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Unit 3: Elasticity - Coggle Diagram
Unit 3: Elasticity
Lesson 1: Price Elasticity of Demand and Total Revenue Test
Recap: Law of demand: other things being equal, consumers will buy more of a product when its price declines and less when it increases.
Price-Elasticity Coefficient and Formula:
Ed = Percentage change in quantity demanded of product X percentage change in price of product X
Uses averages
Uses percentages
Eliminates minus sign
The demand for such a products are
relatively elastic
or simply
elastic
Consumers responsiveness (or sensitivity) to a price change is measured by a products
price elasticity of demand
Modest price changes cause very large changes in the quantity purchased.
Interpretations of Ed
Elastic demand
Demand is elastic when Ed will be greater than 1
Inelastic demand
Demand is inelastic when Ed will be less than 1
Unit Elasticity
This is when Ed is exactly 1
Perfect inelastic
The price elasticity coefficient is zero because there is no response to a price change. (A line parallel to the vertical axis)
Perfectly elastic
where a small price reduction causes buyers to increase their purchases from zero to all the can obtain, the elasticity coefficient is infinite.
Total Revenue Test
Elastic demand
a decrease in price increases total revenue
an increase in price reduces total revenue
Inelastic demand
a decrease in price decreases total revenue
an increase in price increases total revenue
Unit elasticity
An increase or a decrease in price leaves total revenue unchanged.
Lesson 2: Determinants of Price Elasticity of Demand and Price Elasticity of Supply
Substitutability
the more substitute goods that are available, the greater the price elasticity of demand.
Proportion of income
the higher the price of a good relative to consumers incomes, the greater the price elasticity of demand.
Luxuries versus necessities
Price elasticity of demand is higher for luxury goods than it is for neccessities.
Time
Product demand is more elastic over longer time periods.
Price Elasticity of Supply
Price elasticity also applies to supply. If the quantity supplied by producers is relatively responsive to price changes, supply is elastic. If it is relatively insensitive to price changes, supply is inelastic.
The immediate market period
is the length of time over which producers are unable to respond to a change in price with a change in quantity supplied.
The short run
is a period of time too short to change plant capacity but long enough to use the fixed plant more intensively or less intensively. The equilibrium price is therefore lower in the short run than in the immediate market period.
The long run
is a time period long enough for firms to adjust their plant sizes and for new firms to enter (or existing firms to leave) the industry.
There is
NO TOTAL-REVENUE TEST
for supply. Supply shows a positive or direct relationship between price and amount supplied, the supply curve slopes upward. Regardless of the degree of elasticity of inelasticity, price and total revenue always move together
Lesson 3: Cross Elasticity of Demand and Income Elasticity of Demand
The
cross elasticity of demand
measures the sensitivity of consumer purchases of one product to a change in the price of some other product. The coefficient of cross elasticity of demand can be either positive or neagative.
Substitute goods
: if cross elasticity is positive
Complementary goods
: if cross elasticity is negative
Independent goods
: suggests that the two products are unrelated or independent
Income Elasticity of demand
Normal goods
- the income-elasticity coefficient is E1
Inferior goods
- the negative income-elasticity coefficient designates an inferior good.
