Transcript Price Elasticity What is it all about

Price Elasticity
What is it all about ?
Situation 1
• You have $15 to spend
• You must spend all your money
• In my “Econ goodies” shop the prices for
my goods are as follows
$3.00
$3.00
$3.00
$3.00
Situation 2. “A new Day”
• Peanut Catastrophe!!!!!!!
Situation 2
• Due to a peanut catastrophe the price of
snickers bars has increased to $4.00 and
all other products prices remain the same.
Econ Goodies
$4.00
$3.00
$3.00
$3.00
Situation 3 “Another Day”
• The peanut catastrophe is resolved
Situation 3
• The peanut catastrophe is resolved and
the price of snickers decreases to original
market price of $3
• Further a university donor has offered
scholarship support to students leading to
an increased income for all. Income = $24
$3.00
Situation 4 “Another new Day”
• The peanut production catastrophe has
returned – the price of snickers increases
to $4.00
• But income remains at $24 as the
university donor keeps offering
scholarships
In two groups of 5
• Determine the market quantities for
situation1 and situation 2
• Construct a market demand curve for
snickers
•How can I calculate a
percentage change in
price???
Well the first thing that we
need to do is work out the
basic change in the price
of the product
Percentage Change Calculation
• We started off with a price of $3 per snickers bar and our
new price was $4.00
• This is a $1.00 rise in price.
• We divide the change in price by the original price and
multiply the answer by 100 to turn it into a percentage
1.00 x 100= +33.33%
3.00
• Bob the Blob’s
Question Time
Help! I got stuck on the
last question when the
price went down.
Okay well it’s nothing to
worry about.
You just keep using
exactly the same
formulae as we did
when the price was
going up! Let’s take a
look at the answer you
should have got.
• We know that in 2006 the price of a Mars Bar was $4.80
and that by 2008 the price had fallen to just $4.00. So
using what we have already learnt, we take away $4.00
from $4.80 and that leaves us with .80c (Hint. You
always take away the smaller number from the larger
number).
• We now divide .80c by the cost of the Mars Bar in 2006,
which was $4.80 and multiply this answer by 100.
• e.g.
.8 x 100 = -16.67%
EASY!!!
•
4.80
• Notice that this time we have a NEGATIVE percentage
change as the price has FALLEN!
• Bob the Blob’s
Question Time
• Here have some
more practice!
Okay I get that now thanks.
How does demand change
if I put my prices up or
down?
Well we are basically
going to do exactly
the same thing as we
did for price. We just
need to change the
information into a
percentage. Let’s
see if you can do this
on your own!
• Look very carefully at your own market demand
tables and see if you can work out the answers
to this question
• Take your time and think about what we have
just covered
• Calculate the percentage change in demand
if the price for Snickers changes from 3.00 to
4.00. Show all of your
working!_______________________________
______________________________________
______________________________________
______________________________________
___________________________
Let’s have a look if you got the
answers right!
• If the price of a Snickers changed from
$4.00 to $3.00 then what happened to
demand?
• So now we know that, all we have to do is
to work out the percentage change in
demand.
• .
Ok, but how can I calculate
the responsiveness of
demand to a given change in
price to any type of product
sold?
This is just, Price Elasticity!!! It
simply uses all of the
calculations that we have used
to help us to work out whether
demand for a product will rise
or fall if we put change the
price and more importantly by
how much demand will rise or
fall!
• PRICE ELASTICITY OF DEMAND
• e.g.
% change in quantity demanded
% change in price
= PeD
• The calculation is really easy to use. You just
need to remember that Quantity is always the
top value and Price is the bottom. Let’s have a
look at how we can use this equation. to help us
decide whether to raise or lower our prices.
TIP. Can’t remember the formula? Try
remembering that you need to Q before
you can have a P!
Example Economics Tee-shirts
PRICE
SUPPLY
DEMAND
$10
0
20
$20
5
15
$30
10
10
$40
15
5
$50
20
0
Let’s imagine that we want to raise our prices from $20 to $40 per Economics Teeshirt. The first thing that we need to do is to calculate both the percentage change
in price and also the percentage change in demand. So......
% Change in Price
40p – 20p
= $20
20
20
x 100 = +100% rise in price
PRICE
SUPPLY
DEMAND
$10
0
20
$20
5
15
$30
10
10
$40
15
5
$50
20
0
% Change in Demand
15 Tee Shirts– 5 Tee Shirts = 10
Tee Shirts
10 x 100
15
= -66.67% fall in demand
for Tee Shirts
So we now use the Price Elasticity
formulae.
e.g. - 66.67% (% change in quantity demanded)= - 0.67
+ 100% (% change in price)
Okay well I got -1.67 for the
cards and -0.60 for the
toothpaste. What does this
mean?
• Great well these are the correct answers so let’s
take a look at their meanings in more detail.
• The actual value of any elasticity calculation is very
important and can tell us a lot about the type of
product and whether it is sensible to raise or lower
the price. Take a look at this diagram below:
0
-1
-1
Inelastic
-0.60
Elastic
-1.67
So that means that the
toothpaste was price
inelastic and the Christmas
cards were price elastic.
• Correct! Any item with an
elasticity value of less than -1
is called inelastic and items
with values greater than -1
are price elastic.
• PRICE ELASTIC If an item is found to be
price elastic then this means that any
percentage change in price will result in a
GREATER percentage change in quantity
demanded
Okay so I should not put my
prices up then because I
can expect a greater
percentage fall in demand!
EXACTLY! Although you might want to
think about lowering your prices as this
will mean a larger percentage increase
in demand!
But what makes a
good price elastic?
• Well the main reason is that there are plenty of
alternatives (SUBSTITUTES) that a consumer can
turn to if your prices become too high for them.
• If we look at Coony’s Christmas Cards, he was
planning on raising the price to $1.20 each. Well the
customer can simply go and buy their cards at
another shop where the prices are cheaper!
• We now know Coony should NOT put up his
Christmas Card prices. If he does, then he can
expect a larger fall in demand and therefore a big
drop in revenue as well!
• On the other hand, he could put his prices of cards
down. This should mean a lot more customers and
higher revenue as well. The problem is, can he cope
with all of the extra demand for cards? He would
certainly need to order more stock!
• PRICE INELASTIC If an item is found to be
price inelastic then this means that any
percentage change in price will result in a
SMALLER percentage change in quantity
demanded.
Okay so if I put my prices up
demand will fall but only by
a little bit....EXCELLENT!
But what makes a good price inelastic?
EXACTLY! If you have an INELASTIC product,
then it is generally not a good idea to think about
lowering your prices as it is unlikely to result in
many more customers buying your product!
But what makes a
good price
inelastic?
• Well the main reason is that there
are VERY FEW alternatives that
a consumer can turn to if your
prices become too high for them.
A good example is petrol. We
still buy it even if prices are high
as we need it to run our cars.
• If we look at Coony’s toothpaste, he was planning on
raising the price to $1.75 each tube. Well the customer
needs toothpaste and whilst they might be able to find
some cheaper brands the basic product has no
alternative!
• We now know Coony CAN put up his toothpaste prices. If
he does, then he can expect the percentage increase in
price to be greater than any fall in demand. This means
that he can make more money!
• He must be careful though, as he cannot keep putting up
prices to very high levels. If he did this, then eventually
the customer will find some alternative product and
demand will fall.
Okay well I think that you
are ready to try answering
the final questions!