Professional Documents
Culture Documents
PGP-I
Session 5
Price Elasticity
Elasticity
Elasticity
--Measure
Measureof
ofthe
theresponsiveness
responsivenessof
ofquantity
quantity
demanded
demandedor
orquantity
quantity supplied
supplied
--To
Toaachange
changein
inone
oneof
ofits
itsdeterminants
determinants
Price
Priceelasticity
elasticityof
ofdemand
demand
How
Howmuch
muchthe
thequantity
quantitydemanded
demanded of
ofaagood
good
responds
respondsto
toaachange
changein
inthe
theprice
priceof
ofthat
thatgood
good
Price Elasticity
Price
Priceelasticity
elasticityof
ofdemand
demand
Percentage
Percentagechange
changein
inquantity
quantity demanded
demandeddivided
dividedby
by
the
thepercentage
percentagechange
changein
inprice
price
Elastic
Elasticdemand
demand
Quantity
Quantity demanded
demandedresponds
respondssubstantially
substantiallyto
to
changes
changesin
inprice
price
Inelastic
Inelasticdemand
demand
Quantity
Quantity demanded
demandedresponds
respondsonly
onlyslightly
slightlyto
to
changes
changesin
inprice
price
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Price Elasticity
Defined:
Q,P
=( ) = ( )()
Q,P= ( ) = ( ) ( )
Price Elasticity
Price Elasticity
Key Characteristics:
When a one percent change in price leads to a greater than
one-percent change in quantity demanded, the demand curve
is elastic.
When a one-percent change in price leads to a less than
one-percent change in quantity demanded, the demand curve
is inelastic.
When a one-percent change in price leads to an exactly onepercent change in quantity demanded, the demand curve is
unit elastic.
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Where:
a and b are positive constants
P is price
b is the slope
a/b is the choke price(price at which
quantity demanded falls to zero)
Elasticity is:
Q,P = ( )( ) = b( )
a/b
Q,P = -
Elastic region
a/2b
Q,P
= -1
Inelastic region
Q,P = 0
a/2
a
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Price
Price
1. An
increase in
price
Demand
$5
$5
2. leaves
the quantity
demanded
unchanged
100
Quantity
2. leads
to an 11%
decrease in
quantity
demanded
1. A 22%
increase
in price
Demand
90 100
Quantity
The price elasticity of demand determines whether the demand curve is steep or flat.
Note that all percentage changes are calculated using the midpoint method.
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1. A 22%
increase
in price
$5
4
2. leads to a 22%
decrease in quantity
demanded
0
80
100
Quantity
The price elasticity of demand determines whether the demand curve is steep or flat.
Note that all percentage changes are calculated using the midpoint method.
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Elasticity > 1
Elasticity = Infinity
Price
1. A 22%
increase
in price
$5
Demand
$4
2. leads to a
67% decrease in
quantity
demanded
0
50
100
Quantity
2. At exactly $4,
consumers will
buy any quantity
Demand
3. At a price
below $4, quantity
demanded is infinite
0
Quantity
The price elasticity of demand determines whether the demand curve is steep or flat.
Note that all percentage changes are calculated using the midpoint method.
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Price Elasticity
Value of
0
Demand Curve
Classification
Meaning
Between 0
and -1
Inelastic Demand
-1
Unitary Elastic
Demand
% change in Quantity
Demanded is equal to %
change in Price
Elastic Demand
Quantity Demanded is
relatively sensitive to Price
Relatively
Flatter
Perfectly Elastic
Demand
Any increase(decrease) in
Price results in Quantity
Demanded decreasing
(increasing)to zero(infinity)13
Horizontal
Between -1
and -
-
Quantity Demanded is
relatively insensitive to Price
Vertical
Relatively
Steeper
Mid-Point of
Linear Demand
TR falls
Demand is inelastic
Fall in Q < Rise in P
TR rises
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Durable Goods
Defined:
Income Elasticity
How much the quantity demanded of a good responds to a
change in consumers income
Percentage change in quantity demanded brought about by a
one-percent change in income.
Normal goods : Positive income elasticity
1. Necessities : Smaller income elasticity
2. Luxuries : Large income elasticity
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Cross-Price Elasticity
How much the quantity demanded of one good responds to a
change in the price of another good
Percentage change in quantity demanded of one good brought
about by a one-percent change in the price of the other good.
Substitutes
- Goods typically used in place of one another
- Positive cross-price elasticity
Complements
- Goods that are typically used together
- Negative cross-price elasticity
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Elasticity of Supply
How much the quantity supplied of one good responds to a
change in the price
Percentage change in quantity supplied brought about by a
one-percent change in the price.
Supply is perfectly inelastic
Price elasticity of supply = 0
Supply curve vertical
Supply is perfectly elastic
Price elasticity of supply = infinity
Supply curve horizontal
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