RESPONDING TO PRICE CHANGES (ELASTICITY OF DEMAND & SUPPLY) Lesson 2.5

The Law of Demand  The quantity demanded varies inversely with price, other things constant (a.k.a. Price Effect) Price = Quantity demanded

Elasticity of Demand  Law of Demand does not specify the degree to which the quantity demanded will change.  Degree of Change = QD vs. Price Changes  Demand is elastic if QD changes significantly as price changes.  Demand is inelastic if QD changes little as price changes.

Red Bull  If price of Red Bull increased from $2.00 to $2.50, would you still purchase from the vending machine?  At what price would you change your behavior?  This is price elasticity – how producers and consumers react to a change in price.

Elastic vs. Inelastic  Rubber Band – doesn’t take much effort to change its shape. This means you are RESPONSIVE to price changes (elasticity).  Pencil – takes much more effort to break the pencil than to change the shape of a rubber band. This means you are not RESPONSIVE to price changes (inelastic).

Estimating Elasticity  Salt – no substitutes, small portion of income, and a necessity. All of these say that SALT is considered INELASTIC.  Sports Car – substitutes available, large portion of your income, and a luxury item. All of these say that a SPORTS CAR is considered ELASTIC.

Handouts  Elasticity Scenarios  Will quantity demanded be elastic or inelastic? Which factors play a role?  Justify your decisions with sound economic reasoning.

Demand Curves  Why do the curves look different?  Talk to those around you and determine why they look different?  Price elasticity can be zero if someone won’t buy a product.  Reasons: cultural, health, environmental, political, moral, etc.

Inelastic Demand  Price change has little or no effect on QD.  Line will be steep!

Elastic Demand  Price change has a huge change on QD.  Line will be more gradual!

Total Revenue Test  Elasticity of Demand  I will help you with the first one. Elastic DemandInelastic Demand When P in, demand decreasesWhen P increases, D stays the same There are substitutesFew substitutes for good or services WantNeed