ELASTICITY RESPONSIVENESS

measures the responsiveness of the quantity demanded of a good or service to a change in its price. Price Elasticity of Demand

Price Elasticity of demand is calculated by dividing the percentage change in quantity by the percentage change in price. %  Q D %  P Ep = Use this method if both the price and the quantity data is given as percentages

Mid - point method Ep = ∆Q x (p1 + p2)/2 ∆P (q1 + q2)/2 ∆P (q1 + q2)/2 Use this method if we have two set of points

What does the co-efficient mean? Co-efficient Type of elasticity Inelastic 1Unitary > 1 Elastic

TOTAL REVENUE METHOD IF PRICE AND TOTAL REVENUE MOVE IN THE SAME DIRECTION THEN IF PRICE AND TOTAL REVENUE MOVE IN THE SAME DIRECTION THEN IF PRICE AND TOTAL REVENUE MOVE IN OPPOSITE DIRECTIONS THEN IF PRICE AND TOTAL REVENUE MOVE IN OPPOSITE DIRECTIONS THEN INELASTIC DEMAND ELASTIC DEMAND

P$420P$ Q D Ep = 1 * = 0.23 = inelastic EXAMPLE ONE EXAMPLE ONE

Total revenue method P$420P$ Q D An increase in price ($2-$4) causes an increase in total revenue ($14-$24). A decrease in price ($4-$2) causes a decrease in total revenue ($24-$14)

D P$420P$ Q Ep = 2 * = 1 = unitary EXAMPLE TWO EXAMPLE TWO

Total revenue method D P$420P$ Q An increase or decrease in price will have no affect on total revenue. $4 x 2 = $8 $2 x 4 = $8

P$430P$ D Ep = 2 * = 1.4 = elastic EXAMPLE THREE EXAMPLE THREE Q

Total revenue method An increase in price brings about a decrease in total revenue (P*Q).($18 - $16) A decrease in price brings about an increase in TR (from $16 - $18) P$430P$ D Q

SPECIAL CASES P P Q Q D D PERFECTLY INELASTIC. A change in price brings about no response - no change in quantity demand. PERFECTLY ELASTIC A change in price brings about an infinite response in quantity demand. Ed=0 Ed= 

Elasticities, Price Changes and Total Revenue

What determines elasticity for a product?

1. Whether or not it has close substitutes. No close substitutes = inelastic Close substitutes = elastic

2. Is it a necessity or a luxury? Necessity = inelastic Luxury = elastic

3.Is it a small or large proportion of income? Small proportion = inelastic Large proportion - elastic

4. Is it durable or not Durable = more elastic. Consumption can be postponed until price falls Non - durable = more inelastic. It is used up quickly so consumption can not be postponed.

5. Is it addictive? Addictive goods will have inelastic demand as some consumers can not do without them.

Elasticity along the Demand Curve D $ Q Point of Unitary Elasticity Elastic Region Inelastic Region

Income elasticity of demand measures the responsiveness of the quantity demanded of a good or service to a change in income.

Income Elasticity of demand is calculated by dividing the percentage change in quantity by the percentage change in income. %  Q D %  Y Ey =

What does the co- efficient mean? Co-efficientMeaning Negative Inferior goods 0- 1 Normal good - necessity > 1 Normal good - luxury

Inferior Goods Have a negative income elasticity because when income increases, less of the good will be purchased.

Necessities Have a income elasticity of between 0 and 1. This is an inelastic response, the percentage increase in amount purchased is less than the percentage increase in income.

Luxuries Have an income elasticity of greater than 1. This is an elastic response as the percentage change in amount purchased is greater than the percentage change in income.

Cross-price elasticity of demand. measures the responsiveness of the quantity demanded of one good to changes in price of another good.

Cross-price elasticity of demand is calculated by dividing the percentage change in quantity of one good by the percentage change in price of the other good. %  Qx %  Py E cross =

Complements. These are goods that are used together. They will have a negative cross elasticity.

Substitutes These are goods that are used in place of each other. They will have a positive cross elasticity.