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Do Now
1.
Think back to your budget project. What items or services
would you cut back on if the price suddenly went up by 50%?
2.
How would a raise in price of gas from $3.75/gallon to
$4.25/gallon affect your demand for gas if you had to drive
yourself to work and school everyday, but could not find
someone to share the ride with you?
Elasticity of Demand
What factors effect elasticity of demand?
Elasticity of Demand
 Elasticity of Demand is a measure of how
consumers respond to price changes
 Measures how drastically buyers will cut back
or increase their demand for a good when the
price rises or falls
Elastic/Inelastic
 If you buy the same amount or just a little bit less of a good after
a large price increase, your demand is Inelastic (price changes
don’t matter)
 If you buy much less of a good after a small price increase, your
demand is Elastic (very responsive to price changes)
Factors that Affect Elasticity
Availability of Substitutes
1.
-
If there are few substitutes for a good, then even when its price
rises greatly, you might still buy it – you believe there are no
good alternatives: your demand is inelastic
Factors that Affect Elasticity
2.
Relative Importance
- How much of your budget do you spend on the good? The
higher the jump in price, the more you will have to adjust
your purchases
Factors that Affect Elasticity
3.
Necessities v. Luxuries
- a necessity is a good people will always buy, even when the price
increases (demand is inelastic)
ex: milk
- a luxury can easily be given up (demand is elastic)
ex: steak
Factors that Affect Elasticity
4.
Change over Time
- Consumers often need time to change their spending habits,
because it takes time to find substitutes
ex: gas
Elasticity and Revenue
 Total Revenue is the amount of money the
company receives by selling its goods
 Determined by 2 factors:
 Price of goods
 Quantity of goods sold
Total Revenue & Elastic Demand
 When a good has an elastic demand, raising the price of each
good sold by 20% can decrease the quantity sold by enough to
reduce the firm’s total revenue (setting prices too high/low can
hurt $$)
Price of a Slice of Pizza
Quantity Demanded (per day)
Total Revenue
$1.00
300
$300.00
$2.00
250
$500.00
$3.00
200
$600.00
$4.00
150
$600.00
$5.00
100
$500.00
$6.00
50
$300.00
Total Revenue & Inelastic Demand
 When demand is inelastic, price and total revenue move in
the same direction
 An increase in price raises total revenue
 A decrease in price reduces total revenue
Elasticity and Revenue
ELASTIC DEMAND
As the
price is
lowered…
Total
revenue
rises
As the
Total
price is
raised… revenue
falls
INELASTIC DEMAND
As the
price is
lowered
Total
revenue
falls
As the
price is
raised..
Total
revenue
rises
Sum it up
Effect of a Price Change on Quantity Demanded
INELASTIC DEMAND
ELASTIC DEMAND
•Not sensitive to price
change
•Substitutes not available
•Less of income spent on
good
•Seen as necessity
•No time to react in the
short term
•Very sensitive to price
change
•Substitutes available
•More of income spent on
good
•Seen as luxury
•Substitutes can be found
in the long term