04/17/23 1

SHIFTS IN DEMAND

S

S

P2

P1

D¹

D²

D¹

D²

Dº

Dº

P0

0 θ1 θ0 θ2

04/17/23 2

Fuel price Hike may cut demand. Hike in price of petrol and diesel may cause a definite slowdown in demand for these items

With the prices of petrol and diesel soaring to a new high demand for used fuel efficient cars have gone up and bigger and less efficient cars like Honda Civic, Hyundai Elantra and Ford Fiesta will bring down their prices.

At present food accounts for nearly a third of Asian personal expenditure so despite rise infood prices consumption will continue to grow at the rate of 3.7% matching the supply growth of 3.7%

04/17/23 3

Jet,Spice to cut flight routes aimed at pruning losses following hike in ATF Rates by oil companies.Record fuel costs will plunge the airline industry back into loss this year and cause a rise in prices

However the rise in costs of fuel cannot be entirely borne by the price sensitiveCustomer and has to be absorbed into their own costs

Glaxo Smithkline’s Consumer Healthcare’s latest offering Women’s Horlicks was the best--ever launch because of its unique product designAnd advertising

04/17/23 4

CONCEPT OF ELASTICITYCONCEPT OF ELASTICITY Responsiveness of QUANTITY DEMANDED to a) Price b) Income c) Advertisement outlay d)Cross elasticity

Price elasticity Ep = Percentage change in quantity demanded

Percentage change in price

Income elasticity

Percentage change in Quantity demanded Percentage change in Income

Advertisement Elasticity :

Percentage change in Advertisement expenditure

Percentage change in Quantity demanded

04/17/23 5

CROSS ELASTICITY

PERCENTAGE CHANGE IN QUANTITY DEMANDED OF X

PERCENTAGE CHANGE IN PRICE OF Y

WHERE X&Y ARE RELATED GOODS

04/17/23 6

PRICE PRICE ELASTICITYELASTICITY OFOF DEMANDDEMAND

RESPONSIVESS OF THE QUANTITY DEMANDED TO CHANGE IN PRICE ep = PERCENTAGE Δ in Qty demanded PERCENTAGE Δ in PRICE

USING CALCULAS WE GET

P δQ

δP Q

δQ = INFINITISMAL Δ IN QTY δP = INFINITISMAL Δ IN PRICE

P = ORIGINAL PRICE OF GOOD

Q = ORIGINAL QTY OF GOOD

04/17/23 7

PRICE PRICE ELASTICITYELASTICITY OFOF DEMANDDEMAND

WITHOUT USING CALCULAS

LET Q1 & P1 BE ORIGINAL VALUES Q 2 & P2 BE NEW VALUES

ep = Q 2 - Q1 P1 P2 - P1 Q1

EG ASSUME P1 = 5 , P2 = 10 Q1 = 20 , Q 2 = 10

ep = 10 - 20 5 = -0.5

10 - 5 20

So As PRICE ses Qty DEMANDED FALLS BY (-0.5) 50%

04/17/23 8

INCOMEINCOME ELASTICITYELASTICITY (ey) (ey)

δQ X Y Q2 - Q1 X Y1

THE FOLLOWING TABLE SHOWS THE QUANTITY DEMANDED OF MEAT AT VARIOUS INCOME LEVELS . FIND ey BETWEEN SUCCESSIVE LEVELS OF INCOME

INCOME QUANTITY (kg/ MONTH) DEMANDED ey

4000 10 2

6000 20 1.5

8000 30 0.67

16000 35 0.33

18000 25 -2.29

δY Q = Y2 - Y1 Q1

04/17/23 9

INCOMEINCOME ELASTICITYELASTICITY (ey) (ey)

APPLY δQ γ Q2 - Q1 γ1 δγ Q1 γ2 - γ1 Q11

= .

= 10 - 4000 = 22000 10

CROSS ELASTICITY (ecxy)

FIND THE CROSS ELASTICITY OF DEMAND BETWEEN (a) COKE (X) AND PEPSI (Y)(b) COKE (X) AND SUGAR (Z)

exy = δQx . Py δPy Qx

exZ = δQx . Pz δPz Qx

04/17/23 10

BEFORE AFTER

COMM

PEPSI (Y)COKE (X)SUGAR (Z)COKE(X)

P Q

13 308 1510 108 15

P Q

11 40 8 10 11 9 8 12

exy = δQx . Py = (10 -15) X

11-13 13 15

= 2.17 δPy Qx

exz = δQx . Pz

δPz Qx = (12 -15)

11-10 X 10

15= -2

x & γ = SUBSTITUTES x & z = COMPLEMENTS

04/17/23 11

PROMOTIONALPROMOTIONAL ELASTICITYELASTICITY

eA

FORMULA

= δQ * A

δA Q

04/17/23 12

Illustration (ELASTICITY USING Illustration (ELASTICITY USING

DERIVATIVESDERIVATIVES)) THE DEMAND FOR MEAT IS GIVEN AS

FOLLOWSQm= 5850 – 6 Pm + 2Pc + 0.15γ γ = INCOME OF RAVI = RS. 8000Pm = PRICE OF MEAT = RS. 125/KgPc = PRICE OF CHICKEN = RS. 70/Kg

CALCULATE (A) INCOME ELASTICITY (B) CROSS PRICE ELASTICITY (C) PRICE ELASTICITY

SOLUTION

ey = δQmδ γ

xγ

Qm

04/17/23 13

Illustration (ELASTICITY USING Illustration (ELASTICITY USING DERIVATIVESDERIVATIVES))

Differentiating the demand function w.r.t. γ we have

δQm 0.15 =δγ

FROM THE DEMAND FUNCTION WE HAVE

Qm= 5850 – (6 x125) + (2 x 70) + 0.15 x 8000

= 5850 – 750 + 140 + 1200= 6440

04/17/23 14

SUBSTITUTING THE VALUES OF δQm

δ γ ,γ

& Qm we have

ey = 0.15 x 8000 0.186

6440

= = 0.186

CROSS PRICE ELASTICITY

ec = δQm Pc

δPc Qm

X

Differentiating Qm w.r.t Pc we have

δQm δPc

= 2

ec = 2 x 70 = 0.02 6440

Meat & Chicken are Substitutes

04/17/23 15

c PRICE ELASTICITY

ep = δQm Pm

δPm QmX

Differentiating θm w.r.f. to Pm we have

δQm -6 δPm

=

ep = -6 x 125 = -0.11 6440

04/17/23 16

Different computed price elasticities

Salt 0.1Water 0.2Coffee 0.3Cigarettes 0.3Footwear 0.7Housing 1.0Foreign travel 1.8Restaurant meals 2.3Air Travel 2.4Motion pictures 3.7Brand of coffee 5.6

Source: Sullivan and Sherin

04/17/23 17

If the price elasticity of demand for cable TV connections is high for example greater than 1.5 and the price elasticity of demand for movies shown in theatres is less than 1 what does this imply?

04/17/23 18

ARCARC ELASTICITYELASTICITY

LET US NOW MEASURE ELASTICITY ON A SEGMENT R S. THE LET US NOW MEASURE ELASTICITY ON A SEGMENT R S. THE PRICES AT POINT R& S ARE PPRICES AT POINT R& S ARE P0 0 & P & P11 RESPECTIVELY AND QTY RESPECTIVELY AND QTY DEMANDED ARE AND Q0 AND Q1 RESPECTIVELY. DEMANDED ARE AND Q0 AND Q1 RESPECTIVELY. MOVEMENT TAKES PLACE FROM R TO S AND FROM S TO R . MOVEMENT TAKES PLACE FROM R TO S AND FROM S TO R . HENCE AVERAGES OF PRICES & QUANTITY ARE TAKEN. HENCE AVERAGES OF PRICES & QUANTITY ARE TAKEN.

1

R P0

Q1Q0

0

0

P1

S P1

04/17/23 19

ARCARC ELASTICITYELASTICITY

ep = Q1 – Q0 (P0 +P1)/2

(Q0 + Q1)/2P1 –P0X

XP0 +P1

Q0 + Q1

Q1 – Q0

P1 –P0=

= XP0 +P1

Q0 + Q1

ΔQΔ P

MOVEMENT FROM R TO S

MOVEMENT FROM S TOR

(P1 –P0)

(Q1 – Q0)

is -ve

is -ve

04/17/23 20

ARC PRICE ELASTICITYARC PRICE ELASTICITY 1)1) COMPUTE ARC ELASTICITY BETWEEN C & D COMPUTE ARC ELASTICITY BETWEEN C & D

MONTHLY DEMAND SCHEDULE FOR RICEMONTHLY DEMAND SCHEDULE FOR RICEPRICE PRICE Qd Qd

AA 10 10 3030BB 1111 2525CC 1212 2121DD 1313 1818

RICE DEMANDED RICE DEMANDED P1 = 12 P1 = 12 q q 1 = 21 1 = 21 P2 = 13P2 = 13 qq 2 = 182 = 18

ΔP =1 ΔQ = -3ΔP =1 ΔQ = -3epD = -3 X (12 +13) = -3 X 25 (ΔQ P1 +P2)epD = -3 X (12 +13) = -3 X 25 (ΔQ P1 +P2)

1 (21+18) 39 (ΔP Q1 + 1 (21+18) 39 (ΔP Q1 + Q2)Q2)

= -1.92= -1.92

epD = -1.92epD = -1.92

XX

SINCE

04/17/23 21

MEASUREMENTMEASUREMENT OFOF PRICEPRICE ELASTICITYELASTICITY ATAT AA

POINTPOINT LOWER SEGMENT LOWER SEGMENT

Let us consider a demand curve AB and measure its elascity Let us consider a demand curve AB and measure its elascity at point R. at point R.

AB – TANGENT TO THE DEMAND CURVE AB – TANGENT TO THE DEMAND CURVE δP = Slope of AB = - OA

δQ OB

P

A

M

O

O

R

N B θ O

UPPER SEGMENT

04/17/23 22

MEASUREMENTMEASUREMENT OFOF PRICEPRICE ELASTICITYELASTICITY ATAT AA POINTPOINT

δQ = - 0B

δP 0Aep = δQ P = - 0B x RN --(1) δP Q 0A RMAll triangles AOB, AMR & NRB are all similar 0B = NB 0A RN ( SUBSTITUTING IN EQ (1) ep = - NB * RN RN RM = -NB RMep = -RB ( NB/RM = RB/AR) AR

04/17/23 23

SUMMARY OF ELASTICITY SUMMARY OF ELASTICITY MEASURESMEASURES

Unitary Elastic % Δ Q = % Δ P e = 1Relatively Elastic % Δ Q > % Δ P e > 1Perfectly Elastic % Δ P = 0 e = αRelatively Inelastic % Δ Q<% Δ P e < 1Perfectly Inelastic % Δ Q = 0 e = 0

ep

=

α

R¹

=ep >1

ep =1

R¹¹ ep <1

ep = 0

A

0 θ B

P

04/17/23 24

POINTPOINT PRICEPRICE ELASTICITYELASTICITY DEMAND SCHEDULE FOR X PRODUCT IS GIVEN DEMAND SCHEDULE FOR X PRODUCT IS GIVEN

PRICEPRICE QTY DEMANDEDQTY DEMANDED33 202044 151555 111166 9977 7 7

COMPUTECOMPUTE (A) POINT PRICE ELASTICITY FOR AN (1) INCREASE IN PRICE FROM RS. (A) POINT PRICE ELASTICITY FOR AN (1) INCREASE IN PRICE FROM RS.

5 TO RS. 6 (2) DECREASE IN PRICE FROM RS. 6 TO RS.55 TO RS. 6 (2) DECREASE IN PRICE FROM RS. 6 TO RS.5

(1) (1) eePD PD = ΔQ P = ΔQ P

ΔP Q ΔP Q ΔQ = (9-11) = -2ΔQ = (9-11) = -2 ΔP = (6-5) = 1ΔP = (6-5) = 1

eePD PD = -2 5= -2 5 1 111 11 = -0.909= -0.909

XX

04/17/23 25

RELATIONSHIP BETWEEN AR, MR AND ELASTICITY

TOTAL REVENUE ( TR)= PRICE(P) X QUANTITY (Q)

AVERAGE REVENUE (AR) =TOTAL REVENUE PER UNIT AR= R/Q =PQ/Q

MARGINAL REVENUE ( MR) = ADDITIONAL REVENUE WHICH A SELLER OBTAINS BY SELLING AN ADDITIONAL UNIT

MR= δRδR δQδQ

R = P.Q ……………………..eq1Differentiating both sides of the equation we get

MR= δR δR =P =P δQ δQ +Q +Q δPδP …………...eq2…………...eq2 δQ δQδQ δQ δQ δQ

P+ Q X P+ Q X δPδP δQδQ

04/17/23 26

P(1+ P(1+ QQ X X δP)δP) P δQP δQ

ELASTICITY OF DEMAND =/ep/= P P . . δQδQ ………….eq3 ………….eq3 Q δPQ δP

Substituting the value of ep in MR Eq WE GET.Note that elasticityOf demand has a negative sign so when modulus is removed then Minus sign appears in the formula as shown below

(Since 1/e= 1/PP . - . - δQ )δQ ) Q δPQ δP MR=P( 1-1/e)MR= AR(1-1/e)

04/17/23 27

E=1,MR=0, TR is max and it remains same when p risesEp>1,MR>0, TR falls as price risesEp<1,MR<0 TR Rises when p rises

RELATIONSHIP BETWEEN ep , MR ,P and TR

MR=P(1-1/E)

so

so

s1

s1

so

so

s1

s1Do

Do

q1 q2 q1 q2

po

q1 q2so

so

s1

s1do

P1po

APPLICATIONS

Es=ed Ed=inf

do

Ed=0

d0

d0

s0

si

po

p1

q1 q2

s0

d

d

q

p

Es=infinityEs=0

04/17/23 30

ILLUSTRATIONSILLUSTRATIONS 1) GIVEN BELOW IS THE WEEKLY DEMAND AND SUPPLY FOR MILK

PRICE DEMAND SUPPLY

91011121314

18161412108

182022242628

(A) DERIVE THE DEMAND AND SUPPLY FUNCTION (B) AT WHAT PRICES WILL NO MILK BE DEMANDED AND SUPPLIED IN DELHI (C) FIND THE EQUILIBRIUM PRICE & QUANTITY

(D) INDICATE AN INCREASE IN BOTH DEMAND AND SUPPLY (BY 6lts each) GRAPHICALLY

SOLUTION FORM OF A LINEAR DEMAND FUNCTION O = αα + bP αα = Qty demanded when price = 0

04/17/23 31

ILLUSTRATIONSILLUSTRATIONS

ΔQ= bΔPΔQ= bΔP

b = ΔQ = -2 = -2b = ΔQ = -2 = -2

ΔP 1ΔP 1

Q = Q = αα - 2P – (1) - 2P – (1)

PUTTING THE VALUE OF b IN eq (1) WE PUTTING THE VALUE OF b IN eq (1) WE GET GET

10 = 10 = αα -2 (13) -2 (13)

α = 36α = 36

04/17/23 32

DEMANDDEMAND FUNCTIONFUNCTION = Qd= Qd = 36-2P –(2) = 36-2P –(2)

SUPPLYSUPPLY FUNCTIONFUNCTION : :

FOR EVERY ONE RS. Δ IN PRICE LEVEL SUPPLY OF MILK FOR EVERY ONE RS. Δ IN PRICE LEVEL SUPPLY OF MILK ses BY 2 LAKH ses BY 2 LAKH

QQs s = 2 P – (3) = 2 P – (3)

(B) WHEN NO MILK IS DEMANDED DEMAND FUNCTION (B) WHEN NO MILK IS DEMANDED DEMAND FUNCTION IS AS FOLLOWS IS AS FOLLOWS

Q=0Q=0

Q= 36-2P Q= 36-2P

2P = 36 2P = 36

P = 36/2 =18 P = 36/2 =18

WHEN NO MILK IS SUPPLIED WHEN NO MILK IS SUPPLIED

04/17/23 33

PROBLEMS FOR PRACTICE

A FIRM PRODUCING PRODUCT X FACES THE FOLLOWING DEMAND FUNCTION

Qx =12000 – 5000 Px + 5I + 500 Pc

Px =Price of productI = Income per capitaPc = Price of competing good

1) Determine what effect a price increase will have on total revenues2) If per capita income rises by 5% next year what is the effect on sales of Good X3) Assess the probable impact of competing firm changing its prices

04/17/23 34

FIND OUT INCOME ELASTICITY OF DEMAND BETWEEN SUCCESSIVE RANKS

INCOME/ 400 600 800 1000 1200 1400 1600 1800MONTH

QTY/ 10 20 30 35 38 39 50 25 MONTH

04/17/23 35

GIVEN THE FOLLOWING DATA

Px Py Qx

2.50 3.00 6002.75 3.25 6502.75 3.50 7003.00 3.50 650

*Can we compute price elasticity of demand between a price of 2.50 and 2.75? Why orWhy not?

*What is the cross elasticity of demand of X w.r.t Y between price of 3.25 and 3.50*What is its own price elasticity of demand for X between a price of 2.75 and 3.00?*Is X a normal good *Are X& Y substitutes or complements

04/17/23 36

D¹

D¹

D

D

S1

P0 E0

E1

S

S

0

D

D

D

D

S0

S0

S1

S1

0 Q0 Q1

EXPLAIN THE EFFECT OF THE FOLLOWING ON THE DEMAND CURVE.

•ALL SPEED BREAKERS ON MOTORWAYS ARE ABOLISHED : DD CURVE FOR PETROL

•MINIMUM AGE FOR DRIVERS INCREASED TO 21 YRS DD CURVE FOR MOPEDS.

•INSURANCE PREMIUM FOR FIRE ACCIDENTS INCREASED : DO CURVE FOR FIRE ACCIDENTS POLICIES.

S1