Elasticity

Elasticities of Demand and Supply PRICE ELASCITY OF DEMAND POINT ELASTICITY VS. ARC ELASTICITY

OTHER DEMAND ELASTICITIES INCOME ELASTICITY OF DEMAND- is the percentage change in Qd, resulting from 1- percent change in income (I). E I = (ΔQ/Q)/(ΔI/I) = (I/Q) (ΔQ/ΔI)

A negative income elasticity of demand is associated with inferior goods; an increase in income will lead to a fall in the demand and may lead to changes to more luxurious substitutes.inferior goods A zero income elasticity (or inelastic) demand occurs when an increase in income is not associated with a change in the demand of a good. These would be sticky goods.sticky

A zero income elasticity (or inelastic) demand occurs when an increase in income is not associated with a change in the demand of a good. These would be sticky goods.sticky

CROSS-PRICE ELASTICITY OF DEMAND- refers to the percentage change in the quantity demanded for a good that result from a 1- percent increase in the price of another good.

So the elasticity of demand for butter with respect to the price of margarine would be written as: E QbPm = (ΔQ b /Q b ) / (ΔP m /P m ) = (P m /Q b )(ΔQ b /ΔP m ) Where Q b is the qty of butter and P m is the price of margarine.

In the equation, the cross-price elasticity will be positive because the goods are substitutes. Some goods are complements, in which an increase in the price of one tends to push down the consumption of the other.

ELASTICITIES OF SUPPLY- are defined in a similar manner. The price elasticity of supply is the percentage in Qs resulting from 1-percent increase in price. The elasticity is usually positive because higher price gives producers an incentive to increase output.

We can also refer to elasticities of supply with respect to such variables as Interest rates Wage rates Prices of raw materials and other intermediate goods

For example, for most manufactured goods, the elasticities of supply with respect to the prices of raw materials are negative. An increase in the price of raw a material input means higher costs for the firm, other things being equal, therefore, the Qs will fall

The Market for Wheat For the statistical studies, we know that for 1981 the supply curve for wheat was approximately as follows: Supply: Qs = P Demand: Qd = P

Qs = Qd P= P 560P=1750 P= 3.46

Q= 1800+(240)(3.46)=2630 Price Market-clearing price

Elasticity of Demand= (3.46/2630) (-266) = -0.35

Elasticity of Supply= (3.46/2630) (240) = o.32

Short-Run versus Long-Run Elasticities When analyzing demand and supply, we must distinguish between the short run and the long run. If we allow only a short time to pass-say, one year of less- then we are dealing with short run.

When we refer to long run we mean that enough time is allowed for consumers and producers to adjust fully to the price change.

Demand For many goods, demand is much more price elastic in the long run than in the short run. -For one thing, it takes time for people to change their consumption habits.

Demand and Durability- On the other hand, for some goods just the opposite is true- demand is elastic in the short run than in the long run.

Income elasticities also differ from the short run to the long run. For most goods and services- foods, beverages, fuel, entertainment, etc.- the income elasticity of demand is larger in the long run than in the long run.

For a durable good, the opposite is true. If we consider automobiles, if the aggregate income rises by 10 percent, the stock of cars that consumers would like to own will rise- say by 5 percent.

Cyclinal industries- Industries in which sales tend to magnify cyclical changes in GDP and national income. These industries are vulnerable to changing macroeconomic conditions and in particular to the business cycle- recessions and booms.

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