E d change in quantity demanded of product X change in price of product X Calculating change Change in quantity nqd iqd initial quantity demanded ID: 1027918
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1. Price Elasticity Coefficient FormulaEd = % change in quantity demanded of product X % change in price of product XCalculating % change% Change in quantity = nqd – iqd initial quantity demanded Example: % Change in quantity100,000 nqd - 110,000 iqd = - 10,000 -10,000 = .10 or 10% 100,0001
2. Price Elasticity Coefficient FormulaEd = % change in quantity demanded of product X % change in price of product XChange in price = New Price – Initial Price Initial priceNew Price = $4Initial Price = $3 $4 np - $3 ip = $1 = .33 or 33% $3 ip $3
3. Price Elasticity Coefficient FormulaEd = % change in quantity demanded of product X % change in price of product X 10% = .30 or 30% 33%
4. Chapter 6: Extensions of Supply, Demand, and Supply Analysis
5. ElasticityIt is all about how things respond to changes in pricesResponsive or not responsive5
6. Supply and Demand Review Define the Law of DemandDefine the Law of SupplyWhat is the difference between a change in demand and a change in quantity demanded?What happens if price is above equilibrium?What happens if price is below equilibrium?Define Consumer’s and Producer’s SurplusIdentify the rule for double shifts in S&D Explain the results of an excise tax
7. HOW MUCH MORE OR LESS?DOES IT MATTER?THE LAW OF DEMAND SAYS...Consumers will buy more when prices go down and less when prices go up7
8. ElasticityElasticity shows how sensitive quantity is to a change in price.
9. Summary of the ChapterPaul Salmon Video - Elasticity9
10. Goals Of This ChapterBy the end of this chapter you should be able to do the Elasticity Slide10
11. 4 Types of ElasticityElasticity of DemandElasticity of SupplyCross-Price Elasticity (Subs or Comp)Income Elasticity (Norm or Inferior)
12. Total RevenueTotal revenue = total amount the seller receives from the sale of a product or service In a particular time periodFormula TR = P * QTR = total revenueP = PriceQ = quantity12
13. Total RevenueFormula TR = P X QTR = total revenueP = PriceQ = quantityExamplePrice is $3.50 per gallonQuantity = 10 gallons$3.5 * 10 = $35 Total Revenue13
14. What Happens If---What happens to total revenue ifPrices go up?Prices go down? We know about the Supply and Demand CurveDoes not tell us what happens if---Brings us to elasticity14
15. ElasticityMeasure of the responsiveness of the quantity demanded to a good or serviceTo change in priceWhen all other factors remain the same
16. 1. Elasticity of DemandElasticity of Demand- Measurement of consumers responsiveness to a change in price.What will happen if price increase? How much will it affect Quantity DemandedWho cares?Used by firms to help determine prices and salesUsed by the government to decide how to tax
17. Elasticity of DemandIn the previous section, supply and demand curves were drawn as straight lines. This is a simplification, we assume rate of change of demand or supply is the same for all prices in the market. At some prices, a small change in price may cause a large change in the quantity demanded.
18. Name---In the short run, name Products whose price change will not change demand muchProducts whose price change will change demand significantly18
19. This shown in the diagram as the movement from Pe to Pe1; a small change in price which causes an even larger percentage decrease in quantity demanded (from Qe to Qe1.At other prices, a large increase in price may see a much smaller decrease in demand. This shown in the diagram as the movement from Pe2 to Pe3; a large change in price which causes a smaller percentage decrease in quantity demanded (from Qe2 to Qe3.
20. Inelastic Demand
21. Inelastic DemandIf price increases, quantity demanded will fall a littleIf price decreases, quantity demanded increases a little. In other words, people will continue to buy it. 20%5%INelastic = Quantity is INsensitive to a change in price. Examples:GasolineMilkDiapersA INELASTIC demand curve is steep! (looks like an “I”)Chewing GumMedical CareToilet paper
22. Inelastic DemandIf percentage change in price produces a smaller percentage change in quantity demanded22
23. Inelastic Demand20%5%General Characteristics of INelastic Goods:Few SubstitutesNecessitiesSmall portion of incomeRequired now, rather than later Elasticity coefficient less than 1
24. Example: Calculate24
25. Elastic Demand
26. Elastic DemandIf price increases, quantity demanded will fall a lotIf price decreases, quantity demanded increases a lot. In other words, the amount people buy is sensitive to price. Elastic = Quantity is sensitive to a change in price. An ELASTIC demand curve is flat!Examples:SodaBoatsBeefReal EstatePizzaGold
27. Elastic DemandGeneral Characteristics of Elastic Goods: Many Substitutes Luxuries Large portion of income Plenty of time to decide Elasticity coefficient greater than 1
28. Price Elasticity Coefficient FormulaEd = % change in quantity demanded of product X % change in price of product XCalculating % change% Change in quantity = nqd – iqd initial quantity demanded Example: % Change in quantity100,000 nqd - 110,000 iqd = - 10,000 -10,000 = .10 or 10% 100,00028
29. Price Elasticity Coefficient FormulaEd = % change in quantity demanded of product X % change in price of product XChange in price = New Price – Initial Price Initial priceNew Price = $4Initial Price = $3 $4 np - $3 ip = $1 = .33 or 33% $3 ip $3
30. Price Elasticity Coefficient FormulaEd = % change in quantity demanded of product X % change in price of product X 10% = .30 or 30% 33%
31. Graph Graph the previous exampleIs it elastic or inelastic? WHY?Inelastic because change in % change in quantity demanded is less than % change in priceOr a 33% change in price created a 10% drop in quantity demandedCalculated price elastic is < 1 therefore price is inelastic
32. You SolveDecide the price elasticity of demand for a slice of pizza at $2.00 by examining a price decrease from $2.00 to $1.50 per slice. In this case, the demand pizza would increase from 7 million slices to 10 million slices. You can use these figures to calculate the price elasticity of demand
33. Ed = % change in quantity demanded of product X % change in price of product XEd = (10M – 7M) ÷ 7M (DN-O÷O) ($1.50 - $2.00) ÷ $2.00 (PN-O÷O)Ed = .43 = -1.72 - 0.25Drop the negative: Ed is > 1 therefore the demand for pizza slices is elastic
34. Negative NumbersIf price increases by 10% and consumers respond by decreasing purchases by 20% the equation computes the elasticity coefficient as -2. The result is negative because an increase in price (a positive number) leads to a decrease in purchases (a negative number). Because the law of demand says it will always be negative, many economists ignore the negative sign
35. Elastic or Inelastic?Beef- 1.27Gasoline- .20Real Estate- 1.6Medical Care- .31 Electricity- .13Gold- 2.6 Elastic INelastic Elastic INelastic INelastic ElasticWhat about the demand for insulin for diabetics?Perfectly INELASTIC(Coefficient = 0)What if % change in quantity demanded equals % change in price?Unit Elastic (Coefficient =1)
36. 2. Price Elasticity of SupplyElasticity of Supply- Elasticity of supply shows how sensitive producers are to a change in price. Elasticity of supply is based on time limitations.Producers need time to produce more.INelastic = Insensitive to a change in price (Steep curve)Most goods have INelastic supply in the short-run Elastic = Sensitive to a change in price (Flat curve)Most goods have elastic supply in the long-runPerfectly Inelastic = Q doesn’t change (Vertical line)Set quantity supplied
37. Elasticity of supply is influenced by a number of factors. These include : the length of the production period. In the late 1990's, demand for Australia wines overseas has reached all time records. Vines take three years to grow to a point where they yield adequate amounts of fruit. Increases in demand for Australian wine has seen prices rise (from Po to P1), and returns to existing grape growers are excellent. Those who wish to buy grapes face a market where supply can only increase marginally (from Qo to Q1), in the short term. However, many new stands of vines are being planted, and in a few years, returns to growers may stabilise, as supply increases. Prices will fall from P1 to P2 as the supply of grapes increases from Q1 to Q2.
38. Elasticity Over Time - Supply38
39. Elasticity Over Time - Supply39
40. Elasticity Over Time - Supply40
41. 2.Price Elasticity of Supply Over Time
42. Price Elasticity of Supply Over TimeHow would you graph the supply elasticity of Gas over time?Lets see 42
43. 3. Cross-Price Elasticity of DemandCross-Price elasticity shows how sensitive a product is to a change in price of another good It shows if two goods are substitutes or complements% change in price of product “a”% change in quantity of product “b”(test) If coefficient is negative (shows inverse relationship) then the goods are complementsIf coefficient is positive (shows direct relationship) then the goods are substitutesP increases 20%Q decreases 15%
44. ThinkPizza and Burgers are elastic and substitutes of each otherIf the price of pizza declines1. What happens to the sale of pizza?2. What happens to the sale of burgers?2. Soda is a compliment to pizza. What happens to the sale of soda?Lets Graph
45. Income elasticity shows how sensitive a product is to a change in INCOMEIt shows if goods are normal or inferior% change in income% change in quantity(test) If coefficient is negative (shows inverse relationship) then the good is inferiorIf coefficient is positive (shows direct relationship) then the good is normalEx: If income falls 10% and quantity falls 20%…Income increases 20%, and quantity decreases 15% then the good is a…4. Income-Elasticity of DemandINFERIOR GOOD
46. Total Revenue TestUses elasticity to show how changes in price will affect total revenue (TR). (TR = Price x Quantity) Elastic Demand- Price increase causes TR to decreasePrice decrease causes TR to increaseInelastic Demand- Price increase causes TR to increasePrice decrease causes TR to decreaseUnit Elastic-Price changes and TR remains unchanged Ex: If demand for milk is INelastic, what will happen to expenditures on milk if price increases?
47. Is the range between A and B, elastic, inelastic, or unit elastic? AB10 x 100 =$1000 Total Revenue5 x 225 =$1125 Total RevenuePrice decreased and TR increased, so…Demand is ELASTIC125%50%
48. You Should Now Get ThisElastic and Inelastic Demand BabyWinner 2013 Econ video contest48
49. Total Revenue Test
50. Total Revenue Test}inelastic} unit elastic}elastic
51. Password DemandSubstituteInferior GoodElasticTotal Revenue Test
52. Terms Subsidy Supply Excise TaxInelasticElasticity Coefficient
53. Elasticity Practice53
54. Graph the following chartCalculate the Ed using the top set of numbers and prices rising
55. Answers -GraphThis is what your graph should look like
56. Answers - EdEd = % change in quantity demanded of product X % change in price of product X % Change in quantity = nqd – iqd initial quantity demanded % Change in price = New Price – Initial Price Initial price Ed = (90 – 100) ÷ 100 ($2 - $1.00) ÷ $1.00Ed = -.10 = -.1 1Drop the negative: Ed is < 1 therefore the demand for is INelastic
57. Calculate the TR and determine if Total Revenue increased or decreased with a price increaseWhat is gain or loss on price move?
58. Answers$3 * 70 = $210$2 * 90 = $180Total Revenue increased $30
59. What Happens If ---Graph the following chartCalculate the Ed using the bottom two numbers and prices rising
60. Answers - EdEd = % change in quantity demanded of product X % change in price of product X % Change in quantity = nqd – iqd initial quantity demanded % Change in price = New Price – Initial Price Initial price Ed = (40 – 70) ÷ 70 ($4 - $3.00) ÷ $3.00Ed = -.4285 or 42.85% = 1.28 .3333 or 33.33%Drop the negative: Ed is > 1 therefore the demand for is elastic
61. Ed & TR Test “quiz”
62. Practice ProblemSee handout
63. Consumer and Producer SurplusConsumer SurplusDifference between maximum price willing to pay and the actual price producers chargeThink of it as a “willing to pay” curve63
64. Marginal Benefit & SurplussesMarginal BenefitWhat you gain when you get one more unitMeasured by what you are willing to give upEveryday life we say “getting value for our money”There is a difference between value and price
65. Value vs. PriceValue is what we getPrice is what we payEveryday idea of value is marginal benefit ORThe measure of the maximum price what consumers are willing to pay for another unit of a good or service
66. Pizza Sales Per Slice PD21.5 $1 .5 20 30 40 10Consumer Surplus Amount PaidMarket PriceConsumer surplus from 10th slice of pizzaWilling to pay
67. Voluntary ExchangeIn the free-market, buyers and sellers voluntarily come together to seek mutual benefits. 67
68. Voluntary ExchangeIn the free-market, buyers and sellers voluntarily come together to seek mutual benefits. 68
69. Voluntary ExchangeIn the free-market, buyers and sellers voluntarily come together to seek mutual benefits. 69
70. Voluntary ExchangeIn the free-market, buyers and sellers voluntarily come together to seek mutual benefits. 70
71. Example of Voluntary ExchangeEx: You want to buy a truck so you go to the local dealership. You are willing to spend up to $20,000 for a new 4x4. The seller is willing to sell this truck for no less than $15,000. After some negotiation you buy the truck for $18,000. Analysis: Buyer’ Maximum- Sellers Minimum- Price- Consumer’s Surplus- Producer’s Surplus-$20,000$15,000$18,000$2,000$3,00071
72. Consumer Surplus is the difference between what you are willing to pay and what you actually pay. CS = Buyer’s Maximum – PriceProducer’s Surplus is the difference between the price the seller received and how much they were willing to sell it for. PS = Price – Seller’s MinimumVoluntary Exchange Terms72
73. Pearl Exchange Activity73
74. Voluntary Exchange Activity74
75. SPQDConsumer and Producer’s Surplus $1086$542110 2 4 6 8 CSPS75Calculate the :Consumer SurplusProducer SurplusTotal Surplus
76. Calculating Consumer SurplusIn DollarsMax Willing to payActual price (E)CalculateCS$9$59 – 5 = $4$8$58 – 5 =$3$7$57 – 5 =$2$6$56 – 5 =$1$5$55 – 5 =$076Sum = CS = $10
77. Calculating Producer SurplusIn DollarsMin Price chargedActual price (E)CalculatePS$2$5 5 – 2 = $3$3$5 5 - 3 =$2$4$5 5 - 4 =$1$5$5 5 – 5 =$0 77Sum = PS = $6
78. SurplusesCould be calculated in Quantity78
79. SummaryConsumption InefficiencyProductionInefficiency
80. Practice ProblemName of ConsumerPrice willing to payMatt$20Don$15Sarah$8George$12Ann$7Q. If dinner sells for $10, what is the value of Dons’ consumer surplus?
81. Practice ProblemName of ConsumerPrice willing to payMatt$20Don$15Sarah$8George$12Ann$7Q. If dinner sells for $10, what is the value of Dons’ consumer surplus?A. Willing to pay is $15. Market price is $10. Willing to pay ($15) – Actual Price ($10) = $5
82. Practice ProblemName of ConsumerPrice willing to payMatt$20Don$15Sarah$8George$12Ann$7Q. If dinner sells for $11, what is the TOTAL value of consumer surplus?
83. Practice ProblemName of ConsumerPrice willing to payMatt$20Don$15Sarah$8George$12Ann$7Q. If dinner sells for $11, what is the TOTAL value of consumer surplus?20 – 11 = 9, 15 – 11 = 4, 12 – 11 = 1 9 + 4 + 1 = $14 consumer surplus
84. For a given linier demand curve, the value of consumer surplus does what as market price increases?
85. For a given linier demand curve, the value of consumer surplus does what as market price increases?Decreases as market price increases
86. (1)Price(2)QA(3) (4)QB(5) (6)QC(7) $10100$_____100$_____100$_____9111_____130_____110_____8125_____170_____120_____7143_____220_____130_____6167_____280_____140_____5200_____350_____150_____86 15. A marketing firm has done a study of market demand for DVDs of three different movies. Calculate the total revenue for each movie in columns 3, 5, and 7. Without calculating the price elasticity of demand, indicate whether demand for each movie is elastic, inelastic or unit-elastic. For which movie would a reduction in price produce the greatest increase in revenue?
87. (1)Price(2)QA(3) (4)QB(5) (6)QC(7) $10100$1000100$1000100$10009111999130117011099081251000170136012096071431001220154013091061671002280168014084052001000350175015075087Without calculating the price elasticity of demand, indicate whether demand for each movie is elastic, inelastic or unit-elastic. For which movie would a reduction in price produce the greatest increase in revenue? Applying the total revenue test, we see that total revenues remain approximately constant for movie A, meaning that demand is unit-elastic. Total revenues for movie B are increasing as price decreases, meaning that demand for movie B is elastic. Total revenues for movie C are decreasing as price decreases, meaning the demand for movie C is inelastic. [text: E pp. 77-80; MA pp. 77-80; MI pp. 77-80]