Transcript Price Elasticity

Price Elasticity
Or
How MUCH do you change your quantity demand
when prices change?
Can you think of One?

Can you think of just ONE thing that
people might buy the same amount of
no matter what price they were
charged?
 (It
doesn’t matter how high or how low the
price is, people will still buy pretty much the
same amount)
Elasticity of Demand

Elasticity – describes how changes in one
variable affect another variable
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How sensitive is your demand to a change in
price?
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Demand Elasticity – how much does a
change in price cause the quantity demand
to change

Demand can be elastic or inelastic
Types of Elasticity

Perfectly Elastic Demand – very sensitive to a change in
price i.e. a small change in the price can cause a large change
in the quantity demand

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The demand curve will be horizontal (price completely dictates how
much you buy)
P
D
Q
Perfectly Inelastic Demand – not very sensitive to a change
in price i.e. a change in the price (either small or large) will not
cause much of a change in the quantity demand

The demand curve will be vertical (no matter what price you buy the
same amount)
P
D
Q
Factors Affecting Demand
Elasticity

Availability of Substitutes – if there are lots of
substitutes for a good or service, then demand for the
good will be very sensitive to a change in price

Necessities v Luxuries – items that are necessities are
not sensitive to a change in price, we will still continue
to buy the same amount even as price changes

Time – as we have time to seek out substitutes, we
become much more sensitive to a change in the price

Portion of Income – the more of our income it takes to
buy a good, the more sensitive we are to a change in
the price
Total Revenue Test

Total Revenue – the price a seller charges multiplied
by the quantity they sell i.e.

If the price increase leads to a decrease in the total
revenue received by sellers, the demand for the
good is elastic


Meaning, the consumer will buy much less when the price
increases so the revenue earned by the seller falls
If the price increase leads to an increase in the total
revenue received by sellers, the demand for the
good is inelastic

Meaning, the consumer will buy mostly the same amount
when the price increases so the revenue earned by the
seller increases


When the price changes, the effect on
revenue depends upon how much QD
changed
2 Effects:

Price Effect: changes the amount a seller receives



Quantity Effect: changes the quantity demanded
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increases in price raise total revenue
decreases in price lower total revenue
Increases in price lowers quantity demand so total
revenue falls
Decreases in price raise quantity demand so total
revenue rises
Price effect and quantity effect work in
opposite directions

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If price effect > quantity effect, demand is inelastic
If quantity effect > price effect, demand is elastic

To figure out which effect is greater,
look at the numbers…
If prices increase
and total revenue falls
, the demand is elastic
 If prices decrease
and total revenue
increases , demand is elastic
 If prices increase
and total revenue
increases, the demand is inelastic
 If prices decrease
and total revenue falls
, the demand is inelastic

Formulas

Percentage change in the quantity demanded
/ percentage change in the price

Percentage change: (original number – new
number/original number) x 100

If Elasticity is >1, then the demand is elastic
If Elasticity is <1, then the demand is
inelastic
If Elasticity is =1, then the demand is unitary
elastic

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Elasticity of Supply

Elasticity of supply is a measure of how suppliers
react to a change in the price of the good
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In a short time frame, some suppliers do not have
the ability to change the amount they produce when
the price they can charge changes so the supply is
inelastic

In the long run, suppliers have the ability to change
their resources and production capabilities so that
supply can increase or decrease in response to a
change in the price

Supply can become more elastic over time as
suppliers have time to adjust to changes in price.