Demand Elasticity

Why is understanding elasticity of demand important? The Law of Demand states what? It does not tell us how large or small of a change How much more or less (quantity demanded) of a product people will demand as prices change.

Elasticity = Sensitivity …to changes in price.

ELASTICITY OF DEMAND THE EXTENT TO WHICH A CHANGE IN PRICE CAUSES A CHANGE IN THE QUANTITY DEMANDED Name a product that you would still buy regardless of price and a product that you wouldn’t buy if the price changed.

If demand is… Elastic, buyers are MORE SENSITIVE to P. Inelastic = LESS sensitive

ELASTIC DEMAND  SMALL CHANGE IN PRICE CAUSES LARGE CHANGE IN QUANTITY DEMANDED  “FLATTER” DEMAND CURVE  EXAMPLE: NEIGHBORING GAS STATIONS (PENNY WARS)

Elastic Elastic demand curves are flatter. Elastic means stretchy. “Stretch it out flat.” P Q D

INELASTIC DEMAND  CHANGE IN PRICE CAUSES SMALLER CHANGE IN QUANTITY DEMANDED  MORE VERTICAL DEMAND CURVE  EXAMPLES: INSULIN, GAS AFTER KATRINA

Inelastic Inelastic starts with the letter “I”. “I” is a vertical line. Inelastic demand curves are STEEP. Inelastic “I” Steep Curve I P Q D

TOTAL RECEIPTS TEST TR = PRICE OF PRODUCT X QUANTITY SOLD

 IF PRICE AND REVENUE MOVE IN OPPOSITE DIRECTIONS, IT HAS ELASTIC DEMAND  IF PRICE AND REVENUE MOVE IN THE SAME DIRECTION, IT IS INELASTIC

IF THERE IS NOT CHANGE IN REVENUE, IT IS CALLED UNIT ELASTIC PAGE 103 – FIGURE 4.5

WHY IS ELASTICITY IMPORTANT?  1. PRICING POLICY – GIVES PRODUCERS AN IDEA OF HOW TO CHANGE PRICES TO MAXIMIZE PROFITS  2. TELLS GOV’T WHAT TO TAX – SIN TAXES, EXCISE TAXES

ELASTICITY HOW DO WE DETERMINE ELASTICITY? PAGE

 DEMAND IS ELASTIC IF THE ANSWER TO THE FOLLOWING QUESTIONS IS YES:  :CAN THE PURCHASE BE DELAYED?  ARE THERE SUBSTITUTE GOODS?  DOES THIS PURCHASE USE A LARGE PORTION OF INCOME?