Price, income and cross elasticities of demand Flashcards
define price elasticity of demand (PED)
measures how much quantity demanded will respond to a change in price
how do we calculate PED
% change in QD/ %change in P
how do we work out percentage change
change/ original x 100
is the PED for a goods negative
yes
why are PED’s negative for a good
demand has an inverse relationship, so:
(p decrease, QD increase)
- p decreases = percentage change in price will be negative
- QD increase = percentage change in QD will be positive
- Overall this will produce a negative PED
- vice versa
define elastic demand
-state features of elastic demand
where consumer are very responsive to changes in price
- PED is between -1 and - infinity
- the % change in QD is bigger than the % change in P
define inelastic demand and state features
where consumer are unresponsive to changes in price.
- PED is between between -1 and 0
- the % change in QD is smaller than the % change in price
define unitary elastic demand and state what PED unitary elastic demand will have
where the % change in QD is the same as the % change in price
- PED is equal to -1
define perfectly inelastic demand
when price has no effect on QD
- we reach zero
- as Inelastic as we can be
define perfectly elastic demand
a demand which falls to zero when price changes
- means if we tried to change the price at all, consumers would respond infinitely = switch over to a cheaper alternative
state the 6 factors which influence PED
- Necessity
- Addiction & habit
- Availability of substitutes
- Brand loyalty
- Proportion of income
- Time period
(NASBIT)
factors influence PED: Necessity vs luxury
Necessity is something we need, we need it to live our lives
- inelatic, we will be unresponsive to price changes as we need the services or good
Luxury is something we do not need, but it is nice to have if a consumer can afford it
- luxury goods are elastic, we will be responsive to price changes price
factors influence PED: Addiction & habit
When people get into the habit of consuming certain things like coffee and junk food or video games, they can get addicted.
- Habit forming products are likely to have inelastic demand because once a consumer is hooked, they cannot break their habitual behaviour and so they will continue to demand even if the price changes a lot
factors influence PED: define subsitutes and state how Availability of substitutes will effect elasticity
A substitute is a product which can replace another product e.g. a Samsung and an iPhone.
- Many substitutes = elastics
- if the price of one good were to increase, consumers could very easily switch over to other types of good/service, so demand would be responsive to changes in price, suggesting elastic demand.
- few substitutes = inelastic
- if the price of one good or service were to change they would have to continue to demand the G/S, so demand would not be responsive to the change in price
factors influence PED: Time period
In the long run, consumers have time to respond and find a substitute, so demand becomes more price elastic vs short run, consumers do not have this time, so demand is more inelastic.
factors influence PED: Proportion of income
larger proportion of income = elastic demand
- will have a significant impact on the consumer, so they’ll be very responsive to this change in price
Small proportion of income = inelastic demand
- little impact on consumers, so they’ll be less responsive to changes in price
factors influence PED: Brand loyalty
Brand loyalty is how loyal consumers are to a brand and how strong the branding of a product is
- Strong brand loyalty = inelastic
- if its price changes, consumers don’t look to buy aG/S for its price, they look to buy G/S for its brand, its design, its engineering; consumers are therefore unlikely to be responsive to changes in the price
- Weak brand loyalty = elastic demand
- Consumers typically look to buy G/S for their cheap, affordable price so they’re more concerned with the gs’s price
- if the price were to change, consumers will be very responsive
does Elasticity also changes in the long and short run
yes
define income elasticity of demand (YED)
measureshow muchquantity demanded will respond to a change in income
how do you calculate YED?
% change in QD / % change on Y
after doing your elasticity calculation, do you put a percentage sign at the end of the answer, yes or now
no
why can YED take a positive and negative value? And state which would be positive or negative
because of inferior goods and normal goods
- inferior = negative YED
- normal = positive YED
why do inferior goods take a negative YED
- If income falls for an inferior good(Y=negative), QD will increase (QD=positive)
- if incomes rise (Y=positive), QD of inferior goods will decrease (QD=negative)
why do normal goods take a positive YED
- if incomes increase (Y=positive), QD of normal goods will increase (QD=positive)
- If incomes fall (Y=negative), QD will decrease (QD=negative)
