- expresses how big of a change some quantity is when compared to the original value of that quantity
- new value - original value (amount of change) / original value x 100 = percent change
- a measure of the responsiveness of quantity demanded or quantity supplied to a change in one of its determinants
- general concept used to quantify the response in one variable when another variable changes
- Elasticity of A with respect to B… B = % change in A / % change in B
- ratio of the percentage change in quantity demanded to the percentage change in price
- measures responsiveness of quantity demanded to changes in price
- price elasticity of demand is a negative relationship, but we use absolute value to make the number positive
- how responsive consumers would be if you changed your price
- a measure of how much the quantity demanded of a good responds to a change in the price of that good
- measure responsiveness of the quantity demanded to price changes
- computed as the percentage change in quantity demanded divided by the percentage change in price
Percent change in quantity / Percent change in price = price elasticity of a good
- as long as the percentage increase in quantity (the numerator) is proportionally larger than the percentage decrease in the price (the denominator) we will always end up with a value larger than 1 which means very responsive
- affected by two factors, number of substitutes available for that good and price of the good relative to one's budget
- consider price elasticity for milk, since milk has few substitutes people have few options to replace milk with other goods when its price increases, this means the price would have to change dramatically before considering switching from milk to some other product and since the price of milk is relatively inexpensive a change in the price of milk will probably have little effect on overall food allowance, this makes milk generally inelastic
- consider price elasticity of filet mignon, filet mignon has many substitutes such as different types of steaks and meats and also takes a larger part of food allowance, an increase in price would have a significant effect on allowance, this makes filet mignon generally elastic
- the more substitutes a good has the more price elastic demand is going to be, the more inexpensive a good is the more inelastic demand is going to be
- law of demand tells us when price rises, quantity demand will fall
- determined by price elasticity of demand which is a measure of how responsive buyers are to price changes
- We have lots of different ways to measure slope because we have different currencies on the axis
- Measurement independent of units is used in price elasticity of demand
- percentage change
- the responsiveness or sensitivity of quantity demanded to price changes.
- elastic: price increase Total Revenue decrease, price decrease Total Revenue increase
- inelastic: price increase Total Revenue increase, price decrease Total Revenue decrease
- demand for which the percentage in quantity demanded is larger in absolute value than the percentage change in price
- very responsive demand
- if price elasticity is greater than 1 demand is elastic (absolute value)
- more than 1 means the percent change quantity is larger than the percent change in price
- quantity is very responsive to changes in price
- demand curve is relatively flat
- if absolute value of the price elasticity of demand for a good is greater than 1
- a small rise in the price will lead to a larger percentage drop in demand
- the demand for a product is highly responsive to price changes
- if the quantity goes up more than the price goes down revenue increases
- price and revenue inversely related
- positive change in Q is proportionally larger than quantity change in P
- when demand is elastic price decreases will raise revenue and price increases will decrease revenue
Price elastic shape
- the flatter the demand curve is, the more price elastic the demand will be
- the quantity demanded is more affected by a change in price when a good has more close substitutes
- the more expensive goods tend to be more price elastic
- higher you are on demand curve the more price elastic demand will be
- demand for which the percentage change in quantity of a product demanded is the same as the percentage change in price in absolute value,
- sort of responsive demand
- demand for which quantity drops to zero at slightest increase in price
- infinitely responsive demand
- man sells $1 bill for less than $1, if he raises the price of $1 above its value no one will buy it
- demand for which the percentage change in quantity demanded is less in absolute value than the percentage change in price
- inelastic demand always has a numerical value between 0 and 1, not very responsive to demand
- if price elasticity is less than 1 then demand is inelastic (absolute value)
- percent change in quantity is smaller than the percent change in price
- quantity is not responsive to changes in price
- demand curve is relatively steep
- firms prefer inelastic demand
- when the increase in quantity is proportionally smaller than the price, revenue will fall
- price and revenue directly related
- proportional change in Q is smaller than the proportional change in P
- when demand is inelastic price decreases will lower revenue and price increase will raise revenue
- the steeper the demand curve is the more price inelastic the demand will be
- the quantity demanded is less affected by a change in price
- firms have greater opportunity to raise prices and achieve more revenues when the products they sell are inelastic explaining why firms are eager to stand out from their competition
- once other firms copy idea substitutes increase and elasticity rises
Inelastic looks like “I”, elastic looks like “E”
- price elasticity of demand reflects availability of substitutes
- It is larger in the following circumstances
1. When there are more competing products
2. For specific brands rather than broad categories
3. For things that aren’t necessity
4. When consumers search more
5. When there more time to adjust
- Availability of substitutes, more competing products (substitutes) means greater elasticity
* You’ll be more price sensitive when you are shopping at Walmart than a small corner store
* Considering toilet paper, individual brands have high elasticity, more elasticity than the actual product itself
- Specific brands tend to have more elastic demand than the actual goods associated with that specific brand
*Specific brand of cereal is more elastic than overall category of cereal
- Necessities have less elastic demand
* Things that you can't do without are things that you will keep buying even as the price rises
*Necessity is something where there isn't a good substitute available
- Consumer search makes demand more elastic
* More you search for a good price, more likely you are to find an acceptable lower price substitute
- Demand usually gets more elastic over time
* People change slowly, don't change right away but changes prices stay high
Salt example: low price, infrequently purchased, inelastic, when an items represents a relatively small part of our total budget we tend to pay little attention to its price so quantity demanded is not very responsive to price changes
- problem with calculating percentage change is that is depends on the starting point
- midpoints formula measures the percent change between any two points relative to the point midway between those two points
Revenue = Number of Units Sold x Price of each Unit
- if the quantity goes up more than the price goes down revenue increases (elastic)
- when price declines quantity demanded increases, P and Q move in opposite directions
- when positive change in Q is proportionally larger than quantity change in P demand is elastic
- price decreases will raise revenue and price increases will decrease revenue
- used to measure the relationship between income and quantity demanded
percentage change in quantity demanded of a good / percentage change in buyers income
look at image
- necessities have a very low income elasticity close to 0
- anything greater than 1 we sometimes call luxury goods
- measures how sensitive quantity demanded is to price changes of other goods
- when price of one good changes consumption of another good changes
- measures the effect between percentage change in price of one good and the consumption of another good
- prices advertised in a store front commonly have a high cross elasticity of demand
Percentage change in quantity demanded of good X / percentage change in the price of good Y = cross elasticity of demand
- something you consume together
- when a price of a good changes, consumption of another good also changes
- increase in price of one good leads to decrease in consumption of another good
- two goods for which an increase in the price of one leads to a decrease in the demand for the other
- negative for complements, if price of a printer rises, people buy fewer cartridges
- quantity demanded of one good rises when the price of another rises
- when prices increase for one good, consumption of a different good rises
- an increase in the price of one good leads to an increase in consumption of another good
- positive for substitutes, if price of pepsi goes up, people buy more coke instead
- measures how responsive sellers are to price changes
- measures the effect of a change in price on the quantity supplied of a good or service
- a measure of how much the quantity supplied of a good responds to a change in the price of that good
- computed as the percentage change in quantity supplied divided by the percentage change in price
Percentage change in the quantity supplied of good X / percentage change in price of good X
- even when the price of a 1957 corvette rises, the quantity supplied cannot rise at the same rate because there are a limited number of corvettes, quantity for sale is limited by the number of cars that still exists, this makes the price elasticity of supply for corvettes to be low
- when the price of bicycles rises, the quantity supplied can rise at the same rate , the price elasticity for bicycles would be a lot higher than the price elasticity for corvettes
- time is a significant factor in the price elasticity of supply, the more time a producer has to increase production of a good, the easier it is for a producer to react to an increase in a goods price, price elasticity of supply tends to rise over time
Summary of measures of elasticity
- price elasticity of supply depends on how flexible your business can be
- larger in the following circumstances
1. for firms that store inventories
2. when inputs are easily available
3. for firms with extra capacity
4. when firms can easily enter and exit the market
5. when theres more time to adjust
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