Mohr and Fourie, Chapter 9 ELASTICITY Mohr and Fourie, Chapter 9

This session Determinants of price elasticity of demand Other demand elasticities Income elasticity of demand Cross elasticity of demand Price elasticity of supply Determinants of price elasticity of supply

Some determinants of Price Elasticity of Demand - whether ELASTIC or INELASTIC 1. Substitution Possibility 2. Type of Want satisfied by Product 3. Time elapsed since price change

Determinants of Price Elasticity of Demand 1. Substitution Possibilities If there is a larger number of close substitutes; demand is ELASTIC. ↑Price – leads to Substitution Effect – Consumers switch to relatively cheaper goods. Example, if the price of train tickets go up, substitute by now taking a taxi. The easier it is to swap, the more elastic the demand for train tickets are.

Determinants of Price Elasticity of Demand 2. Type of Want Satisfied By The Product Necessities (e.g. basic food stuffs, medical care, petrol, electricity) are inelastic. Luxuries (e.g. swimming pools, entertainment) are elastic.

Determinants of Price Elasticity of Demand 3. Time elapsed since price change More elastic in the long run, ceteris paribus. More time to respond. Example, with the increase in price of crude oil in the 1970s, people could do little in the short term. But in the longer term could, for example, develop fuel efficient cars to decrease the demand for petrol.

This session Determinants of price elasticity of demand Other demand elasticities Income elasticity of demand Cross elasticity of demand Price elasticity of supply Determinants of price elasticity of supply

Other demand elasticities Income elasticity of demand Where the quantity demanded is determined by the income of the consumers. As income ↑ ---- demand for the good increases --- so, quantity demanded at the same price also usually ↑ ey = % change in quantity demanded of the product % change in consumers’ income

Other demand elasticities Income elasticity of demand Goods with a positive income elasticity of demand (demand ↑ if income ↑ or demand decreases if income decreases) – are normal goods. Goods with a negative income elasticity of demand (demand ↑ if income decreases and decreases if income ↑) – are inferior goods.

Other demand elasticities Income elasticity of demand Normal goods can further be classified as luxury or essential goods. If income elasticity of demand is greater than one (what does this mean?) – luxury good. If income elasticity of demand is less than one (what does this mean?) – essential good.

Other demand elasticities Cross elasticity of demand Measures the responsiveness of quantity demanded of a particular good to changes in the price of a related good. ec = % change in quantity demanded of the product A % change in the price of product B For substitutes >> cross elasticity of demand is positive For complements >> cross elasticity of demand is negative For unrelated goods >> cross elasticity of demand is zero

Other demand elasticities Cross elasticity of demand Examples… What happens to Qd of butter if the price of margarine increases. What happens to Qd of chips if the price of fish increases. What happens to the Qd of pencils if the price of coke increases. MAKE SURE YOU UNDERSTAND HOW THIS HAPPENS WHY!!!!!!!

This session Determinants of price elasticity of demand Other demand elasticities Income elasticity of demand Cross elasticity of demand Price elasticity of supply Determinants of price elasticity of supply

Price elasticity of supply Other elasticities Price elasticity of supply Measures the responsiveness of quantity supplied of a product to changes in the price of the product. es = % change in quantity supplied of a product % change in the price of the product

Determinants of price elasticity of supply Other elasticities Determinants of price elasticity of supply 1. Time that elapsed since price change – Short run – inelastic… since suppliers don’t have sufficient time to respond to price change Long run – elastic… since suppliers have had the time to respond to price changes. 2. Substitutability or Availability of inputs If essential inputs are not available, firms cannot increase their output in reaction to an increase in the price of a product -- if they can’t respond, supply is inelastic.

This session Determinants of price elasticity of demand Other demand elasticities Income elasticity of demand Cross elasticity of demand Price elasticity of supply Determinants of price elasticity of supply

Check understanding What does the negative sign (-) in price elasticity of demand indicate? What do the values indicate e.g. if 1 or a fraction (less than one but greater than zero) or if its greater than 1)?? What happens to demand for an inferior good if income increases or decreases???? Which types of goods has a negative price elasticity of demand (and which have a positive??) Which types of goods are elastic or inelastic or perfect elastic or perfectly inelastic??

YOU HAVE TO READ THE CHAPTER FOR BETTER UNDERSTANDING !!!!!!!!!! CLASS IS NOT A SUBSTITUTE FOR READING THE TEXT……. THEY ARE COMPLEMENTS!!!!!!