Lesson 2-3
Elasticities
•
•
•
•
•
•
What is the Law of Demand?
But by how much?
How will consumers respond to a price
change? Strong? Weak?
Do all price changes for all products affect
consumers the same?
As a producer, what will happen to my total
revenue if there is a change in the price of my
good?
Price Elasticity of Demand: Measures
consumers’ response to price changes.
Formula: Price Elasticity of Demand
Ed=
% ∆ in Qd of Product X
% ∆ in P of Product X
How to Calculate % : Subtract Old From New and ÷ by Original
Example: Price of product drops from $5 to $4 and Qd goes from 10 to 20.What is the
Ed?
Example: What if Price went from $4 to $5 and Qd went from 20 to 10? What is the Ed?
LO1
4-2
Price Elasticity of Demand Formula
Use the midpoint or arc formula , always use
percentages, and always use Absolute Value!
Ed =
Q2 – Q1
(Q2 + Q1)/2
÷
P2 – P1
(P2 + P1)/2
1. Example 1: Price change from $4 to $5 so Quantity
Demanded Changes from 10 to 20. What is the Price
Elasticity of Demand? ________
• .67% / .22% = 3.05
LO1
4-3
Price Elasticity of Demand Practice
• Example #2: When Price of a good increases from $9 to $10, the
Quantity Demanded decreases from 12 units to 10 units. What is
the Ed?
• -18.2% / 10.5%
• -1.7%
• Example #3: When Price of a good increases from $5 to $6,
Quantity Demanded decreases from 100 to 80. What is the Ed?
• -22.2% / 18.2%
• -1.22
• Example #4: When Price of a good increases from $1 to $2,
Quantity Demanded goes from 180-160. What is the Ed?
• -11.8% / 66.7%
• -0.18%
• ALWAYS USE ABSOLUTE VALUE!
• If Ed is GREATER THAN 1, DEMAND IS ELASTIC!
• If Ed is EQUAL TO 1, DEMAND IS UNIT ELASTIC!
• If Ed is LESS THAN 1, DEMAND IS INELASTIC!
Extreme Cases
P
D2
Perfectly
elastic
demand
0
LO1
Perfectly elastic demand
Consumers stop buying all together with price
change
4-5
Extreme Cases
P
D1
Perfectly
inelastic
demand
0
Perfectly inelastic demand
Consumers buy same amount of good regardless of price
LO1
4-6
Income Elasticity of Demand
•
•
•
Measures responsiveness of buyers to changes in income.
Positive Solution= Normal Goods: Income and Demand
move in same direction
Negative Solution= Inferior Goods: Income and Demand
move in opposite directions
% change
in Qd
EI =
LO4
% change in income
4-7
Cross Price Elasticity of Demand
• Measures the responsiveness of demand for a good to a
•
•
•
change in price of another good.
Positive: Goods are Substitutes
Negative: Goods are complements
Equal to 0 : Unrelated
% change in Qd of X
ECP =
% change in P of Y
LO4
4-8
Price Elasticity of Supply
• Measures sellers’ response to price
changes.
• Elastic supply: producers are
responsive to price changes (respond
quickly)
• Inelastic supply: producers are not
as responsive to price changes (or
cannot respond quickly)
LO3
4-9
Price Elasticity of Supply
• Es > 1 supply is elastic
• Es < 1 supply is inelastic
• Es = 1 supply is unit-elastic
Percentage Change in Quantity
Supplied of Product X
Es =
LO3
Percentage Change in Price
of Product X
4-10
AP Economics
October 8, 2014
1.
2.
3.
4.
Review Activities 2-3 and 2-4: Elasticities
Lesson 2-5: Total Revenue and Elasticity
Return Work
HW: Activity 2-5
Total Revenue Test
• Total Revenue: Income a firm receives from selling its
good and services.
• Elasticity shows firms the effect of price changes on Total
Revenue.
• Total Revenue = Price x Quantity (P x Q)
• If a firm increases its price, 2 things affect its total
revenue:
1. Receive higher price for each unit sold, increase total
revenue
2. Will sell fewer units due to higher price, decrease total
revenue.
• Inelastic demand: P and TR move in the same
direction.
• Elastic demand: P and TR move in opposite
direction.
LO2
4-12
Total Revenue Test
Price Elasticity of Demand for Movie Tickets as Measured by the Elasticity
Coefficient and/or the Total-Revenue Test
(1)
Total Quantity of
Tickets Demanded per
Week, Thousands
LO2
(2)
Price per Ticket
(3)
Elasticity
Coefficient
(Ed)
(4)
Total
Revenue
(1) X (2)
(5)
Total
Revenue
Test
1
$8
---------
$8,000
2
7
5.00
14,000
Elastic
3
6
2.60
18,000
Elastic
4
5
1.57
20,000
Elastic
5
4
1.00
20,000
Unit Elastic
6
3
0.64
18,000
Inelastic
7
2
0.38
14,000
Inelastic
8
1
0.20
8,000
Inelastic
4-13
Price
Price Elasticity and Total Revenue Curve
$
8 a
b
7
c
6
5
d
e
4
3
f
g
2
h D
1
0 1 2 3 4 5 6 7 8
Elastic
Ed > 1
Unit Elastic
Ed = 1
Inelastic
Ed < 1
Total Revenue
(Thousands of Dollars)
Quantity Demanded
$2
0
18
16
14
12
10
8
TR
6
4
20 1 2 3 4 5 6 7 8
Quantity Demanded
LO2
4-14