Elasticity of Demand

1. chapter nine: The Concept of Elasticity part two: microeconomics

8. ELASTICITY OF DEMAND Algebraically, the relationship may be expressed as: The mathematical symbol Δ (delta) means “change in.” This algebraic formulation is shown geometrically at left.

9. ELASTICITY OF DEMAND The calculation of the elasticity of demand with respect to price for a move from point A to point B:

10. ELASTICITY OF DEMAND Elasticity of demand coefficient for a move from point B to point A.

11. ELASTICITY OF DEMAND We can modify our basic elasticity formula to eliminate the discrepancy arising from selecting either of the two endpoints of the arc as the initial situation.

12. ELASTICITY OF DEMAND The calculation for our example.

13. ELASTICITY OF DEMAND If the value of the demand elasticity coefficient is between zero and -1 then demand is inelastic . If the value of the coefficient is less than -1, or absolute value is greater than 1), demand is elastic . If the elasticity coefficient should be exactly equal to -1 elasticity is said to be unitary .

17. ELASTICITY OF DEMAND - Some Special Cases The same quantity will be demanded no matter what the price happens to be. The demand function is perfectly vertical. Largely theoretical, but the demand for an item that normally represents a small part of the total budget and is an absolute necessity — such as table salt, or insulin — will approach this situation.

19. ELASTICITY OF DEMAND - Some Special Cases The manager cannot affect price received, no matter how much is sold. The market will absorb any quantity offered at the prevailing price. This approximates the conditions under which most farmers sell their products, thus, perfectly elastic demand is an important concept in the area of agricultural microeconomics.

21. Elasticity of Demand Related to Total Revenue Price reductions in the elastic range of the demand curve are associated with increases in the total revenue.

22. Elasticity of Demand Related to Total Revenue Price reductions in the inelastic range are associated with reductions in total revenue.

23. Elasticity of Demand Related to Total Revenue When elasticity is unitary, total revenue is at its maximum, as shown here, graphically. That portion of a straight line demand curve which lies to the left of the midpoint is elastic with respect to price. The portion to the right of the midpoint is inelastic. At the midpoint, demand is unitarily elastic.

30. CROSS-PRICE ELASTICITY Shown here is the relationship of quantities of sausage that consumers will consume and alternative prices for sausage, ceteris paribus. An important ceteris paribus condition for the sausage market is the price of bacon. The sausage demand curve shown in black is drawn for a bacon price of $2.00/lb, and labeled B = 2.

31. CROSS-PRICE ELASTICITY What would happen in the sausage market if the price of bacon rose to $3.00/lb? Consumers would substitute sausage for bacon in their morning diet, consuming a larger quantity of sausage at every sausage price. This would result in a demand shift in the sausage market, caused by the price change in bacon. The new demand curve is shown in blue and is labeled B = 3

32. CROSS-PRICE ELASTICITY For any given sausage price of sausage, such as P s , the sausage quantity demanded has increased from Q 2 to Q 3 . The amount of increased sausage consumptions associated with an increase in the price of bacon is measured with a cross-price elasticity coefficient.

33. CROSS-PRICE ELASTICITY To examine consumption of beef as the price of pork is changed, divide the rate of change in the quantity of beef purchased by the rate of change in the price of pork: … which may be modified into an operational form, using midpoints: