ch04chapter 4 of demand cureve elasticity of demand chapter 4 of demand cureve elasticity of demand...

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1

Law of Demand

Law of DemandPeople do less of what they want to do as

the cost of doing it risesRecall the Cost-Benefit PrinciplePursue an action if and only if its benefits

are at least as great as its costs

Recall the Reservation PriceThe highest price we’d be willing to pay



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Total Expenditure

Total !penditure e"uals

The number of units sold multiplied by

the price of the good

Total !penditure # Total Revenue

The dollar amount that consumers spend

on a product is e"ual to the dollar amountthat sellers receive



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The Law of Demand and Total

Expenditure$%ill consumers spend more on my product

if & sell more units at a lower price or fewer

units at a higher price'(Depends upon price elasticity of demand

%hen price rises) total e!penditure mayincrease) decrease) or stay the same

This is due to the Law of Demand*s price rises) "uantity demanded falls

*s price falls) "uantity demanded rises



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Fig. 5.7

The Demand Curve for Movie Ticket



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Fig. 5.! The Demand Curve for Movie Ticket



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Fig. 5."# Total Expenditure a a Function of $rice



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$rice Elaticit% of Demand

&n order to predict what will happen to

total e!penditures)

%e must +now how much "uantity will

change when the price changes

Price elasticity of demand is

the percentage change in the "uantity

demanded that results from a one-percentchange in its price



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$rice Elaticit% of Demand

P Q

D

D

P ∆

∆=%

%ε



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$rice Elaticit%lastic , "uantity changes by a lot when price

changes even a littleprice elasticity is greater than one

&nelastic , "uantity changes by a little whenprice changes even a lotprice elasticity is less than one

nit elastic , "uantity change # price changeprice elasticity e"uals one

%hen calculating price elasticity of demand)you will always get a negative- %./'0or convenience we will ta+e the absolute value



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Fig. 5.""Elatic and &nelatic Demand



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$rice Elaticit% and

Expenditure0or an elastic product1uantity demanded is highly responsive

Percentage change in "uantity dominates

*n increase in price will reduce total e!penditure

* decrease in price will increase total e!penditure

0or an inelastic product1uantity demanded is not responsive

Percentage change in price dominates

*n increase in price will increase total e!penditure

* decrease in price will decrease total e!penditure



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Determinant of Elaticit%

2ubstitution possibilitiesPrice elasticity of demand will be relatively high if

it is easy to substitute between products , %hy'

Budget shareThe larger the share of the budget the good uses

tends to have higher price elasticities of demand ,%hy'

TimeBecause substitution ta+es time) price elasticity

will be higher in the long run than in the shortrun



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Example

%hat are some goods that will have

very elastic demand'

%hat are some goods that will have

very inelastic demand'



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Calculating $rice Elaticit%

Proportion by which "uantity demanded

changes divided by the proportion by which

price changes

slope

Q P

P P

Q

Q

P

Q1

%

%==

∆

∆=

∆

∆

ε



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Fig. 5."'(raphical &nterpretation of $rice Elaticit%

of Demand



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)ther Elaticitie of Demand

&ncome lasticity of Demand

The amount by which the "uantity

demanded changes in response to a one-percent change in income

Positive for normal goods

3egative for inferior goods



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)ther Elaticitie of Demand

Cross Price lasticity of Demand

The amount by which the "uantity

demanded of one good changes in responseto a one-percent change in the price of

another good

Positive for substitutes

3egative for complements



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$erfect Elaticit%

Perfectly lastic demand

Price elasticity of demand is infinite

ven the slightest change in price leads

consumers to find substitutes

Perfectly &nelastic demand

Price elasticity of demand is 4ero

Consumers do not switch to substitutes

even when price increases dramatically

Do goods li+e these e!ist'



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Fig. 5."*$erfectl% Elatic and $erfectl% &nelatic

Demand Curve



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$rice Elaticit% of +uppl%

The percentage change in the "uantity

supplied that will occur in response to a

one-percent change in its price

slope

Q P

P P

Q

QS

S

P P

Q1%

%

==∆

∆

= ∆

∆

ε



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Determinant of +uppl%

Elaticit%The more easily additional units of

inputs can be ac"uired) the higher the

price elasticity 5more elastic60le!ibility of &nputs

7obility of &nputs

*bility to Produce 2ubstitute &nputsTime

ni"ue and ssential &nputs



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$erfect Elaticit%

Perfectly &nelasticlasticity of supply is 4ero

%hether the price is high or low) the same

amount is available

Perfectly lasticlasticity of supply is infinite

%hen additional units can be producedusing the same combination of inputspurchased at the same prices



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Fig. ,."#- $erfectl% &nelatic +uppl% Curve



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Fig. ,.""- $erfectl% Elatic +uppl% Curve



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Elaticit% of +uppl%

%hat determines whether the supply ofa particular good will be elastic orinelastic'*vailability of resources used to produce

the good , how "uic+ly and easily canproducers respond to a price change'

g of good with inelastic supply'

g of good with elastic supply'



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aturalit /uetion

%hy do you pay 89 for a beer in theairport when you can buy the same

beer for less than 8: outside theairport'

%hy do you get a discounted airfarewhen you stay over a 2aturday night'

%hy are there so many personali4edlicense plates in ;irginia vs< 3C'

ch04chapter 4 of demand cureve elasticity of demand chapter 4 of demand cureve elasticity of demand...

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