2. 1 Further Topics in Supply and Demand Chapters 5 & 7

3. Price Elasticity of Demand Percent change in quantity demanded divided by percent change in price. The flatter the slope of the demand curve, the more … 2

4. Price Elasticity of Supply Same idea. 3

5. 4 Mid-Point Formula for Price Elasticity

6. Figure 1 The Price Elasticity of Demand Copyright©2003 Southwestern/Thomson Learning (a) Perfectly Inelastic Demand: Elasticity Equals 0 $5 4 Quantity Demand 100 0 1. An increase in price... 2.... leaves the quantity demanded unchanged. Price

7. Figure 1 The Price Elasticity of Demand (b) Inelastic Demand: Elasticity Is Less Than 1 Quantity 0 $5 90 Demand 1. A 22% increase in price... Price 2.... leads to an 11% decrease in quantity demanded. 4 100

8. Figure 1 The Price Elasticity of Demand Copyright©2003 Southwestern/Thomson Learning 2.... leads to a 22% decrease in quantity demanded. (c) Unit Elastic Demand: Elasticity Equals 1 Quantity 4 100 0 Price $5 80 1. A 22% increase in price... Demand

9. Figure 1 The Price Elasticity of Demand (d) Elastic Demand: Elasticity Is Greater Than 1 Demand Quantity 4 100 0 Price $5 50 1. A 22% increase in price... 2.... leads to a 67% decrease in quantity demanded.

10. Classification of elasticity measures Absolute value < 1, INELASTIC Absoute value > 1, ELASTIC Absolute value = 1, UNIT ELASTIC 9

11. 10 Computing the Price Elasticity of Demand Elastic or inelastic? $5 4 Demand Quantity 100050 Price

12. Factors Affecting Elasticity of Demand Availability of close substitutes Necessities versus luxuries Definition of the market Time horizon 11

13. 12

14. 13

15. 14 Revenue

16. Figure 2 Total Revenue Copyright©2003 Southwestern/Thomson Learning Demand Quantity Q P 0 Price P × Q = $400 (revenue) $4 100

17. Figure 3 How Total Revenue Changes When Price Changes: Inelastic Demand Copyright©2003 Southwestern/Thomson Learning Demand Quantity 0 Price Revenue = $100 Quantity 0 Price Revenue = $240 Demand $1 100 $3 80 An Increase in price from $1 to $3 … … leads to an Increase in total revenue from $100 to $240

18. Figure 4 How Total Revenue Changes When Price Changes: Elastic Demand Copyright©2003 Southwestern/Thomson Learning Demand Quantity 0 Price Revenue = $200 $4 50 Demand Quantity 0 Price Revenue = $100 $5 20 An Increase in price from $4 to $5 … … leads to an decrease in total revenue from $200 to $100

19. 18 Other Elasticity Measures 1. Elasticity of supply

20. 19 Other Elasticity Measures 2. Cross-price elasticity Negative for complements Positive for substitutes

21. 20 Other Elasticity Measures 3. Income elasticity

22. 21 Income elasticity Positive for normal goods Negative for inferior goods

23. 22 Applications of Elasticity

24. 23 Bumper Crops

25. 24 OPEC & Oil Prices

26. 25 Demand is said to be inelastic if the a.quantity demanded changes proportionately more than the price. b.quantity demanded changes proportionately less than the price. c.price changes proportionately more than income. d.quantity demanded changes proportionately the same as the price.

27. 26 Consumers, Producers, and the Efficiency of Markets Chapter 7

28. 27 Economic Welfare  Welfare of buyers: consumer surplus.  Welfare of suppliers: producer surplus.  What price and quantity in a market maximizes the sum of the two?  That ’ s the efficient allocation.

29. 28 Consumer Surplus

30. Table 1 Four Possible Buyers’ Willingness to Pay Copyright©2004 South-Western

31. 30 The Demand Schedule and the Demand Curve

32. Figure 1 The Demand Schedule and the Demand Curve Copyright©2003 Southwestern/Thomson Learning Price of Album 0Quantity of Albums Demand 1234 $100 John’s willingness to pay 80 Paul’s willingness to pay 70 George’s willingness to pay 50 Ringo’s willingness to pay

33. Figure 2 Measuring Consumer Surplus with the Demand Curve Copyright©2003 Southwestern/Thomson Learning (a) Price = $80 Price of Album 50 70 80 0 $100 Demand 1234 Quantity of Albums John’s consumer surplus ($20)

34. Figure 2 Measuring Consumer Surplus with the Demand Curve Copyright©2003 Southwestern/Thomson Learning (b) Price = $70 Price of Album 50 70 80 0 $100 Demand 1234 Total consumer surplus ($40) Quantity of Albums John’s consumer surplus ($30) Paul’s consumer surplus ($10)

35. Figure 3 How the Price Affects Consumer Surplus Copyright©2003 Southwestern/Thomson Learning Consumer surplus Quantity (a) Consumer Surplus at Price P Price 0 Demand P1P1 Q1Q1 B A C

36. Figure 3 How the Price Affects Consumer Surplus Copyright©2003 Southwestern/Thomson Learning Initial consumer surplus Quantity (b) Consumer Surplus at Price P Price 0 Demand A B C DE F P1P1 Q1Q1 P2P2 Q2Q2 Consumer surplus to new consumers Additional consumer surplus to initial consumers

37. 36 What is the consumer surplus at P1 and at P2?

38. 37 Producer Surplus

39. Table 2 The Costs of Four Possible Sellers Copyright©2004 South-Western

40. 39 The Supply Schedule and the Supply Curve

41. Figure 4 The Supply Schedule and the Supply Curve

42. Figure 5 Measuring Producer Surplus with the Supply Curve Copyright©2003 Southwestern/Thomson Learning Quantity of Houses Painted Price of House Painting 500 800 $900 0 600 1234 (a) Price = $600 Supply Grandma’s producer surplus ($100)

43. Figure 5 Measuring Producer Surplus with the Supply Curve Copyright©2003 Southwestern/Thomson Learning Quantity of Houses Painted Price of House Painting 500 800 $900 0 600 1234 (b) Price = $800 Georgia’s producer surplus ($200) Total producer surplus ($500) Grandma’s producer surplus ($300) Supply

44. Figure 6 How the Price Affects Producer Surplus Copyright©2003 Southwestern/Thomson Learning Producer surplus Quantity (a) Producer Surplus at Price P Price 0 Supply B A C Q1Q1 P1P1

45. Figure 6 How the Price Affects Producer Surplus Copyright©2003 Southwestern/Thomson Learning Quantity (b) Producer Surplus at Price P Price 0 P1P1 B C Supply A Initial producer surplus Q1Q1 P2P2 Q2Q2 Producer surplus to new producers Additional producer surplus to initial producers D E F

46. 45

47. 46 When the market for a good is in equilibrium, a.consumer surplus will equal producer surplus. b.the total value created for consumers will equal the total cost of production for business firms. c.all units valued more highly than the opportunity cost of production will be supplied. d.all units that have value will be produced, regardless of their cost of production.

48. 47 Market Efficiency

49. What happens to CS and PS if price is different from the equilibrium price? Copyright©2003 Southwestern/Thomson Learning Producer surplus Consumer surplus Price 0 Quantity Equilibrium price Equilibrium quantity Supply Demand A C B D E

50. 49 Efficiency The property of resource allocation of maximizing the total surplus received by all members of society. Total surplus = CS + PS = (value to buyers – amount paid by buyers) + (amount received by sellers – cost to sellers) = value to buyers – cost to sellers

51. 50 EfficiencyEquity

52. 51 If Harry only pays $25,000 to purchase a new car even though he would have been willing to pay as much as $35,000 for the car, this indicates that a.Harry is an irrational consumer. b.The seller earned a $10,000 profit on the sale of the car. c.Harry reaped $10,000 of consumer surplus from the transaction. d. The seller received $10,000 worth of producer surplus on the transaction.