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TRANSCRIPT
Chapter 6 Elas%city
Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
6-‐2
Price Elasticity of Demand
• Measures buyers’ responsiveness to price changes
• Elas%c demand • Sensi%ve to price changes • Large change in quan%ty
• Inelas%c demand • Insensi%ve to price changes • Small change in quan%ty
LO1
6-‐3
Ed =
Price Elasticity of Demand Formula
• Formula for price elas%city of demand
percentage change in quan%ty demanded of product X
percentage change in price of product X
LO1
6-‐4
Price Elasticity of Demand Formula
• Use the midpoint formula • Ensures consistent results
Ed = ÷ Change in quan%ty
Sum of quan%%es/2
Change in price Sum of prices/2
LO1
6-‐5
Price Elasticity of Demand Formula
• Use percentages • Unit free measure • Compare elas%ci%es across products
• Eliminate the minus sign • Easier to compare elas%ci%es
LO1
6-‐6
Interpretation of Elasticity of Demand
• Ed > 1 demand is elas%c • Ed = 1 demand is unit elas%c • Ed < 1 demand is inelas%c • Extreme cases
• Ed = 0 demand is perfectly inelas%c • Ed = ∞ demand is perfectly elas%c
LO1
6-‐7
Extreme Cases
D1 P
Perfectly inelas%c demand
Perfectly inelas%c demand (Ed = 0)
0
LO1
6-‐8
Extreme Cases
Perfectly elas%c demand
P
D2
Perfectly elas%c demand (Ed = ∞)
0
LO1
6-‐9
Total Revenue Test
• Total Revenue = Price X Quan%ty • Total Revenue Test • Inelas%c demand
• P and TR move in the same direc%on • Elas%c demand
• P and TR move in opposite direc%ons
LO2
6-‐10
Total Revenue Test
• Lower price and elas%c demand • Blue gain exceeds orange loss
$3
2
1
0 10 20 30 40 Q
P
a
b D1
LO2
6-‐11
Total Revenue Test
• Lower price and inelas%c demand • Orange loss exceeds blue gain
$4
3
2
1
0 10 20 Q
P
c
d
D2
LO2
6-‐12
Total Revenue Test
• Lower price and unit elas%c demand • Blue gain equals orange loss
$3
2
1
0 10 20 30 Q
P
e
f
D3
LO2
6-‐13
Total Revenue Test
(1) Total Quan%ty of Tickets Demanded
per Week, Thousands (2)
Price per Ticket
(3) Elas%city
Coefficient (Ed)
(4) Total Revenue
(1) X (2)
(5) Total-‐Revenue
Test
1 2 3 4 5 6 7 8
$8 7 6 5 4 3 2 1
5.00 2.60 1.57 1.00 0.64 0.38 0.20
$ 8,000 14,000 18,000 20,000 20,000 18,000 14,000 8,000
Elas%c Elas%c Elas%c
Unit-‐elas%c Inelas%c Inelas%c Inelas%c
] ] ] ] ] ] ]
] ] ] ] ] ] ]
Price Elas%city of Demand for Movie Tickets as Measured by the Elas%city Coefficient and the Total Revenue Test
LO2
6-‐14
Elasticity and Total Revenue
0 1 2 3 4 5 6 7 8
0 1 2 3 4 5 6 7 8
Quan%ty demanded
Quan%ty demanded
Price
Total reven
ue
(Tho
usan
ds of d
ollars) $20
18 16 14 12 10
8 6 4 2
$8 7 6 5 4 3 2 1
a b
c d
e f
g h
Elas%c Ed > 1
Unit elas%c Ed = 1
Inelas%c Ed < 1
D
TR
LO2
6-‐15
Summary of Price Elasticity of Demand
Price Elas%city of Demand: A Summary
Absolute Value of Elas%city Coefficient Demand Is: Descrip%on
Impact on Total Revenue of a:
Price Increase Price Decrease
Greater than 1 (Ed > 1)
Elas%c or rela%vely elas%c
Qd changes by a larger percentage than does price
Total Revenue decreases
Total Revenue increases
Equal to 1 (Ed = 1)
Unit or unitary elas%c
Qd changes by the same percentage as does price
Total revenue is unchanged
Total revenue is unchanged
Less than 1 (Ed < 1)
Inelas%c or rela%vely inelas%c
Qd changes by a smaller percentage than does price
Total revenue increases
Total revenue decreases
6-‐16
Determinants of Price Elasticity of Demand
• Subs%tutability • More subs%tutes, demand is more elas%c
• Propor%on of income • Higher propor%on of income, demand is more elas%c
LO3
6-‐17
Determinants of Price Elasticity of Demand
• Luxuries versus necessi%es • Luxury goods, demand is more elas%c
• Time • More %me available, demand is more elas%c
LO3
6-‐18
Price Elasticity of Demand Selected Price Elas%ci%es of Demand
Product or Service Price Elas%city of Demand (Ed) Product or Service
Price Elas%city of Demand (Ed)
Newspapers .10 Milk .63
Electricity (household) .13 Household appliances .63
Bread .15 Liquor .70
MLB Tickets .23 Movies .87
Telephone Service .26 Beer .90
Cigarebes .25 Shoes .91
Sugar .30 Motor vehicles 1.14
Medical Care .31 Beef 1.27
Eggs .32 China, glassware 1.54
Legal Services .37 Residen%al land 1.60
Automobile repair .40 Restaurant meals 2.27
Clothing .49 Lamb and mubon 2.65
Gasoline .60 Fresh peas 2.83
6-‐19
Applications of Price Elasticity of Demand
• Large crop yields • Inelas%c demand, lower total revenue
• Excise taxes • Inelas%c demand, more total revenue
• Decriminaliza%on of illegal drugs • Inelas%c demand, more total revenue
LO3
6-‐20
Price Elasticity of Supply
• Measures sellers’ responsiveness to price changes
• Elas%c supply, producers are responsive to price changes
• Inelas%c supply, producers are not as responsive to price changes
LO4
6-‐21
Price Elasticity of Supply
• Formula for price elas%city of supply
LO4
percentage change in quan%ty supplied of Product X
percentage change in price of product X
Es =
6-‐22
Price Elasticity of Supply
• Es > 1 supply is elas%c • Es = 1 supply is unit elas%c • Es < 1 supply is inelas%c • Addi%onally,
• Es = 0 supply is perfectly inelas%c
LO4
6-‐23
Price Elasticity of Supply
• Time is primary determinant of elas%city of supply
• Time periods considered • Immediate market period • Short run • Long run
LO4
6-‐24
Es: The Immediate Market Period
• Perfectly inelas%c supply P
Q D1
D2
Sm
Q0
Pm
P0
LO4
6-‐25
The Short Run
• Short run supply is more elas%c than in the immediate market period
P
Q D1
D2
Ss
Q0
Ps
P0
Qs LO4
6-‐26
The Long Run
• Long run supply is even more elas%c than in the short run
LO4
P
Q D1
D2
SL
Q0
Pl
P0
Ql
6-‐27
Applications of Elasticity of Supply
• An%ques • Inelas%c supply
• Reproduc%ons • More elas%c supply
• Vola%le gold prices • Inelas%c supply
LO4
6-‐28
Cross Elasticity of Demand
• Formula for cross elas%city of demand
Ex,y =
percentage change in quan%ty demanded of product X
percentage change in price of product Y
LO5
6-‐29
Cross Elasticity of Demand
• Measures responsiveness of purchases of one good to change in the price of another good
• Subs%tute goods if elas%city is posi%ve • Complement goods if elas%city is nega%ve • Independent goods if elas%city is 0
LO5
6-‐30
Cross Elasticity of Demand
• Applica%ons of cross elas%city of demand • Should a company change a price? • Should the government allow a merger?
LO5
6-‐31
Income Elasticity of Demand
• Formula for income elas%city of demand
LO5
Ei = percentage change in quan%ty demanded
percentage change in income
6-‐32
Income Elasticity of Demand
• Measures responsiveness of buyers to changes in their income
• Normal goods if elas%city is posi%ve • Inferior goods if elas%city is nega%ve
LO5
6-‐33
Income Elasticity Insights
• High income elas%ci%es • Most affected by a recession
• Low or nega%ve income elas%city • Not affected that much by a recession
LO5
6-‐34
Cross and Income Elasticities
Cross and Income Elas%ci%es of Demand
Value of Coefficient Descrip%on Type of Good(s)
Cross elas%city: Posi%ve (Ewz > 0) Nega%ve (Exy < 0)
Quan%ty demanded of W changes in same direc%on as change in price of Z Quan%ty demanded of X changes in opposite direc%on from change in price of Y
Subs%tutes Complements
Income elas%city: Posi%ve (Ei >0) Nega%ve (Ei<0)
Quan%ty demanded of the product changes in same direc%on as change in income Quan%ty demanded of the product changes in opposite direc%on from change in income
Normal or superior Inferior
LO5
6-‐35
Elasticity and Pricing Power
• Charge different prices to different buyers based on price elas%ci%es
• Business air travelers • Children discounts • College tui%on