2. 20 - 1 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Demand & Supply Elasticities & Government-Set Prices 20 C H A P T E R

3. 20 - 2 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show HOW MUCH MORE OR LESS? DOES IT MATTER? to whom? Think About It... THE LAW OF DEMAND SAYS... PRICE ELASTICITY OF DEMAND Consumers will buy more when prices go down and less when prices go up Price Elasticity Provides an Answer

4. 20 - 3 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show The percentage change in price The percentage change in quantity.01.02 Elasticity is.5 Q P P1P1 P2P2 Q1Q1 Q2Q2 D Measures Responsiveness to Price Changes PRICE ELASTICITY OF DEMAND

5. 20 - 4 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show The percentage change in price The percentage change in quantity Elasticity is.5 Q P P1P1 P2P2 Q1Q1 Q2Q2 D Commonly Expressed as… PRICE ELASTICITY OF DEMAND  %P %  Q d

6. 20 - 5 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show The Price-Elasticity Coefficient and Formula PRICE ELASTICITY OF DEMAND E d = Percentage change in quantity demanded of product X Percentage change in price of product X Or equivalently… E d = Percentage change in quantity demanded of X Original quantity demanded of X Change in price of X  Original price of X Elimination of the Minus Sign

7. 20 - 6 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Interpretations of E d PRICE ELASTICITY OF DEMAND Elastic Demand E d =.04.02 = 2 Inelastic Demand E d =.01.02 =.5 Unit Elastic Demand E d =.02 = 1

8. 20 - 7 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Extreme Cases PRICE ELASTICITY OF DEMAND Perfectly Inelastic Demand Perfectly Elastic Demand P 0 P 0 D1D1 E d = 0 D2D2 E d =  Q Q

9. 20 - 8 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Refinement – The Midpoints Formula PRICE ELASTICITY OF DEMAND EdEd = Change in quantity Sum of Quantities/2 Change in price Sum of prices/2 

10. 20 - 9 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Q P D When prices are low, TR Quantity Demanded PRICE ELASTICITY & TOTAL REVENUE So is total revenue

11. 20 - 10 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Q P D Total revenue rises with price to a point... TR Quantity Demanded PRICE ELASTICITY & TOTAL REVENUE

12. 20 - 11 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Q P D Total revenue rises with price to a point... then declines TR Quantity Demanded PRICE ELASTICITY & TOTAL REVENUE

13. 20 - 12 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Q P D Total revenue rises with price to a point... then declines TR Quantity Demanded PRICE ELASTICITY & TOTAL REVENUE

14. 20 - 13 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Q P D Total revenue rises with price to a point... then declines TR Quantity Demanded PRICE ELASTICITY & TOTAL REVENUE Total Revenue Test

15. 20 - 14 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Q P D Total revenue rises with price to a point... then declines Inelastic Demand Inelastic Demand TR Quantity Demanded PRICE ELASTICITY & TOTAL REVENUE

16. 20 - 15 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Q P D Total revenue rises with price to a point... then declines Elastic Demand Elastic Demand Inelastic Demand TR Quantity Demanded PRICE ELASTICITY & TOTAL REVENUE Inelastic Demand

17. 20 - 16 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Q P D Total revenue rises with price to a point... then declines Elastic Demand Elastic Demand Inelastic Demand TR Quantity Demanded PRICE ELASTICITY & TOTAL REVENUE Inelastic Demand Unit Elastic

18. 20 - 17 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Inelastic from 0 to 1 Typical of necessities one must have Typical of luxuries one wants Elastic from 1 to  Unit elastic when exactly = 1 Price change does not reduce total revenue Price Elasticity is... PRICE ELASTICITY & TOTAL REVENUE

19. 20 - 18 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show DETERMINANTS OF PRICE ELASTICITY OF DEMAND Substitutability Proportion of Income Luxuries versus Necessities Time Applications... Bumper Crops Excise Taxes Decriminalization of Illegal Drugs Minimum Wage

20. 20 - 19 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Now compare the market period short-run, and long run... PRICE ELASTICITY OF SUPPLY Es=Es= Percentage change in quantity supplied of good X Percentage change in the price of good X

21. 20 - 20 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show PoPo P Q D1D1 QoQo An increase in demand without enough time to change supply causes… SmSm Market period PRICE ELASTICITY OF SUPPLY

22. 20 - 21 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show PoPo PmPm P Q D1D1 QoQo D2D2 An increase in demand without enough time to change supply causes… an increase in price SmSm Market period PRICE ELASTICITY OF SUPPLY

23. 20 - 22 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show PoPo P Q D1D1 QoQo Short Run PRICE ELASTICITY OF SUPPLY An increase in demand with less intensity supply use causes... SsSs

24. 20 - 23 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show PoPo P Q D1D1 QoQo D2D2 Short Run PRICE ELASTICITY OF SUPPLY PsPs An increase in demand with less intensity supply use causes...a lower increase in price SsSs QsQs

25. 20 - 24 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show PoPo P Q D1D1 QoQo Long Run PRICE ELASTICITY OF SUPPLY An increase in demand in the long run allows greater change causing... SLSL

26. 20 - 25 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show PoPo P Q D1D1 QoQo D2D2 Long Run PRICE ELASTICITY OF SUPPLY PLPL An increase in demand in the long run allows greater change causing... SLSL QLQL Even more elastic response - less price increase

27. 20 - 26 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show CROSS ELASTICITY OF DEMAND E xy = Percentage change in quantity demanded of good X Percentage change in the price of good y Positive Sign Goods are Substitutes Negative Sign Goods are Complementary Zero or near-zero value Goods are Independent

28. 20 - 27 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show INCOME ELASTICITY OF DEMAND E i = Percentage change in quantity demanded Percentage change in income Positive Sign Goods are Normal or Superior Negative Sign Goods are Inferior

29. 20 - 28 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show GOVERNMENT-SET PRICES Price Ceilings & Shortages Rationing Problem Black Markets Rent Controls Credit Card Interest Ceilings

30. 20 - 29 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show GOVERNMENT-SET PRICES Price Ceilings & Shortages D D S S Legal Price Ceiling P PcPc SHORTAGE P Q

31. 20 - 30 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show D D S S Legal Price Floor P PfPf SURPLUS Q QsQs QdQd P Q GOVERNMENT-SET PRICES Price Floors & Surpluses

32. 20 - 31 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show D D S S Legal Price Floor P PfPf SURPLUS Q QsQs QdQd P Q GOVERNMENT-SET PRICES Price Floors & Surpluses Chapter Conclusions

33. price elasticity of demand elastic demand inelastic demand unit elasticity perfectly inelastic demand perfectly elastic demand total revenue total-revenue test price elasticity of supply market period short run long run cross elasticity of demand income elasticity of demand price ceiling black market price floor ENDBACK Copyright McGraw-Hill/Irwin 2002

34. 20 - 33 Copyright McGraw-Hill/Irwin, 2002 Price Elasticity of Demand Price Elasticity and Total Revenue Determinants of Price Elasticity of Demand Price Elasticity of Supply Cross Elasticity of Demand Income Elasticity of Demand Government-Set Prices Key Terms Previous Slide Next Slide End Show Next: Chapter 21 Consumer Behavior and Utility Maximization