3. The responsiveness of one variable to changes
in another
When price rises, what happens
to demand?
Demand falls
BUT!
How much does demand fall?
4. If price rises by 10% - what happens to
demand?
We know demand will fall
By more than 10%?
By less than 10%?
Elasticity measures the extent to which
demand will change
5. A. Absolute elasticity
Qd = a – b P
B. Current elasticity
E = △Q/P△
7. 4 basic types used:
Price elasticity of demand
Price elasticity of supply
Income elasticity of demand
Cross elasticity
8. Price Elasticity of Demand
The responsiveness of demand
to changes in price
Where % change in demand
is greater than % change in price – elastic
Where % change in demand is less than % change in
price - inelastic
9. The Formula:
% Change in Quantity Demanded
___________________________
Ped =
% Change in Price
If answer is between 0 and -1: the relationship is inelastic
If the answer is between -1 and infinity: the relationship is elastic
Note: PED has – sign in front of it; because as price rises
demand falls and vice-versa (inverse relationship between
price and demand)
10. Price (£)
The demand curve can be a
range of shapes each of which
is associated with a different
relationship between price and
the quantity demanded.
Quantity Demanded
11. Price Total revenue is price x
The importance of elasticity
quantity sold. In this
is the information it
example,on the£5 x 100,000
provides TR = effect on
= £500,000. of changes in
total revenue
price.
This value is represented by
the grey shaded rectangle.
£5
Total Revenue
D
100 Quantity Demanded (000s)
12. Elasticity
Price If the firm decides to
decrease price to (say) £3,
the degree of price elasticity
of the demand curve would
determine the extent of the
increase in demand and the
change therefore in total
£5 revenue.
£3
Total Revenue
D
100 140 Quantity Demanded (000s)
13. Price (£)
Producer decides to lower price to attract sales
10 % Δ Price = -50%
% Δ Quantity Demanded = +20%
Ped = -0.4 (Inelastic)
5 Total Revenue would fall
Not a good move!
D
5 6
Quantity Demanded
14. Price (£)
Producer decides to reduce price to increase sales
% Δ in Price = - 30%
% Δ in Demand = + 300%
Ped = - 10 (Elastic)
Total Revenue rises
10
Good Move!
7
D
5 Quantity Demanded 20
15. If demand is price If demand is price
elastic: inelastic:
Increasing price Increasing price
would reduce TR (%Δ would increase TR
Qd > % Δ P) (%Δ Qd < % Δ P)
Reducing price would Reducing price would
increase TR reduce TR (%Δ Qd <
(%Δ Qd > % Δ P) % Δ P)
16. Income Elasticity of Demand:
The responsiveness of demand
to changes in incomes
Normal Good – demand rises
as income rises and vice versa
Inferior Good – demand falls
as income rises and vice versa
17. Income Elasticity of Demand:
A positive sign denotes a normal good
A negative sign denotes an inferior good
18. For example:
Yed = - 0.6: Good is an inferior good but inelastic – a rise in
income of 3% would lead to demand falling
by 1.8%
Yed = + 0.4: Good is a normal good but inelastic –
a rise in incomes of 3% would lead to demand rising
by 1.2%
Yed = + 1.6: Good is a normal good and elastic –
a rise in incomes of 3% would lead to demand rising
by 4.8%
Yed = - 2.1: Good is an inferior good and elastic –
a rise in incomes of 3% would lead to a fall in demand of 6.3%
19. Cross Elasticity:
The responsiveness of demand
of one good to changes in the price of a
related good – either
a substitute or a complement
% Δ Qd of good t
__________________
Xed =
% Δ Price of good y
20. Goods which are complements:
Cross Elasticity will have negative sign (inverse
relationship between the two)
Goods which are substitutes:
Cross Elasticity will have a positive sign (positive
relationship between the two)
21. Price Elasticity of Supply:
The responsiveness of supply to changes
in price
If Pes is inelastic - it will be difficult for suppliers
to react swiftly to changes in price
If Pes is elastic – supply can react quickly to
changes in price
% Δ Quantity Supplied
Pes = ____________________
% Δ Price
22. Time period – the longer the time under consideration
the more elastic a good is likely to be
Number and closeness of substitutes –
the greater the number of substitutes,
the more elastic
The proportion of income taken up by the product –
the smaller the proportion the more inelastic
Luxury or Necessity - for example,
addictive drugs
23. Relationship between changes
in price and total revenue
Importance in determining
what goods to tax (tax revenue)
Importance in analysing time lags in
production
Influences the behaviour of a firm
Hinweis der Redaktion
This slide has a ten second gap in between each example to allow the teacher to explain how the figures have been calculated. This gap can be increased or reduced as appropriate using the custom animation tool.
This slide also has an automatic response with ten second gaps in between each point. At this stage we have tried to keep things as simple as possible but to introduce issues that will be dealt with later in the course.