Cross-Price, Income and Supply Elasticities Overheads

Income Elasticity of Demand The income elasticity of demand is defined as the percentage change in quantity divided by the percentage change in income, all other influences remaining constant

Price and Income Elasticities of Demand Income elasticity measures shifts in the demand curve Price elasticity measures movements along the curve

Demand for Q Quantity Price D1, I = 3000 Graphical Analysis D2, I = 4000

PriceIncomeDemand Computing price elasticity (income constant)  

Price Elasticity of Demand (Income = 4000) PriceIncomeDemand

Price Elasticity of Demand (Income = 3000) PriceIncomeDemand 

PriceIncomeDemand Computing income elasticity (price constant)

PriceIncomeDemand  Q Computing income elasticity (price constant)

Demand Data on Q PriceIncomeDemand  Q  I

Income Elasticity of Demand PriceIncomeDemand

Normal and Inferior Goods Normal goods have a positive income elasticity Inferior goods have a negative income elasticity

Necessities and Luxuries Necessities typically have an income elasticity between 0 and 1 Luxuries typically have an income elasticity greater than 1

Examples Fresh Fruit Transportation (???) Potatoes Eating out Cigarettes Food Meat(Steak)

Cross-price Elasticity of Demand The cross price elasticity of demand is defined as the percentage change in the quantity demanded of one good, all other influences remaining constant divided by the percentage change in the price of a different good, We denote the cross price elasticity of good i for good j as  ij where

We can then rewrite this as

Elasticities of Demand Income elasticity measures shifts in the demand curve Price elasticity measures movements along the curve Cross-price elasticity measures shifts in the demand curve

Demand for Q Quantity Price D1, P2 = 10 D1, P2 = 50 Graphical Analysis

Demand Data for Alternative Prices of Good 2 P1P2IncomeD , , , , , , , , ,

Demand Data for Alternative Prices of Good 2 P1P2IncomeD , , , , , , , , ,

Price Elasticity of Demand PriceIncomeDemand

Cross-price elasticity of demand for good 1 as the price of good 2 changes from $10 to $50 P1P2IncomeD , ,

Substitutes and Complements Goods are said to be substitutes if  ij > 0 Goods are said to be complements if  ij < 0 Goods are said to be close substitutes if  ij >> 0 Demand goes up as other price goes up Demand goes down as other price goes up

Substitutes Beef and Pork Rice Chex and Life Cereal Ford and Dodge Cars Margarine and Butter

Complements Food and Entertainment Cars and Gasoline Printers and Printer Paper Televisions and VCRs

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The elasticity of supply is defined as the percentage change in quantity supplied divided by the percentage change in price, Elasticity of Supply all other influences remaining constant

The elasticity of supply measures movements along the supply curve

Graphical Analysis Supply of Shirts Quantity Price

QP Supply Data

Another Example of Elasticity of Supply QP

Factors affecting the elasticity of supply Supply will be more elastic, the more alternatives producers of it have for production. Supply will be more elastic if the market is defined narrowly. Supply will be much more elastic in the long run. Supply will be more inelastic if there are biological or other lags in production

Classification of the elasticity of supply Inelastic supply When the numerical value of the elasticity of supply is between 0 and 1.0, we say that supply is inelastic.

Elastic supply When the numerical value of the elasticity of supply is greater than 1.0, we say that supply is elastic. Classification of the elasticity of supply

Unitary elastic supply When the numerical value of the elasticity of supply is equal to 1.0, we say that supply is unitary elastic. Classification of the elasticity of supply

Perfectly elastic -  S =  Perfectly inelastic -  S = 0 horizontal vertical Very short run response

Demand for food and food products is generally price inelastic Supply of many crops is stochastic due to weather, disease, etc Thus we tend to see large changes in price and thus net farm income Analysis of an agricultural market

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