Price and Income Elasticities of Demand

Question 1

What does Price Elasticity of Demand (PED) measure?

Answer 1

The responsiveness of demand after a change in the good’s own price

Question 2

What is the formula for PED?

Answer 2

%change in quantity demanded divided by the %change in price

Question 3

How do we tell if the good is elastic or inelastic?

Answer 3

Inelastic = <1
Elastic = >1

Question 4

How is demand perfectly inelastic or unit elastic?

Answer 4

Perfectly inelastic = 0

Unit elastic = 1

Question 5

What 5 factors determine the PED of a product?

Answer 5

1) Number of close substitutes available for consumers.
2) Price of the product in relation to total income.
3) Cost of substituting between different products.
4) Brand loyalty and habitual consumption.
5) Degree of necessity/luxury.

Question 6

What is the income elasticity of demand(YED)?

Answer 6

It measures the responsiveness of demand to a change in price.

Question 7

How do we calculate income elasticity of demand?

Answer 7

%change in quantity demanded divided by %change in income

Question 8

How do we know whether demand is elastic or inelastic or how a good is normal or inferior?

Answer 8

> 1 = income elastic
<1 = income inelastic
Normal goods = positive(+) because of the increase in demand
Inferior goods = negative(-) because of the decrease in demand

Question 9

What are the 2 factors influencing income elasticity of demand?

Answer 9

Necessities - Essential goods that consumers must buy.

Luxuries - Goods that consumers buy if they can afford them.

Question 10

State 4 reasons why income elasticity of demand is significant to a business?

Answer 10

1) Businesses selling goods with high income elasticity.
2) Businesses selling goods with low income elasticity.
3) Production planning.
4) Product switching.