1. 5 Elasticity SLIDES CREATED BY ERIC CHIANG CHAPTER 5 SLIDE 1
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CHAPTER SLIDE 1

2. CHAPTER OBJECTIVES
Understand the concept of elasticity and why percentages are used to measure it.
Describe the difference between elastic and inelastic demand.
Describe the determinants of price elasticity of demand.
Compute the price elasticity of demand using the base and midpoint methods.
Describe the relationship between total revenue and price elasticity of demand. 
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3. CHAPTER OBJECTIVES
Describe cross elasticity of demand and use this concept to define substitutes and complements.
Use income elasticity of demand to define normal, inferior, and luxury goods.
Use the concept of price elasticity of supply to measure the relationship between changes in product price and quantity supplied.
Describe the time periods economists use to study elasticity, and the variables that can be changed in each period.
Describe the relationship between elasticity and the burden and incidence of taxes.
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4. ELASTICITY MEASURES THE RESPONSIVENESS OF ONE VARIABLE TO CHANGES IN ANOTHER.
EASTPHOTO/AGE FOTOSTOCK
10%
PRICE
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5. = % Δ QUANTITY % Δ PRICE PRICE ELASTICITY OF DEMAND, Ed
Always a negative number, which is why we use the absolute value.
Larger number (in absolute value) indicates greater elasticity.
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6. INELASTIC ELASTIC UNITARY ELASTIC Ed < 1 Ed > 1 Ed = 1
DEFINING PRICE ELASTICITY OF DEMAND
Ed < 1
INELASTIC
Ed > 1
ELASTIC
Ed = 1
UNITARY ELASTIC
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7. DEMAND FOR ELASTIC GOODS IS SENSITIVE TO PRICE CHANGES.
HUPEN/DREAMSTIME.COM
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8. DEMAND FOR INELASTIC GOODS IS LESS SENSITIVE TO PRICE CHANGES.
JOHNFOTO/DREAMSTIME.COM
DEMAND FOR INELASTIC GOODS IS LESS SENSITIVE TO PRICE CHANGES.
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9. THE SHAPE OF DEMAND CURVES
Relatively elastic
Relatively inelastic
PRICE
PRICE D D
QUANTITY
QUANTITY
Unitary elastic
PRICE D
QUANTITY
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10. THE SHAPE OF DEMAND CURVES
Perfectly inelastic
Perfectly elastic D
PRICE D
PRICE
QUANTITY
QUANTITY
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11.     DETERMINANTS OF ELASTICITY Number of substitutes available
The cost as a proportion of one’s budget
Whether a good is a necessity or a luxury
The period to respond to changes in price   
Elastic goods have many substitutes, represent a large portion of one’s budget, tend to be luxury goods, and have a long time horizon for responses.
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12. MAGICTORCH/IKON IMAGES/CORBIS
THE MIDPOINT METHOD ALLOWS PERCENTAGE CHANGES TO BE THE SAME REGARDLESS OF THE DIRECTION OF THE CHANGE.
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13. THE MIDPOINT METHOD USES THE AVERAGE OF TWO VALUES AS THE BASE:
%ΔQ = (Q1 – Q0) / [(Q0 + Q1) / 2]
EXAMPLE: Q increases from 10 to 12
%ΔQ = (12 – 10) / [ ) / 2]
= 2 / 11 = 18.2%
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14. Total Revenue = Price  Quantity
ELASTICITY
AND TOTAL REVENUE
Total Revenue = Price  Quantity
TR = P × Q
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15. = ELASTICITY AND TOTAL REVENUE P TR Q
When demand is inelastic, price changes are larger than quantity changes (in percentage terms).
An increase in price results in higher total revenue. = P TR Q
A decrease in price results in lower total revenue.
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16. = ELASTICITY AND TOTAL REVENUE TR P Q
When demand is elastic, quantity changes are larger than price changes (in percentage terms).
An increase in price results in lower total revenue. = TR P Q
A decrease in price results in higher total revenue.
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17. = ELASTICITY AND TOTAL REVENUE TR Q P
When demand is unitary elastic, quantity changes are equal to price changes (in percentage terms).
An increase in price does not change total revenue. = TR Q P
A decrease in price does not change total revenue.
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18. ELASTICITY AND TOTAL REVENUE
Inelastic demand
Elastic demand 5 5 4 4
Revenue gained 3
PRICE ($) 3
PRICE ($)
Revenue gained 2 2 D
Revenue lost
Revenue lost 1 1 D
100
200
300
400
500
600
100
200
300
400
500
600
QUANTITY
QUANTITY
An increase in price causes a net increase in revenue.
An increase in price causes a net decrease in revenue.
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19. ELASTICITYAND TOTAL REVENUE ALONG A LINEAR DEMAND CURVE12
Elastic
Moving down a linear demand curve, elasticity falls from elastic to inelastic. 10
Unitary elastic 8
PRICE ($) 6 4
Inelastic 2 20 40 60 80
100
120
500
400
Total revenue is maximized when demand is unitary elastic.
300
TOTAL REVENUE ($)
200 TR
100 20 40 60 80
100
120
QUANTITY
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20. OTHER ELASTICITIES OF DEMAND
PRICE
CROSS
INCOME
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21. UPPERCUT IMAGES/ALAMY
CROSS ELASTICITY OF DEMAND RESPONSIVENESS OF DEMAND FOR ONE GOOD TO CHANGES IN THE PRICE OF ANOTHER GOOD
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22. = % Δ Qa % Δ Pb CROSS ELASTICITY OF DEMAND, Eab
Unlike for price elasticity, the sign (+ or −) matters.
The sign determines whether goods are substitutes or complements.
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23. SUBSTITUTES Eab > 0 A PRICE INCREASE FOR GOOD A… …INCREASES DEMAND
ERIC CHIANG
A PRICE INCREASE
FOR GOOD A…
ERIC CHIANG
…INCREASES DEMAND
FOR GOOD B.
CHAPTER SLIDE 23

24. IF THE PRICE OF GASOLINE RISES, DEMAND FOR CARS FALLS.
COMPLEMENTS
Eab < 0
HUPEN/DREAMSTIME.COM +
PETER ALBREKTSEN | DREAMSTIME.COM
IF THE PRICE OF GASOLINE RISES, DEMAND FOR CARS FALLS.
CHAPTER SLIDE 24

25. AXX-STUDIO/SHUTTERSTOCK
MEASURES CONSUMERS’ RESPONSIVENESS TO CHANGES IN INCOME
INCOME ELASTICITY
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26. = % Δ QUANTITY % Δ INCOME INCOME ELASTICITY OF DEMAND, EY
The sign of EY (+ or −) also matters.
The sign determines whether goods are normal, luxury, or inferior with respect to income.
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27. 0 < EY < 1 NORMAL GOODS
ERIC CHIANG
AS INCOME RISES, CONSUMERS BUY MORE NORMAL GOODS.
AS INCOME FALLS, CONSUMERS BUY FEWER NORMAL GOODS.
0 < EY < 1
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28. LUXURY GOODS
DANIEL GILBEY/DREAMSTIME.COM
AS INCOME RISES, PURCHASES OF LUXURY GOODS RISE BY MORE THAN THE CHANGE IN INCOME.
EY > 1
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29. INFERIOR GOODS
ERIC CHIANG
AS INCOME RISES, CONSUMERS BUY FEWER INFERIOR GOODS.
AS INCOME FALLS, CONSUMERS BUY MORE INFERIOR GOODS.
EY < 0
CHAPTER SLIDE 29

30. ERIC CHIANG
ELASTICITY OF SUPPLY MEASURES RESPONSIVENESS OF SUPPLIERS TO CHANGES IN PRICE.
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31. = % Δ QUANTITY % Δ PRICE ELASTICITY OF SUPPLY, ES
ES is always a positive number because of the law of supply.
ES increases over time as suppliers adjust.
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32. INELASTIC ELASTIC UNITARY ELASTIC Es < 1 Es > 1 Es = 1
DEFINING ELASTICITY OF SUPPLY
INELASTIC
Es < 1
Es > 1
ELASTIC
Es = 1
UNITARY ELASTIC
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33. ELASTICITY OF SUPPLY RISES OVER TIME AS BUSINESSES ADJUST PRODUCTION.
KRIS TRIPPLAAR/TRIPLAAR KRISTOFFER/SIPA/NEWSCOM
ELASTICITY OF SUPPLY RISES OVER TIME AS BUSINESSES ADJUST PRODUCTION.
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34.    TIME PERIODS AND ELASTICITY
MARKET PERIOD: PERIOD SO SHORT THAT OUTPUT AND NUMBER OF FIRMS ARE FIXED.
SHORT RUN: PERIOD IN WHICH THE NUMBER OF FIRMS DOES NOT CHANGE BUT EACH FIRM CAN ADJUST OUTPUT LEVELS.
LONG RUN: PERIOD LONG ENOUGH FOR NEW FIRMS TO ENTER.  
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35. ELASTICITY OF SUPPLY OVER TIME
SMP P
SSR
Supply becomes more elastic (flatter) over time from the short run to the long run.
SLR P1 P2 P3
PRICE P0 D1 D0 Q Q0 Q2 Q3
QUANTITY
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36. JAMES NAZZ/CORBIS
INCIDENCE OF A TAX
DESCRIBES WHO BEARS THE ECONOMIC BURDEN OF A TAX. THIS IS INFLUENCED BY ELASTICITY.
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37. TYPES OF TAXES 
PROGRESSIVE: AS INCOME RISES, INCOME IS TAXED AT A HIGHER PERCENTAGE.
(EXAMPLE: FEDERAL INCOME TAX)
FLAT: TAX IS A FIXED PERCENTAGE REGARDLESS OF INCOME.
(EXAMPLE: MEDICARE TAX = 2.9%)
REGRESSIVE: TAX BECOMES A SMALLER PERCENTAGE AS INCOME RISES.
(Example: FICA payroll tax, which is capped—at $118,500 of income in 2016)  
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38. TAXES AND ELASTICITY
An excise tax on a good shifts the supply curve to the left, resulting in a higher price.
But the prices rise by less than the full amount of the tax.
Part of the burden is shifted to consumers, and the rest is borne by producers.
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39. TAXES AND DEADWEIGHT LOSS
S0 + tax
New price paid by consumers S0
PRICE ($)
The tax burden is shared by consumers and producers. Pc P0 Pp D
New price received by producers Q1 Q0
Quantity
QUANTITY
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40. DEADWEIGHT LOSS
THE LOSS IN CONSUMER AND PRODUCER SURPLUS BECAUSE SOME TRANSACTIONS CANNOT BE MADE AND THEREFORE THEIR VALUE TO SOCIETY IS LOST.
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41. ELASTICITY AND DEADWEIGHT LOSS
Consumer surplus
The more elastic the demand and supply curves, the stronger the response to the tax and the larger the deadweight loss.
PRICE ($)
S0 + tax S0
Deadweight loss Pc
Tax revenue P0 Pp D Q1 Q0
Quantity
Producer surplus
QUANTITY
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42. ELASTICITY AND TAX BURDENS
Elasticity of demand
The more inelastic the demand, the greater the tax burden on consumers.
The more elastic the demand, the greater the tax burden on producers.
Elasticity of supply
The more inelastic the supply, the greater the tax burden on producers.
The more elastic the supply, the greater the tax burden on consumers.
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43. KEY CONCEPTS Price elasticity of demand Inelastic supply
Elastic demand
Unitary elastic supply
Inelastic demand
Market period
Unitary elastic demand
Short run
Total revenue
Long run
Cross elasticity of demand
Progressive tax
Substitutes
Flat tax
Complements
Regressive tax
Income elasticity of demand
Lump-sum tax
Normal goods
Incidence of taxation
Luxury goods
Inferior goods
Price elasticity of supply
Elastic supply
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44. IF THE PRICE OF SUSHI DROPS FROM $8 TO $4 AND SALES RISE FROM 20 TO 40, WHAT IS Ed (USING THE MIDPOINT METHOD)?
0.5 A
0.66 B 1 C
Answer: C 2 D
2.5 E
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45. EASTPHOTO/AGE FOTOSTOCK
PRACTICE QUESTION
IF RESTAURANT DEMAND IS INELASTIC, HOW WOULD A 10% INCREASE IN PRICE AFFECT REVENUES?
10%
Answer: Increasing the price on an inelastic good increases revenues.
PRICE
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46. IF YOUR SALARY INCREASES BY 30%, AND IN RESPONSE YOU INCREASE YOUR CLOTHING PURCHASES BY 20%, INCOME ELASTICITY EQUALS ___ AND CLOTHING IS ___.
0.67; A NORMAL GOOD A
0.67; AN INFERIOR GOOD B
Answer: A
1.5; A NORMAL GOOD C
1.5; A LUXURY GOOD D
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47. PRACTICE QUESTION
WHY DO OFFICE SUPPLY STORES OFFER DISCOUNTS ON INELASTIC GOODS SUCH AS PEN AND PAPER AT THE START OF EACH SCHOOL TERM?
BARBARA HELGASON/DREAMSTIME.COM
Answer: They are trying to attract customers into the store to buy higher-priced items such as computers and printers, goods that are complementary to school supplies.
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48. THE TAX INCIDENCE OF ITEMS SUCH AS GASOLINE, TOBACCO, AND ALCOHOL TENDS TO FALL HEAVILY ON _____ BECAUSE THESE GOODS HAVE A _____.
PRODUCERS; RELATIVELY ELASTIC DEMAND A
PRODUCERS; RELATIVELY INELASTIC DEMAND B
Answer: D
CONSUMERS; RELATIVELY ELASTIC DEMAND C
CONSUMERS; RELATIVELY INELASTIC DEMAND D
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49. 5 END OF CHAPTER SLIDES CREATED BY ERIC CHIANG CHAPTER 5 SLIDE 49
Tshooter/Shutterstock; Anton Balazh/Shutterstock
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