AP Micro Elasticity

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AP Micro Elasticity

  1. 1. 20 CHAPTER Elasticity of Demand & Supply
  2. 2. I WOULD LIKE TO TALK TO YOU TODAY ABOUT TWO PRODUCTS.
  3. 3. Source: American Diabetes Association
  4. 4. Now you say to yourselves again, what do bicycles and insulin have in common?
  5. 5. Insulin Bicycles $100 $300 $3 $200 $2 $100 $1 20 M 100 200 500
  6. 6. Insulin Bicycles Cannot be Can be delayed delayed
  7. 7. Insulin Bicycles Few substitutes Many Substitutes Cannot be delayed Can be delayed
  8. 8. Insulin Bicycles Few substitutes Many Substitutes Cannot be delayed Can be delayed Inexpensive expensive
  9. 9. Insulin Bicycles $100 $300 $3 $200 $2 $100 $1 20 M 100 200 500 4. The total receipts test: Price X Quantity = Revenue P X Q = Revenue P X Q = Revenue $3 X 20 m = $ 60,000,000 $300 X 100 =$ 30,000 $2 X 20 m =$ 40,000,000 $200 X 200 =$ 40,000 $1 X 20 m =$ 20,000,000 $100 X 500 =$ 50,000
  10. 10. POP IS ELASTIC!
  11. 11. INELASTICITY OF MILK
  12. 12. ELASTIC OR INELASTIC (TOTAL RECEIPTS TEST) $2 $1 Inelastic Elastic 20 30 40 50 Total Receipts Test Total Receipts Test 20 x $2 = $40.00 20 x $2 = $40 30 x $1 = $30.00 50 x $1 = $50
  13. 13. Elastic Demand 1. Substitutes(butter) 2. Luxury (mink coat) 3. Expensive (car) 4. Has durability (refrigerator) Inelastic Demand 1. No substitutes (milk) 2. Necessity (insulin) 3. Inexpensive (safety pin) 4. No durability (pencil)
  14. 14. Elastic Demand For Cassette Tapes “TR” Test $2.50x100,000=$250,000 D $1.50x600,000=$900,000 +$650,000 -$1 .
  15. 15. ELASTIC DEMAND FOR CASSETTE TAPES Total Receipts Test $2.50=$250,000 “TR” Test $1.50=$900,000 $2.50x100,000=$250,000 + $650,000 D $1.50x600,000=$900,000 +$650,000 -$1
  16. 16. D “TR” Test $2 = $30 bil. $1 = $20 bil. -$10 bil. -$1 +25% QD
  17. 17. ELASTIC OR INELASTIC DEMAND Elastic or Inelastic Demand Elastic Inelastic
  18. 18. ESTIMATING THE ELASTICITY OF DEMAND 3 KEY QUESTIONS: 1. SUBS? 2. NECESSITY? 3. EXPENSIVE?
  19. 19. PRICE ELASTICITY OF DEMAND Think About It... THE LAW OF DEMAND SAYS... Consumers will buy more when prices go down and less when prices go up HOW MUCH MORE OR LESS? DOES IT MATTER? to whom? Price Elasticity Provides an Answer
  20. 20. PRICE ELASTICITY OF DEMAND Measures Responsiveness to Price Changes P The percentage change in quantity The percentage change in price .01 P2 .02 P1 D Elasticity is .5 Q2 Q1 Q
  21. 21. PRICE ELASTICITY OF DEMAND Commonly Expressed as… P The percentage change in quantity The percentage change in price %Q d P2 % P P1 D Elasticity is .5 Q2 Q1 Q
  22. 22. PRICE ELASTICITY OF DEMAND The Price-Elasticity Coefficient and Formula Percentage change in quantity demanded of product X Ed Percentage change in price = of product X Or equivalently… change in quantity demanded of X Ed Original quantity demanded of X =  Change in price of X Original price of X Elimination of the Minus Sign
  23. 23. PRICE ELASTICITY OF DEMAND Interpretations of Ed Elastic Demand .04 Ed =2 = .02 Inelastic Demand .01 Ed = .5 = .02 Unit Elasticity .02 Ed =1 = .02
  24. 24. PRICE ELASTICITY OF DEMAND Extreme Cases Perfectly Inelastic Demand P D1 Ed = 0 0 Q Perfectly Elastic Demand P D2 Ed =  0 Q
  25. 25. PRICE ELASTICITY OF DEMAND Refinement – The Midpoint Formula Change in Change in  quantity price Ed = Sum of Sum of Quantities/2 prices/2
  26. 26. PRICE ELASTICITY & TOTAL REVENUE When prices are So is total revenue low, P TR D Q Quantity Demanded
  27. 27. PRICE ELASTICITY & TOTAL REVENUE Total revenue rises with price to a P point... TR D Q Quantity Demanded
  28. 28. PRICE ELASTICITY & TOTAL REVENUE Total revenue rises then declines with price to a P point... TR D Q Quantity Demanded
  29. 29. PRICE ELASTICITY & TOTAL REVENUE Total revenue rises then declines with price to a P point... TR D Q Quantity Demanded
  30. 30. PRICE ELASTICITY & TOTAL REVENUE Total revenue rises then declines with price to a P point... TR Total Revenue Test D Q Quantity Demanded
  31. 31. PRICE ELASTICITY & TOTAL REVENUE Total revenue rises then declines with price to a P point... TR Inelastic Demand D Inelastic Demand Q Quantity Demanded
  32. 32. PRICE ELASTICITY & TOTAL REVENUE Total revenue rises then declines with price to a P point... TR Elastic Demand Inelastic Demand D Elastic Inelastic Demand Demand Q Quantity Demanded
  33. 33. PRICE ELASTICITY & TOTAL REVENUE Total revenue rises then declines with price to a P point... TR Elastic Unit Elastic Demand Inelastic Demand D Elastic Inelastic Demand Demand Q Quantity Demanded
  34. 34. PRICE ELASTICITY & TOTAL REVENUE Price Elasticity is... Inelastic from 0 to 1 Typical of necessities one must have Elastic from 1 to  Typical of luxuries one wants Unit elastic when exactly = 1 Price change does not reduce total revenue
  35. 35. DETERMINANTS OF PRICE ELASTICITY OF DEMAND Applications... Excise Taxes Decriminalization of Illegal Drugs Minimum Wage
  36. 36. PRICE ELASTICITY OF SUPPLY Percentage change in quantity supplied of good X Es= Percentage change in the price of good X Now, compare the immediate market period, the short-run, and long run...
  37. 37. PRICE ELASTICITY OF SUPPLY Immediate Market period P Sm An increase in demand without enough time to change supply causes… Po D1 Qo Q
  38. 38. PRICE ELASTICITY OF SUPPLY Immediate Market period P Sm An increase in demand without enough time to change supply Pm causes… an increase in price Po D2 D1 Qo Q
  39. 39. PRICE ELASTICITY OF SUPPLY Short Run P Ss An increase in demand with less intensity supply use causes... Po D1 Qo Q
  40. 40. PRICE ELASTICITY OF SUPPLY Short Run P Ss An increase in demand with less intensity Ps supply use causes...a lower Po increase in price D2 D1 QoQs Q
  41. 41. PRICE ELASTICITY OF SUPPLY Long Run An increase in P demand in the long run allows greater change causing... SL Po D1 Qo Q
  42. 42. PRICE ELASTICITY OF SUPPLY Long Run An increase in P demand in the long run allows greater change causing... SL PL Even more elastic Po response - less price increase D2 D1 Qo QL Q
  43. 43. PRICE ELASTICITY OF SUPPLY Applications of Price Elasticity of Supply Antiques and Reproductions Volatile Gold Prices
  44. 44. CROSS ELASTICITY OF DEMAND Percentage change in quantity demanded of good X Exy = Percentage change in the price of good y Positive Sign Goods are Substitutes Negative Sign Goods are Complementary Zero or Near-Zero Value Goods are Independent
  45. 45. INCOME ELASTICITY OF DEMAND Percentage change in quantity demanded Ei = Percentage change in income Positive Sign Goods are Normal or Superior Negative Sign Goods are Inferior
  46. 46. price elasticity of total-revenue test demand price elasticity of elastic demand supply inelastic demand market period short run unit elasticity long run perfectly inelastic cross elasticity of demand demand perfectly elastic income elasticity of Copyright McGraw-Hill/Irwin, 2005 BACK END
  47. 47. Next: Chapter 21 Consumer Behavior and Utility Maximization

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