Economics 100Economics 100

Lecture 8

Elasticity

ElasticityElasticity

Price elasticity of demandCalculating the price elasticity of

demand

Price Elasticity of DemandPrice Elasticity of Demand

A measure of the responsiveness of the quantity demanded to price holding other things constant

Price Elasticity of DemandPrice Elasticity of Demand

Figure 5.1 (a) shows the case in which a cut in supply increases total revenue

Price Elasticity of DemandPrice Elasticity of Demand

Figure 5.1 (b) shows the case in which that same cut in supply decreasestotal revenue

Price Elasticity of DemandPrice Elasticity of Demand

Whether total revenue increases or decreases with a price change depends on how sensitive the quantity demanded is to a change in price

We would like to derive a measure of that sensitivity...

Price Elasticity of DemandPrice Elasticity of Demand

The slope of a demand curve is a measure of the responsiveness of the quantity demanded of a good to a change in its price, holding constant all other influences on the quantity demanded

Problem: slope depends on units of measurement!!!!!!!!!! (we cannot compare the demand for pizza and the demand for books!!!)

Price Elasticity of DemandPrice Elasticity of Demand

Solution: Price elasticity of demandThe price elasticity of demand is the

percentage change in the quantity demanded of a good divided by the percentage change in its price

Elasticity does not depend on units of measurement!!!

Calculating the Price Elasticity Calculating the Price Elasticity of Demandof Demand

%Q

--------------

%P

Note for ECON 100Note for ECON 100

IN ECON 100 we will calculate percentages of the average price and average quantity to avoid different numbers for a price rise and price fall

This means that we really calculate the elasticity at a point midway between the equilibrium point before and after the price change. Ideally, we would want to calculate it at a single point, with no approximations…

%Q Q/ Qave

------- = -----------

%P P/ Pave

Calculating the Price Elasticity Calculating the Price Elasticity of Demandof Demand

ave

ave

PP

QQP%Q%

Calculating the Price Elasticity Calculating the Price Elasticity of Demandof Demand

50

101402

.

Calculating the Price Elasticity Calculating the Price Elasticity of Demandof Demand

Negative signPrice increase (a positive change in

price) leads to aQuantity decrease (a negative change in

quantity)The formula uses the absolute value of

these changes and does not attach the minus sign to the decrease in quantity

ELASTICITYELASTICITY

Note that the price-elasticity of demand is UNIT-FREE!!!, which is very useful for comparisons!

Between countriesbetween goodsover time

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