1. Consumer Choice and Elasticity
Micro Chapter 7
Consumer Choice and Elasticity

2. This chapter is an extension of the first part of Chapter 3 on demand and consumer theory
Refer back to your Chapter 3 notes and mentally combine them with Chapter 7 notes

3. 6 Learning Goals
List the key factors influencing consumer behavior (repeat from Chapter 3 and on your own)
Apply the concept of marginal utility to determine how a demand curve is derived (repeat from Chapter 3 and on your own)
Define, calculate, and graph elasticity of demand
Relate demand elasticity to total revenue
Define and calculate income elasticity
Define and graph elasticity of supply

4. Elasticity of Demand

5. Law of demand states that if price rises (falls), quantity demanded falls (rises)
Elasticity gives us more information about the consumer
Price elasticity seeks to quantify how much quantity demanded falls (rises)

6. Other questions to consider:
By how much does price need to rise to decrease quantity demanded by X%?
By how much does price need to fall to increase quantity demanded by Y%?

7. Price elasticity of demand= percentage change in quantity demanded / percentage change in price

8. Values of price elasticity
If ε > 1, then elastic
Consumers change their behavior a lot
If ε < 1, then inelastic
Consumers change their behavior a little
If ε = 1, then unitary elastic
Consumers don’t change their behavior

9. Key point: Price elasticity is NOT the slope of the demand curve
A straight-line demand curve will have constant slope but a different elasticity at every point

10. What determines elasticity?
(1) Availability of substitutes
More substitutes, more elastic (more responsive)
(2) Share of budget
Greater share, more elastic
(3) Time
More time, more elastic

11. How Demand Elasticity and Price Changes Affect Total Expenditures (or Revenues) on a Product

12. Impact of higher price on total consumer expenditures or a firm’s total revenue
Impact of lower price on total consumer expenditures or a firm’s total revenue
Elasticity coefficient (in absolute value)
Price elasticity of demand
1 to 
Elastic
decrease
increase
Unitary Elastic 1
-- unchanged --
-- unchanged --
Inelastic
0 to 1
increase
decrease

13. Don’t memorize this chart!
Use it as a tool
Think about what elasticity tells us and then apply it to total revenue

14. Total Revenue (TR) to the firm is Total Expenditure (TE) by the consumer. TR = TE = P x Q
If elastic and price falls: ↓ P x ↑Q = ↑TR
Lower price and lots more is bought, Q dominates equation
If elastic and price rises: ↑ P x↓Q = ↓TR
Raise price and lots less is bought, Q dominates equation
If inelastic and price falls:↓P x ↑ Q = ↓TR
Lower price and a little more is bought, P dominates equation
If inelastic and price rises: ↑ P x ↓ Q = ↑TR
Raise price and a little less is bought, P dominates equation

15. A different way to look at this:
4 graphs

16. Income Elasticity

17. Price elasticity measures the change in consumer purchases when price changes
Income elasticity measures the change in consumer purchases when income changes
Income elasticity =

18. Values of income elasticity
If positive, consumers buy more when income rises
Normal good - a good that consumers will buy more of when income rises
If negative, consumers buy less when income rises
Inferior good - a good that consumers will buy less of when income rises

19. Price Elasticity of Supply

20. Price elasticity of supply measures the responsiveness of quantity supplied to price changes
How much does quantity supplied increase (or decrease) when price rises (or falls)?

21. Graphs: