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Elasticity of Demand

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Page 1: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

Elasticity of DemandElasticity of Demand

Page 2: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

What is elasticity of demand?

What is elasticity of demand?

Measure of how much quantity demanded respond to changes in price

In other words: if the price of a product rises, the consumers will either buy less or the same amount of the product

Willingness to buy

Measure of how much quantity demanded respond to changes in price

In other words: if the price of a product rises, the consumers will either buy less or the same amount of the product

Willingness to buy

Page 3: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

What determines elasticity of demand?

What determines elasticity of demand?

Availability of substitutes Necessities vs. luxuries Definition of market Time horizon

Availability of substitutes Necessities vs. luxuries Definition of market Time horizon

Page 4: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

Availability of SubstitutesAvailability of Substitutes

Goods with close substitutes tend to have more elastic demand.

Ex) lemonade and orange juice are substitutes. If the price of lemonade goes up, people will buy more orange juice than lemonade ➔ elastic

Ex) there is no substitute for clocks. Even if price of clock rises, people wil continue to buy clocks ➔ inelastic

Goods with close substitutes tend to have more elastic demand.

Ex) lemonade and orange juice are substitutes. If the price of lemonade goes up, people will buy more orange juice than lemonade ➔ elastic

Ex) there is no substitute for clocks. Even if price of clock rises, people wil continue to buy clocks ➔ inelastic

Page 5: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

Necessities Vs. LuxuriesNecessities Vs. Luxuries

Necessities tend to have inelastic demands, and luxuries tend to have elastic demands.

Ex) Water is a necessity. Despite the change of price of water, people will still purchase water ➔ inelastic

Ex) a diamond ring is a luxury good. If it is too expensive, people will not buy it ➔ elastic

Necessities tend to have inelastic demands, and luxuries tend to have elastic demands.

Ex) Water is a necessity. Despite the change of price of water, people will still purchase water ➔ inelastic

Ex) a diamond ring is a luxury good. If it is too expensive, people will not buy it ➔ elastic

Page 6: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

Definition of MarketDefinition of Market

Narrowly defined market tend to have elastic demands, and broadly defined market tend to have inelastic demands.

Ex) Car is a broad category. It is inelastic because there are no substitutes.

Ex) Specific brands of car, such as Hyundai and BMW, are narrow category. They are elastic because people will buy cheaper brand of cars.

Narrowly defined market tend to have elastic demands, and broadly defined market tend to have inelastic demands.

Ex) Car is a broad category. It is inelastic because there are no substitutes.

Ex) Specific brands of car, such as Hyundai and BMW, are narrow category. They are elastic because people will buy cheaper brand of cars.

Page 7: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

Time horizonTime horizon

Longer time horizon tend to have more elastic demand than shorter time horizon.

Ex) When price of gasoline rises for a few months, people will still pay for it ➔ inelastic

Ex) If price of gasoline continues to rise for two years, people will start to use more public transportation or buy fuel-efficient cars ➔ elastic

Longer time horizon tend to have more elastic demand than shorter time horizon.

Ex) When price of gasoline rises for a few months, people will still pay for it ➔ inelastic

Ex) If price of gasoline continues to rise for two years, people will start to use more public transportation or buy fuel-efficient cars ➔ elastic

Page 8: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

How to calculate price elasticity of demand?How to calculate price elasticity of demand?

Price elasticity of demand = % change in quantity demanded / % change in price.

Midpoint method: (Q1-Q2) / {(Q1+Q2)/2}

(P1-P2) / {(P1+P2)/2}Note: the final result of this formula will

be a negative number. In this case, ignore the negative sign.

Price elasticity of demand = % change in quantity demanded / % change in price.

Midpoint method: (Q1-Q2) / {(Q1+Q2)/2}

(P1-P2) / {(P1+P2)/2}Note: the final result of this formula will

be a negative number. In this case, ignore the negative sign.

Page 9: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

Price Elasticity of Demand Curve

Price Elasticity of Demand Curve

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Page 10: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

Total RevenueTotal Revenue

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Page 11: Elasticity of Demand. What is elasticity of demand?  Measure of how much quantity demanded respond to changes in price  In other words: if the price

Other Demand Elasticity Other Demand Elasticity

Income elasticity of demand

% change in QD

% change in P

Income elasticity of demand

% change in QD

% change in P

Cross-price elasticity of demand

% change in QD of good 1% change in P of good 2

Cross-price elasticity of demand

% change in QD of good 1% change in P of good 2