Price elasticity of demand (PED) shows the relationship between price and quantity demanded and provides a precise calculation of the effect of a change in price on quantity demanded.

Published on: **Mar 4, 2016**

Published in:
Economy & Finance

- 1. Prepared by: Prof. Ali Fallahchay
- 2. Learning Outcomes β’ Price Elasticity of Demand and Types of Elasticity β’ Calculating Elasticities: Arc, Point, Cross-price, Income and Supply β’ Elasticity and Total Revenue β’ Determinants of Demand Elasticity
- 3. Price Elasticity β’ Elasticity β measures the degree of responsiveness in the quantity per unit of time to a change in any one of the factors of demand or supply. β’ Price Elasticity β measures the relative responsiveness in quantity demanded to a change in price. π π = % πβππππ ππ ππ’πππ‘ππ‘π¦ % πβππππ ππ πππππ π π = βπ π βπ π = - Q2 β Q1 x P1 P2 β P1 Q1
- 4. Elastic Demand Diagram π π>1
- 5. Inelastic of demand π π<1
- 6. Unit-elastic or Unitary
- 7. Perfectly Elastic π π = β
- 8. Perfectly inelastic π π = 0
- 9. Question and Answer Q1: At a price of Php11.00, quantity demanded is 90; and at a price of Php9.00, quantity demanded is 110. The price elasticity of demand is: a. 0.1 b. -0.82 c. -1.22 d. -1 e. 0
- 10. Interpretation of Elasticity of Demand β’ Ed > 1 demand is elastic β’ Ed = 1 demand is unit elastic β’ Ed < 1 demand is inelastic β’ Extreme cases β’ Perfectly inelastic β’ Perfectly elastic LO1
- 11. Arc Elasticity π π = π π = β(Q2 β Q1) x (P2 + P1)β β(P2 - P1) (Q2 + Q1)β
- 12. Example 1: Point Px Qx A 16 0 B 14 2000 C 12 4000 D 10 6000 F 8 8000 G 6 10000 H 4 12000 L 3 14000 M 0 16000
- 13. Question and Answer Q2:Find the ππ for a movement from point B to point C Q3:Find the ππ for a movement from point C to point D
- 14. Total Revenue Test β’ Total Revenue = Price X Quantity β’ Inelastic demand β’ P and TR move in the same direction β’ Elastic demand β’ P and TR move in opposite directions LO2
- 15. Price Elasticity of demand and Total RevenueP Q TR = P x Q 10 1 10 9 2 18 8 3 24 7 4 28 6 5 30 5 6 30 4 7 28 3 8 24 2 9 18 1 10 10 Example 2
- 16. Total Revenue Test LO2 $3 2 1 0 10 20 30 40 Q P a b D1 β’ Lower price and elastic demand β’ Blue gain exceeds orange loss
- 17. Total Revenue Test LO2 $4 3 2 1 0 10 20 Q P c d D2 β’ Lower price and inelastic demand β’ Orange loss exceeds blue gain
- 18. Total Revenue Test LO2 $3 2 1 0 10 20 30 Q P e f D3 β’ Lower price and unit elastic demand β’ Blue gain equals orange loss
- 19. Price Elasticity and Total RevenueELASTICITY IMPLICATIONS Elastic As price decreases, quantity demanded and total revenue increases. Inelastic As price decreases, quantity demanded increases, but total revenue decreases Unitary As price decreases, the increase in quantity demanded exactly offsets it, and total revenue is constant
- 20. Cross Elasticity of Demand β’ Measures responsiveness of sales to change in the price of another good β’ Substitutes β positive sign β’ Complements β negative sign β’ Independent goods - zero LO4 Percentage change in quantity demanded of product X Ex,y = Percentage change in price of product Y
- 21. Cross Elasticity of Demand β’ Application β’ Change the price? β’ Allow a merger? LO4
- 22. Cross Elasticity βQx Qx βPx Py Qx2 βQx1 Py2 βPy1 x Py1 Qy1 Before After Commodity P Q P Q Product Y 80 600 60 800 Product X 40 400 40 300 Product Z 100 20 120 18 Product X 40 400 40 360 CROSS ELASTICITY OF DEMAND
- 23. ELASTICITY Category of Goods INTERPRETATION Positive Substitute Goods are substitutes for one another Negative Complements Goods are consumed together Zero Independents Goods are not related in consumption
- 24. Income Elasticity of Demand β’ Measures responsiveness of buyers to changes in income β’ Normal goods β positive sign β’ Inferior goods β negative sign LO4 Percentage change in quantity demanded Ey = Percentage change in income
- 25. Simplified formula ey = % πβππππ ππ π % πβππππ ππ π ey = Ξπ/π Ξπ/π ey = π2 β π1 x π1 π2 β π1 π1
- 26. ELASTICITYODS CATEGORY OF GOODS INTERPRETATION Positive Superior Consumption of the good varies directly with income Negative Inferior Consumption of the good varies inversely with income Zero Independent Consumption of the good does not vary with income
- 27. Price Elasticity of Supply β’ Measures sellersβ responsiveness to price changes β’ Elastic supply, producers are responsive to price changes β’ Inelastic supply, producers are not responsive to price changes LO3
- 28. Price Elasticity of Supply β’ Formula to compute elasticity β’ Es > 1 supply is elastic β’ Es < 1 supply is inelastic LO3 Percentage Change in Quantity Supplied of Product X Percentage Change in Price of Product X Es =
- 29. Price Elasticity of Supply β’ Time is primary determinant of elasticity of supply β’ Time periods considered β’ Market period β’ Short Run β’ Long Run LO3
- 30. Elasticity of Supply: The Market Period LO3 P Q β’ Perfectly inelastic supply D1 D2 Sm Q0 Pm P0
- 31. Elasticity of Supply: The Short Run LO3 β’ Supply is more elastic than in market period P Q D1 D2 Ss Q0 Ps P0 Qs
- 32. Elasticity of Supply: The Long Run LO3 β’ Supply is even more elastic than in the short run P Q D1 D2 Sl Q0 Pl P0 Ql
- 33. Applications of Elasticity of Supply β’ Antiques οΌInelastic supply β’ Reproductions οΌMore elastic supply β’ Volatile gold prices οΌInelastic supply LO3