get a 50% fall in demand.(-50/100 =-1/2) We get a different PED than to if we decrease price from $2 to $1, even though quantity rises by 50%. (50/-50=-1)
arc elasticity of demand formula PG 145
(Overall change in quantity / average quantity) all divided by (overall change in price/average price)
Change in quantity/ change in price x Average price/average quantity
Does using arc elasticity give DRASTICLY different results compared to the traditional way?
The results are different in that the elasticity result is the same whether it was a price cut or price rise that occurred.
However, it is not drastically different in that using one method would give inelastic demand when using the other gives elastic.
Is PED constant across a demand curve (assuming its a straight line (linear) )? and why?
Although the demand curve is straight PED is not constant.
IN SHORT:
PED is more elastic at top of the demand curve and more inelastic nearer the bottom:
Long explanation pg 146
Although quantity increases by the same amount with each additional $1 fall in price (lets say by 800), at the start of the demand curve, a $1 fall in price is only a small percentage change in price (say if the price is $40) but brings about a proportionately large change in demand (lets say demand was at 200) (as at a higher price there are fewer people who are willing to buy.
But further along the demand curve where prices are low, a $1 fall is a larger percentage change (as prices are now lower, say $5) and the say 800 increase in demand 9and now demand is already 2000) makes up a smaller percentage of quantity than it did when prices were higher further up the curve (and so quantity was lower)
Can PED ever be constant across a demand curve?
yes, it’s possible to construct it in this way if it’s curved (non-linear) , but this is not as common
Elastic PED
Demand is elastic price elasticity is more negative than −1
Inelastic PED
Demand is inelastic if the price elasticity lies between −1 and 0
what is point elasticity of demand?
It is a way to calculate elasticity demand at a single given point on a demand curve e.g.
(don’t answer this) we have demand curve QD= 100-2P When the price is P = 10, according to this curve, the
quantity demanded is QD = 80. Is the demand elastic, or inelastic, at P = 10
We would use point elasticity to work this out
dQD/dP x P/QD, differentiate demand function QD in terms of P and multiply it by P/Qd
Unit elasticity
If the demand elasticity is −1, demand is unit elastic
Determinants of price elasticity
Whether the good is a necessity or not (if so, more price inelastic) e.g. cigarettes
Whether that good has many susbtitutes
And whether it is the long run or short run that we’re referring to
Short run
The short run is the period after prices change but before quantity adjustment can
occur
Long run
The long run is the period needed for complete adjustment of quantity to a price change. Its
length depends on the type of changes consumers wish to make e.g. the time it takes to quit smoking as a response to a rise in tobacco costs could take longer than it takes to find a replacement meat for beef if beef prices rise.
Will price elasticity of demand for a good that has increased in price become more elastic or inelastic over time?
The price elasticity of demand is higher in the long run when
there is more scope to substitute other goods.
For example if there is a rise in oil prices in the short run demand for petrol is inelastic as people need their cars and can’t sell their cars immediately, but in the long term they can sell their fuel inefficient cars for electric cars and no longer need fuel, demand for petrol becomes more elastic.
Cross elasticity of demand
The cross-price elasticity tells us the effect on the quantity
demanded of good i when the price of good j is changed.
The cross-price elasticity of demand for good i with respect to changes in the
price of good j is the percentage change in the quantity of good i demanded,
divided by the corresponding percentage change in the price of good j
