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Mic 4 Mic 4 Presentation Transcript

  • Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 1
  • CHAPTER 4 Elasticity and its ApplicationMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 2
  • INTRODUCTION TO ELASTICITY Elasticity is an important concept as it is vital and applicable in the daily of households, lives businesses and researchers. Elasticity it is not limited to the concept of demand, supply and income elasticity but also to the concept of growth and development.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 3
  • DEFINITION TO ELASTICITY Elasticity measures the magnitude of responsiveness of any variable to a change in one of the determinant’s factors. For example, quantity demanded or supplied would change if price or income changes.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 4
  • FORMULA OF ELASTICITY • The value of elasticity can be measured by: Elasticity = Percentage change in Quantity Demanded Percentage change in Quantity SuppliedMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 5
  • APPLICATION OF ELASTICITY Policy makers, producers and consumers use elasticity in their daily decision making . Firms use the application of elasticity to determine the substitution of inputs if one of the inputs price goes up. Policy makers use the application of elasticity to determine which factors contribute most to the growth of the Gross Domestic Product (GDP).Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 6
  • TYPES OF ELASTICITY • Price elasticity of demand • Price elasticity of supply • Cross price elasticity • Income elasticityMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 7
  • PRICE ELASTICITY OF DEMAND • Measures how much the quantity demanded of a good responds to a change in the price of that good. • It is computed as a percentage change in quantity demanded divided by a percentage change in price.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 8
  • FORMULA FOR PRICE ELASTICITY OF DEMAND USING THE POINT FORMULA • The point formula is used to calculate the price elasticity of demand between two points on a demand curve. • The formula is shown below: Price elasticity : Percentage Change in Quantity DemandedMicroeconomics Percentage Change in Price Rights Reserved All© Oxford University Press Malaysia, 2008 4– 9
  • FORMULA FOR PRICE, ELASTICITY OF DEMAND USING THE MIDPOINT FORMULA (CON’T)• Computes a percentage change by dividing the change by the midpoint (average) at the initial and endpoint.• The formula is shown below: Q1-Q0 [ (Q1-Q0)/2 ] ∆Q (P0 + P1)/2 = X P1-P0 ∆P (Q0 + Q1)/2 [ (P1-P0)/2 ]Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 10
  • TYPES OF PRICE ELASTICITY OF DEMAND • Elastic, E>1 • Inelastic, E < 1 • Unit Elastic, E = 1 • Perfectly Inelastic, E = 0 • Perfectly Elastic, E = αMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 11
  • FACTORS AFFECTING ELASTICITY OF DEMAND Availability of close substitutes Necessities versus luxuries Market Time horizon Proportion of consumer’s expenditureMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 12
  • PRICE ELASTICITY AND TOTAL REVENUE Inelastic: P ↑ Q ↓ TR ↓ P ↓ Q ↓TR ↓ Elastic : P ↑ Q ↑ TR ↓ P ↑ Q ↓ TR ↓Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 13
  • ELASTICITY OF A LINEAR DEMAND CURVE• At points with low price and high quantity, the demand curve is inelastic. Unitary elasticity is equal to 1• At points with high price and low quantity, the demand curve is elastic.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 14
  • INCOME ELASTICITY OF DEMAND • Measures how much the quantity demanded of a good responds to a change in consumers income. • It is computed as a percentage change in quantity demanded divided by a percentage change in income.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 15
  • FORMULA FOR INCOME ELASTICITY OF DEMAND The formula for income elasticity of demand is shown below: Percentage Change in Income Quantity Demanded elasticity of = demand Percentage Change in IncomeMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 16
  • THE USES OF INCOME ELASTICITY Used to classify goods into luxury goods, normal goods, necessary goods or inferior goods. Used to predict market potential. If one good has a high value income elasticity, the producer can predict an increase and decrease in sales when the elasticity coefficient falls.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 17
  • DEGREES OF INCOME ELASTICITY• EY= 0, perfectly elastic necessary goods• EY >0, elastic, luxury goods• 0 < EY < 1, inelastic, normal goods• EY < 0, negative elastic, inferior goodsMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 18
  • CROSS PRICE ELASTICITY OF DEMAND Measures how the quantity demanded of a good responds to a change in the price of another good. It is computed as a percentage change in quantity demanded of good 1 divided by the percentage change in the price of good 2.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 19
  • FORMULA FOR CROSS PRICE ELASTICITY OF DEMAND The formula for cross price elasticity of demand is shown below: Cross price Percentage change in quantity elasticity of demanded of good 1 demand = Percentage change in price of good 2Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 20
  • DEGREE OF CROSS PRICE ELASTICITYMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 21
  • PRICE ELASTICITY OF SUPPLY Measures how much the quantity supplied of a good responds to a change in price of that good. It is computed as a percentage change in the quantity supplied divided by a percentage change in price.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 22
  • FORMULA FOR PRICE ELASTICITY OF SUPPLY • The formula of price elasticity of supply is shown below: Percentage change in quantity Price elasticity = demanded supplied of supply Percentage change in priceMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 23
  • TYPES OF PRICE ELASTICITY OF SUPPLY Elastic, E >1 Inelastic, E < 1 Unit Elastic, E = 1 Perfectly Inelastic, E = 0 Perfectly Elastic, E = αMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 24
  • FACTORS AFFECTING ELASTICITY OF SUPPLY Flexibility of sellers to produce Time period Technology improvement Availability and mobility of factors of production PerishabilityMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 25
  • APPLICATION OF CONCEPT OFELASTICITY- TAXES AND SUBSIDIES The imposition of tax on goods is an example of government intervention in the market. Subsidies are another example government intervention in the market.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 26
  • BURDEN OF TAXES When the government imposes tax on sellers for each unit of good they sell, the tax imposed will cause customers to buy at different prices than what is received by the sellers. Tax will be a burden to a seller in terms of lower price received for each unit of good sold.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 27
  • EFFECT OF TAX ON THE EQUILIBRIUMMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 28
  • SUBSIDY Subsidy is a direct or indirect payment, economic concession, or privilege granted by a government to private firms, households or other governmental units in order to promote a public objective.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 29
  • BENEFITS OF SUBSIDY • When a subsidy is given to the producer, the cost of producing is reduced. • This means that the supply curve will shift to the right which shows that the equilibrium quantity rises.Microeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 30
  • EFECT OF SUBSIDY ON THE EQUILIBRIUMMicroeconomics All Rights Reserved© Oxford University Press Malaysia, 2008 4– 31