QOD #10 Elasticity. 1. Provide an example of something is greatly affected by price?

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1 AGENDA Thurs 9/10 Chapter 3 Free Response Quiz (25 min) QOD #10: Elasticity Price Elasticity of Demand Calculations and Computations Aca Extension handouts HW: Read pp #6,7,8,9

2 QOD #10 Elasticity Why do buyers of some products respond to price increases by greatly reducing their purchases while other products don t cause much change in our spending habits? 1. Provide an example of something is greatly affected by price? 2. What is something that is still purchased even if the price changes drastically? 3. Polling place 4. ACDC Econ

5 Price elasticity of demand Items that are greatly affected by price are elastic. o Sensitive to price changes o Large change in Quantity Write down three from the poll. Items that which consumers pay less attention to price are inelastic. o Insensitve to price changes o Small change in quantity Write down three from the poll.

6 Calculations & Computations E d = percentage change in quantity demanded of product X percentage change in price of product X E d = change in quantity demanded of X original quantity demanded of X change in price of X original price of X

7 Midpoint Formula E d = change in quantity demanded sum of quantity demanded /2 change in price sum of prices/2

8 Practice The price of popcorn reduces from $3 to $2 The quantity changes from 60 units to 100 What is the elasticity? 40/60 =.667 = /3.3 Elastic if E d > 1

9 Advantages of PED Use percentages Unit free measure Compare responsiveness across products Eliminate the minus sign Easier to compare elasticities

10 Interpretation of Elasticity E d > 1 demand is elastic E d = 1 demand is unit elastic E d < 1 demand is inelastic Extreme cases Perfectly inelastic Perfectly elastic

11 Case 1: Elastic Demand and Price Rise 100 basketballs sold at $20 total revenue *Law of demand states that quantity demanded will go down* 85 basketballs sold at $22 total revenue Elastic Demand - Percentage change in quantity demanded MUST fall by more than the percentage rise in price 15% = 1.5 = Elastic Demand 10%

12 Case 2: Elastic Demand and Price Decline 100 basketballs sold at $20 total revenue *Law of demand states that quantity demanded will go up* 115 basketballs sold at $18 total revenue What does this mean for revenue.? 15/100 = 0.15 = 1.5 2/20.1 *When demand is elastic and price falls, REVENUE will always increase. ex: Sales at clothing stores

13 Case 3: Inelastic Demand and Price Rise Demand for basketballs is now inelastic Price goes up to $22 (a 10%) increase in price *Law of Demand says quantity demanded will decrease* But if 95 basketballs are bought, that is a 5% decrease in quantity $20 basketballs, sold 100 $2000 total revenue $22 basketballs, sold 95 total revenue *When items are inelastic and the price goes up, the revenue will go up* EX: Gas at a gas station

14 Case 4: Inelastic Demand and Price Decline Demand for basketballs is still inelastic Price goes down to $18 (a 10%) decrease in price *Law of Demand says quantity demanded will increase* But if 105 basketballs are bought, that is a 5% increase in quantity $20 basketballs, sold 100 $2000 total revenue $18 basketballs, sold 105 total revenue *When an item is inelastic, when the price falls, the revenue falls

15 What determines elasticity?...generally... Substitutability - The greater the number of substitutes, the more elastic the good is ex - Candy bars Proportion of income - The higher the price of a good, relative to a person s income, the greater the elasticity ex - You make $50,000 a year - $500 vs. $500,000 a year - $500 Luxuries v. Necessities - The more luxurious the item, the more elastic it is ex - Vacations and jewelry Time More time available, demand is more elastic ex broken refridgerator, A/C in GA in the summer

16 LO Extreme Cases P D 2 Perfectly elastic demand (Ed = ) 0 Perfectly elastic demand

17 Extreme Cases P D 1 Perfectly inelastic demand (Ed = 0) 0 LO1 Perfectly inelastic demand-immediate period and a famous painiting 4-17

18 LO Total Revenue Test Total Revenue = Price x Quantity Inelastic demand P and TR move in the same direction Elastic demand P and TR move in opposite directions

19 LO Summary of Price Elasticity of Demand Price Elasticity of Demand: A Summary Absolute Value of Elasticity Coefficient Demand Is Description Greater than 1 (E d > 1) Equal to 1 (E d = 1) Less than 1 (E d < 1) Elastic or relatively elastic Unit or unitary elastic Inelastic or relatively inelastic Q d changes by a larger percentage than does price Q d changes by the same percentage as does price Q d changes by a smaller percentage than does price Impact on Total Revenue of a: Price Increase Price Decrease Total revenue decreases Total revenue is unchanged Total revenue increases Total revenue increases Total revenue is unchanged Total revenue decreases

20 VIDEO REVIEWS Elasticity Review Video Measuring Elasticity Review Video

Elasticity. McGraw-Hill/Irwin. Copyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved.

Elasticity. McGraw-Hill/Irwin. Copyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved. 04 Elasticity McGraw-Hill/Irwin Copyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved. LO1 4-2 Price Elasticity of Demand Measures buyers responsiveness to price changes Elastic demand