Elasticity2
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This document discusses different types of elasticities, including price elasticity of demand, income elasticity of demand, cross elasticity of demand, and price elasticity of supply. It provides definitions and examples of each type of elasticity, including how total expenditure relates to price elasticity of demand. Tables and graphs are included to illustrate these concepts.
Elasticity2
- 2. Total expenditure and Price Elasticity of Demand There is an important relationship between Price Elasticity of Demand and Total Expenditure (Revenue). def: Total expenditure (TR) = Price X Quantity
- 3. Total expenditure and Price Elasticity of Demand • if demand is elastic, expenditure increases as price falls , • if demand is inelastic, expenditure increases as price rises .
- 4. Table #1 Sample Demand Schedule pt. QD TR A 6 1 $6 B 5 2 $10 C 4 3 $12 D 3 4 $12 E 2 5 $10 F P 6 1 $6
- 5. A-B = -11/3 B-C = -9/5 C-D = -1 D-E = -5/9 E-F = -3/11
- 7. Notice the relationship between price elasticity of demand and total expenditure: • From B-C, the price elasticity of demand was -9/5 (therefore, demand is elastic since the absolute value of -9/5 is greater than 1). Also, from B-C, total expenditure increased as price fell.
- 8. • Now refer back to the table above and see the following relationships: • When demand is elastic, total expenditure rises as price falls (see A-B or B-C) • When demand is unit elastic, total expenditure is at its maximum, and does not change when price changes (see C-D) • When demand is inelastic, total expenditure rises as price rises (see E-D or F-E)
- 9. Price (dollars per TV) Demand and Total Expenditure Expenditure loss 400 elasticity = 0.6 300 200 Expenditure gain 100 Db 40 60 80 120 Quantity (millions of TVs per year)
- 10. Elasticity and Expenditure • Elastic demand — 1 % price decrease results in more than a 1 % increase in quantity. • Total expenditure will increase
- 11. Elasticity and Expenditure • Inelastic demand — 1 % price decrease results in less than a 1 % increase in quantity. • Total expenditure will decrease
- 12. Elasticity and Expenditure • Unit elastic demand — 1 % price decrease results in a 1 % increase in quantity. • Total expenditure does not change
- 13. Income Elasticity of Demand
- 14. Income Elasticity of Demand • Normal Goods - A good is a normal good if its income elasticity is positive. This means that when income rises, quantity demanded rises - most goods are normal goods. Also, as shown below, there are different types of normal goods:
- 15. Income Elasticity of Demand • Necessity Goods - A good is a necessity if its income elasticity is positive, but less than 1. This means that if income rises by 10%, quantity demanded rises by less than 10% therefore, as people's income rises, they spend a smaller percentage of their income on necessities. • Luxury Goods - A good is a luxury good if its income elasticity is positive, and greater than 1. This means that if income rises by 10%, quantity demanded rises by more than 10% - therefore, people spend more of their income on luxuries when they have larger incomes
- 16. Income Elasticity of Demand • Inferior Goods - A good is an inferior good if its income elasticity is negative. This means that when income rises, quantity demanded falls.
- 17. Cross Elasticity of Demand Cross elasticity of demand= Percentage change in quantity demanded of good X Percentage change in price of good Y Complements have negative cross elasticities. Suplements have positive cross elasticities .
- 18. Price Elasticity of Supply
- 19. Determinants of Price Elasticity of Supply • The ability of producers to change output - the easier it is for producers to alter their output, the more elastic will be the supply of a product. • Time Horizon - The price elasticity of supply for most products is more elastic in the longrun than in the short-run. This is because a longer time horizon gives producers more opportunity to alter their output of a good.