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Elasticity of Demand
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Are there goods that
you would buy, even if
the price were to rise
drastically?
Are there goods that
you would cut back on,
or quit buying if the
price rose?
Elasticity of Demand- a
measure of how
consumers react to a
change in price
http://www.youtube.com/watch?v=VhKI8cOaYLI
Elasticity of Demand Cont’d
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The demand for the good
that you will keep buying
despite the price increase is
inelastic
Inelastic- describes the
demand that is not very
sensitive to change in price
If you buy much less of a
product after a price increase
this is elastic
Elastic describes demand
that is very sensitive to a
change in price
Calculating Elasticity
To compute elasticity of
demand:
■ Take the % change in the
demand of the good
■ Divide this number by the
% of change in the price of
the good
Note: The law of demand
implies that the result will
always be negative. This is
because an increase of
price=decrease in demand
and decrease in
price=increase the
quantity demanded
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A Better View
Price Range
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The elasticity of demand for
a good varies at every level
Price of baked potato
increases 50% from $1.00
to $1.50=price is still pretty
low (people will buy about
the same number)
Price baked potato increases
50% from $10.00 to
$15.00=many spud lover
will refuse to pay $15 for a
baked potato
Differs even though the %
increase was the same
Values of Elasticity
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Elastic & Inelastic have
precise mathematical
definitions
Unit elastic- describes
the demand whose
elasticity is exactly
equal to 1
When elasticity of
demand is unitary, the
% of change in demand
is exactly equal to the
% change in price
Example of Unit Elastic
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Suppose the elasticity
of demand for a $2
magazine at Bill’s
newsstand is unitary
When the price of the
magazine rises by
50% to $3, Bill will sell
exactly half as many
copies as before
Example of Inelastic
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Ron’s demand for my baked
potatoes at $1 is 4 potatoes
per day
If the price increases 50% to
$1.50 the demand decreases
to 3 potatoes per day
25% percent decrease in
demand divided by the 50%
increase gives us an
elasticity demand of 0.5
Ron’s elasticity of demand is
less than one=inelastic
The price increase has a
relatively small effect on the
number of potatoes he buys
Example of Elastic
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Suppose Esteban raises the
price in his gypsy jewelry
from $1 to $1.50
Demand falls from 10
bracelets to 4 bracelets
because of price increase
Change in price=50%
Change in demand for
product=60%
Demand is elastic since the
elasticity of demand is
greater than 1
Availability of Substitutes
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If there are few
substitutes for a good,
then even when its
price rises greatly, you
might still buy it
Example: prescription
drugs=inelastic
Concert tickets=elastic
Relative Importance
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A second factor in
determining a good’s
elasticity is how much
of your budget you
spend on the good
If you spend a large
amount of your income
on the good and the
price goes up, you
have some tough
choices to make
Necessities Versus Luxuries
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The third factor in
determining a good’s
elasticity varies a great
deal from person to
person, but it is
nonetheless important.
Whether a person
considers a good to be a
necessity or a luxury has a
great impact on the good’s
elasticity of demand for
that person
Example: The Rock and
his gym membership
Change Over Time
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Demand is more
inelastic in the short
term
Demand is more elastic
over a long period of
time
Demand for gasoline,
inelastic in the short
term, is more elastic in
the long term
Elasticity and Revenue
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Total revenue- the
total amount of money
a firm receives by
selling goods or
services
If a pizzeria sells 125
slices of pizza per day
ay $2 per slice, total
revenue would be
$250 per day
Elasticity and Revenue
Questions?