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Price Elasticity of Demand

A units free measure of the responsiveness of the quantity demanded of a good to a change in its price when all other influences on buying plans remain the same

Price Elasticity of Demand Equation

percentage change in quantity demanded/ percentage change in price

Perfectly Inelastic Demand

If the quantity demanded remains constant then the price elasticity of demand is zero

Unit Elastic Demand

The percentage change in the quantity demanded equa the percentage change in the price, and then the price elasticity equals 1

Inelastic Demand

The price elasticity of demand is between zero and 1

Perfectly Elastic Demand

If the quantity demanded changes by the infinitely large percentage in response to a tiny price change,then the price elasticity of demand is infinite

Elastic Demand

The price elasticity of a demand is greater than 1

Total Revenue

The sale of a good equals the price of the good multiplied by the quantity sold

Change in total revenue depends on the elasticity of demand

- if demand is elastic, 1 percent price cut increases the quantity sold by more than 1 percent and total revenue increases

- if demand is inelastic; a 1 percent price cut increases the quantitiy sold by less than 1 percent and total revenue decreases

- if demand is unit elastic; a 1 percent price cut increases the quantity sold by 1 percent and total revenue does not change

- if demand is inelastic; a 1 percent price cut increases the quantitiy sold by less than 1 percent and total revenue decreases

- if demand is unit elastic; a 1 percent price cut increases the quantity sold by 1 percent and total revenue does not change

Total Revenue Test

Method of estimating the price elasticity of demand by observing the change in total revenue that results from a change in the price when all quantities remain the same

Method of estimating the price elasticity of demand by observing the change in total revenue that results from a change in the price when all quantities remain the same

- price cut increases total revenue; demand is elastic

- price cut decreases total revenue; demand is inelastic

- price cut leaves total revenue unchanged; demand is unit elastic

- price cut decreases total revenue; demand is inelastic

- price cut leaves total revenue unchanged; demand is unit elastic

The elasticity of demand for a good depends on

- closeness of substitution

- proportion of income spent on the good

- time elapsed since the price change

- proportion of income spent on the good

- time elapsed since the price change

Cross Elasticity of Demand

Measure of the responsiveness of the demand for a good to change in the price of a substitute or complement; other things remaining the same

Cross Elasticity of Demand formula

percentage change in quantity demanded/ percentage change in price or substitute or complement

Two items are close substitutes...

cross elasticity is large

Two items are somewhat unrelated...

cross elasticity is small even zero

Income Elasticity of Demand

A measure of the responsiveness of the demand for a good or service to a change in income, other things remain the same

Income Elasticity of Demand Formula

percentage change in quantity demanded/percentage change in income

Income elasticities of demand can be positive or negative and fall into 3 ranges

1. greater than 1

2. positive and less than 1

3. negative

2. positive and less than 1

3. negative

When the demand for a good is income elastic...

The percentage of income spent on that good increases as income increases

When the demand for a good is income inelastic...

The percentage of income spent on that good decreases as income increases

Elasticity of Supply

Measures the responsiveness of the quantity supplied to change in the price of a good when all other influences on selling plans remain the same

Elasticity of Supply Formula

percentage change in quantity supplied/ percentage change in price

The elasticity of supply of a good depends on

resource substitution possibilities

time frame for the supply decision

time frame for the supply decision

3 time frames of supply

momentary

long-run

short-run

long-run

short-run