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ECONOMICS - ELASTICITY

Topic 3: Elasticities of Demand & Supply

Topic 3: Elasticities of Demand & Supply

Chapter 3 Elasticities of demand and supply
(Chapter 4 Begg et. al, Chapter 3, Turley et. al.) TOPIC 3

The price elasticity of demand
…measures the sensitivity of the quantity demanded of a good to a change in its price It is defined as: % change in quantity demanded % change inprice
Sandra.kelly@itcarlow.ie

Sandra.kelly@itcarlow.ie

Economics Year 1

TOPIC 3 Page 1

Economics Year 1

Topic 3: Elasticities of Demand & Supply

Topic 3: Elasticities of Demand & Supply

The price elasticity of demand
FORMULA Price Elasticity (Point Method)
Q1 = Original quantity Q2 = New quantity P1 = Original price P2 = New price ΔQ = Change in Quantity ΔQ = Change inPrice
Q2 - Q1 Q1 P2 - P1 P1 x 100 x 100 = ΔQ Q ΔP P x 100 x 100

Elastic demand
• Demand is ELASTIC – when the price elasticity is greater than -1
• (often the minus sign is ignored)

NB: YOU WILL NOT BE GIVEN THIS FORMULA IN THE EXAM
Sandra.kelly@itcarlow.ie

– i.e. when the % change in quantity demanded exceeds the % change in price • e.g. if quantity demanded falls by 7% in response to a5% increase in price • elasticity is -7 ÷ 5 = -1.4
Sandra.kelly@itcarlow.ie

TOPIC 3 Page 2

Economics Year 1

TOPIC 3 Page 3

Economics Year 1

Topic 3: Elasticities of Demand & Supply

Topic 3: Elasticities of Demand & Supply

Inelastic demand
• Demand is INELASTIC – when the price elasticity lies between -1 and 0 – i when the % change in quantity i.e. h h h i i demanded issmaller than the % change in price • e.g. if quantity demanded falls by 3.5% in response to a 5% increase in price • elasticity is -3.5 ÷ 5 = - 0.7
Sandra.kelly@itcarlow.ie

Unit elastic demand
• Demand is UNIT ELASTIC – when the price elasticity is exactly -1 – i.e. when the % change in quantity g q y demanded is equal to the % change in price • e.g. if quantity demanded falls by 5% in responseto a 5% increase in price • elasticity is -5 ÷ 5 = -1
Sandra.kelly@itcarlow.ie

TOPIC 3 Page 4

Economics Year 1

TOPIC 3 Page 5

Economics Year 1

SANDRA KELLY, TOPIC 3, BBS

1

ECONOMICS - ELASTICITY

Topic 3: Elasticities of Demand & Supply

Topic 3: Elasticities of Demand & Supply

Price elasticity for a linear demand curve

The price elasticity varies along the lengthof a straight-line demand curve.

What determines the price elasticity?
• The ease with which consumers can substitute another good. • EXAMPLE:
– consumers can readily substitute one brand of detergent for another if the price rises – so we expect demand to be elastic – but if all detergent prices rise, the consumer cannot switch – so we expect demand to be inelastic

D

Elastic

Unitelasticity



Inelastic D

Quantity
Economics Year 1
Sandra.kelly@itcarlow.ie

Sandra.kelly@itcarlow.ie

TOPIC 3 Page 6

TOPIC 3 Page 7

Economics Year 1

Topic 3: Elasticities of Demand & Supply

Topic 3: Elasticities of Demand & Supply

Elasticity is higher in the long run
• In the short run, consumers may not be able (or ready) to adjust their pattern of expenditure. p • Ifprice changes persist, consumers are more likely to adjust. • Demand thus tends to be – more elastic in the long run – but relatively inelastic in the short run.
Sandra.kelly@itcarlow.ie

When price is changed, the impact on a firm’s total revenue (TR) will depend upon the price elasticity of demand.

Elasticity and revenue
For a price increase Demand is elastic Demand is unit elasticDemand is inelastic TR decreases For a price decrease TR increases

TR does not TR does not change change TR increases
TOPIC 3 Page 9

TR decreases
Economics Year 1

TOPIC 3 Page 8

Economics Year 1

Sandra.kelly@itcarlow.ie

Topic 3: Elasticities of Demand & Supply

Topic 3: Elasticities of Demand & Supply

Elasticity and price reductions
D Elastic
Unit elasticity

Elasticity...
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