Elasticity Elasticity

What is Price Elasticity?When you hear

“Elasticity”… it is referring to Price Elasticity

What is Price Elasticity?When you hear

“Elasticity”… it is referring to Price Elasticity

Elasticity: A measure of the responsiveness of Qd or Qs to a change in Price

There are four types of Elasticity you will need to master for the AP Exam are:

Price Elasticity of Demand Income Elasticity (of Demand) Cross Elasticity (of Demand) Price Elasticity of Supply

Elasticity: A measure of the responsiveness of Qd or Qs to a change in Price

There are four types of Elasticity you will need to master for the AP Exam are:

Price Elasticity of Demand Income Elasticity (of Demand) Cross Elasticity (of Demand) Price Elasticity of Supply

Price Elasticity of Demand Price Elasticity of Demand

Ed = |%∆Qd / %∆P|

If Ed < 1 [Inelastic]If Ed = 1 [Unit Elastic]If Ed > 1 [Elastic]

*answer will naturally be a negative number (due to inverse relationship)… so we take the absolute value to find Ed

Ed = |%∆Qd / %∆P|

If Ed < 1 [Inelastic]If Ed = 1 [Unit Elastic]If Ed > 1 [Elastic]

*answer will naturally be a negative number (due to inverse relationship)… so we take the absolute value to find Ed

Examples of Perfection?Examples of Perfection?

Ed = 0 Ed = ∞Ed = 0 Ed = ∞

DETERMINANTS of DEMAND

Ed tends to be ELASTIC if…

DETERMINANTS of DEMAND

Ed tends to be ELASTIC if… Substitutes are available Product price makes up a larger

portion of the consumer’s income The product is a luxury The consumer has adjustment time

to make changes in behavior, making the product less necessary

Substitutes are available Product price makes up a larger

portion of the consumer’s income The product is a luxury The consumer has adjustment time

to make changes in behavior, making the product less necessary

Visualizing Elasticity Visualizing Elasticity

Relatively ELASTIC Relatively INELASTIC

This type of visual comparison is only useful when the scales are the same (otherwise scales can change the look of a curve)

Relatively ELASTIC Relatively INELASTIC

This type of visual comparison is only useful when the scales are the same (otherwise scales can change the look of a curve)

Income Elasticity (of Demand)Income Elasticity (of Demand)

EI = %∆Qd/ %∆Income

If answer is positive: NORMAL good

If answer is negative: INFERIOR good

EI = %∆Qd/ %∆Income

If answer is positive: NORMAL good

If answer is negative: INFERIOR good

Cross Elasticity (of Demand)Cross Elasticity (of Demand)

Ex,y = %∆Qdx/ %∆Py

If answer is positive: X and Y are SUBSTITUTES

If answer is negative: X and Y are COMPLEMENTS

If answer is zero: X and Y are UNRELATED

Ex,y = %∆Qdx/ %∆Py

If answer is positive: X and Y are SUBSTITUTES

If answer is negative: X and Y are COMPLEMENTS

If answer is zero: X and Y are UNRELATED

Price Elasticity of SupplyPrice Elasticity of Supply

Es = %∆Qs / %∆P

If Es < 1 [Inelastic]

If Es = 1 [Unit Elastic]

If Es > 1 [Elastic]

*answer should never be less than zero

Es = %∆Qs / %∆P

If Es < 1 [Inelastic]

If Es = 1 [Unit Elastic]

If Es > 1 [Elastic]

*answer should never be less than zero

Elasticity of a Straight-Line Demand Curve

Elasticity of a Straight-Line Demand Curve

Use the following data to construct a correctly labeled Demand Curve.

Based on what you know about Elasticity… what is the elasticity of this product?

Use the following data to construct a correctly labeled Demand Curve.

Based on what you know about Elasticity… what is the elasticity of this product?

Price Qd

6 05 14 23 32 41 5

.01 6

If price is decreasing and total revenue is increasing then the product is ELASTIC

_________________

If price is decreases and total revenue decreases then the product is INELASTIC

_________________

If price changes, but total revenue stays the same the product is UNIT ELASTIC

Total Revenue Test [TR=P*Q]Total Revenue Test [TR=P*Q]

Summary: ElasticitySummary: Elasticity

Definition Factors that determine Price Elasticity How to calculate the 4 types of Elasticity How elasticity affects relationships between

goods. Normal vs. Inferior Goods Compliment vs. Substitutes

Using the Total Revenue Test Relationship between…

TR, MR, and point of Ed=0 [preview for next unit]

Definition Factors that determine Price Elasticity How to calculate the 4 types of Elasticity How elasticity affects relationships between

goods. Normal vs. Inferior Goods Compliment vs. Substitutes

Using the Total Revenue Test Relationship between…

TR, MR, and point of Ed=0 [preview for next unit]

Free Response QuestionFree Response QuestionOnce upon a time there was a college student who

had to stay up studying many nights in a row. Soon the student had a caffeine addiction and bought Starbucks coffee. He would buy 35 coffees per semester at $2.00 each. When the student came back in the spring he found coffee to now be $3.00. Due to the income effect, he can no longer afford as many coffees even though he is addicted. He now only buys 20 coffees per semester.

1) Is the Ed elastic or inelastic for Coffee? 2) Calculate the Ed for Coffee for this college

student

Once upon a time there was a college student who had to stay up studying many nights in a row. Soon the student had a caffeine addiction and bought Starbucks coffee. He would buy 35 coffees per semester at $2.00 each. When the student came back in the spring he found coffee to now be $3.00. Due to the income effect, he can no longer afford as many coffees even though he is addicted. He now only buys 20 coffees per semester.

1) Is the Ed elastic or inelastic for Coffee? 2) Calculate the Ed for Coffee for this college

student

Multiple ChoiceMultiple ChoiceIf the price of lunch at the school cafeteria

increases and the cafeteria’s total revenue from lunches remains constant, we can conclude that the elasticity of demand for a school lunch is…

a) Elasticb) Perfectly Elasticc) Perfectly Inelasticd) Unit Elastice) Inelastic

If the price of lunch at the school cafeteria increases and the cafeteria’s total revenue from lunches remains constant, we can conclude that the elasticity of demand for a school lunch is…

a) Elasticb) Perfectly Elasticc) Perfectly Inelasticd) Unit Elastice) Inelastic