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Elasticity: a measure of the sensitivity of one variable to changes in another variable.
Elasticity = % change in dependent variable % change in independent variable
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Elasticity Quiz
Types of Elasticity• Price elasticity of demand• Income elasticity of demand• Cross elasticity of demand• Price elasticity of supply
Price Elasticity of Demand
Dependent variable = quantity demandedIndependent variable = price
Price elasticity of demand: measures the percentage change in demand for a product following a change in its price.
Ped = % change in quantity demanded % change in price PED = % Q % P
5 possible values for PED…
1. If % ∆ Q > % ∆ P ratio will be GREATER THAN 1 product is ELASTIC
E.g. a 20% rise in the price tomatoes (R1 - R1.20) leads to a larger fall in quantity demanded from 150 units to 100 (50%)
Calculate the PED…
2. If % ∆ Q < % ∆ P ratio will be LESS THAN 1 product is INELASTIC
E.g. a 50% rise in price from R10 to R15 leads to a smaller fall in sales (demand) form 100 units to 80 (20%).
Calculate the PED…
3. If % ∆ Q = % ∆ P ratio will be EQUAL TO 1 product is UNIT ELASTIC
E.g. price increases by 50%, demand decreases by 50%.
Calculate the PED…
5. If PED = ∞ Rise in price will cause demand to fall
to 0
Perfectly Elastic
Demand curve will be ___________
SUMMARY
• Perfectly inelastic = 0• Inelastic = from 0 - < 1 • Unitary elastic = 1• Elastic = >1• Perfectly elastic = ∞
2. Uniqueness of the product
My hockey shirt vs. my brother’s hockey shirt!
3. Degree of complementarity of a good/serviceComplementary goods tend to have a low PED
IPhones ITunesGames consoles GamesGolf clubs Golf ballsCars Car parts
6. The time period allowed following a price change
Petrol price increase very inelastic in ST
LT – people switch to fuel efficient/electric cars – demand becomes more elastic.
Impulse buys very inelastic
9. Peak and off-peak demand
• Cell phones call charges• Rail/airfares (school holidays)• Internet charges
Change in the market What happens to total revenue?
Ped is inelastic and a firm raises its price. Total revenue ________
Ped is elastic and a firm lowers its price. Total revenue ________
Ped is elastic and a firm raises its price. Total revenue ________
Ped is 1.5 and the firm raises its price by 4% Total revenue ________
Ped is 0.4 and the firm raises its price by 30% Total revenue ________
Ped is 0.2 and the firm lowers its price by 20% Total revenue ________
Ped is 4.0 and the firm lowers its price by 15% Total revenue ________