ZURONI MD. JUSOH JPSPP, FEM

Objectives In this chapter you will…  Learn the meaning of the elasticity of demand.  Examine what determines the elasticity of demand.  Apply the concept of elasticity in three types of elasticity to determine the goods.

THE ELASTICITY OF DEMAND Measuring the impact of price changes on quantity demanded as a result of changes in a variable. variables: The price of the own goods consumers income Other prices – substitutes or complements

TYPES OF DEMAND ELASTICITY Price elasticity of demand (Ed) Income elasticity of demand (Ey) Cross price elasticity of demand (Ec)

Price Elasticity of Demand (Ed) measures the percentage change in quantity demanded caused by a percent change in price. Formula : Ed = %  Quantity demanded %  Price = (-)  Q X P Q  P

Cont. Ed = (-) Q 1 – Q 0 X P 0 Q 0 P 1 – P 0 where: Q 0 = The original quantity demanded Q 1 = New quantity demanded P 0 = Original Price P 1 = New Price

Interpreting values of price elasticity coefficients (Ed) Ed = 0 –Perfectly inelastic demand Ed < 1 – inelastic demand Ed = 1 –Unit elastic, unit elasticity, unitary elasticity, or unitarily elastic demand Ed > 1 – elastic demand Ed =  - perfectly elastic demand

Different Elasticity values along DD curve P A Ed > 1 Ed = 1 E Ed < 1 B Qty

FACTORS INFLUENCE on Ed Substitute goods If a lot of substitutes, the DD is elastic Ratio of income spent on goods The larger the income spent on goods, the more elastic DD. Interests / Needs Products Flexible if the goods do not have to Not flexible if the goods have use of goods Elastic where goods have many uses Favorite Elastic if less fond on stuff/goods

Cont. Timeline Short term- DD is not elastic Long term– DD elastic New Consumer elastic if have many new consumer Number of firm Elastic where many sellers / producers Total revenue TR = P x Q Price changes affect sales and depends on the elasticity of the demand involved.

Relationship between Ed and TR

Cont.

Income Elasticity of Demand (Ey) measures the percentage change in demand caused by a percent change in income. Formula : Ey = %  Quantity demand %  Income = (-)  Q X Y Q  Y

Cont. Ey = (-) Q 1 – Q 0 X Y 0 Q 0 Y 1 – Y 0 Di mana : Q 0 =The original quantity demanded Q 1 = New quantity demanded Y 0 = Original income Y 1 = New Income

DEGREES OF INCOME ELASTICITY OF DEMAND Engel curve - the curve I describe the relationship between changes in income (Y) with the change in quantity demanded (Qd). A) Ey = 1 Y KE Y 1 Y 0 10% 10% Q 0 Q 1 Qty Example : Clothes

Cont. B) Ey > 1 Y KE Y 1 10% Y 0 20% Q 0 Q 1 Qty Example : luxurious stuff

Cont. C) 1>Ey > 0 Y KE Y 1 Y 0 20% 10% Q 0 Q 1 Qty Example : Common necessities

Cont. D) Ey = 0 Y KE Y 1 Y 0 Q 0 Qty Example : compulsory stuff

Cont. E) Ey < 0 (-ve) Y Y 1 Y 0 KE Q 0 Qty Example : Inferior goods

Cross Price Elasticity of Demand (Ec) measures the percentage change in demand for a particular good caused by a percent change in the price of another good. Formula : Ec = %  Quantity demanded for A %  price of B = (-)  Q A X P B Q A  P B

Cont. Ec = (-) Q A1 – Q A0 X P B0 Q A0 P B1 – P B0 Where: Q A0 = Original quantity demanded for product A Q A1 = New quantity demanded for product A P B0 = The original price of the product B P B1 = The new prices of product B

Types of Cross Price Elasticity of Demand (Ec) 1) Ec = value +ve (substitute goods) P D P B1 P B0 Q A0 Q A1 Qty Relations + ve (continued) between P and Qd.

Cont. 2) Ec = -ve values ​​ (complementary goods) P P B0 P B1 D Q A0 Q A1 Qty Relationship -ve (inverse) of P with Qd

Cont. 3) Ec = 0 (unrelated goods) P D P 1 P 0 Q 0 Qty Price change does not affect the quantity demanded of other goods.

Summary Price elasticity of demand is influenced by their price of own goods, income & other prices. 3 types of the elasticity of demand Ed, Ey, Ec 5 values of Ed: not perfectly elastic (Ed = 0), not elastic (Ed <1), unity (Ed = 1), elastic (Ed>1), perfectly elastic (Ed = ∞)

Cont. 5 types of Ey Ey = 0 (necessities goods), 1> Ey> 0 (the ordinary necessities), Ey = 1 (normal goods), Ey>1 (luxury goods), Ey <0 (inferior or giffen) 3 types of Ec Ec = + ve (substitute goods) Ec =-ve (complementary goods) and Ec = 0 (unrelated goods)

Thank You