Principles of Economics Chapter 5: Elasticity and Its ApplicationElasticity and Its Application

Elasticity

the measure of how much buyers and sellers respond to changes in market conditions. It is the measure of responsiveness of quantity demanded or quantity supplied to a change in one of its determinants. The sensitivity of responding to price changes

Price of elasticity of demand

it is how much the quantity demanded of a good respond to a change in its price. It is the price sensitivity of a buyer’s demand. It is calculated by taking the percent changes in quantity demanded/percentage change in price 

Effect of close substitutes on price elasticity

price elasticity is higher when close substitutes are available. This makes it easier for buyers to switch to similar goods if prices rise. On the other hand, an item that has no close substitutes like airplane tickets would be less price elastic

Effect of narrowly defined goods on price elasticity

a good like Mountain Dew has many substitutes which allows for easier substitution (making it more elastic) compared to the broadly defined good like soda or pop which are less elastic. 

Effect of luxury goods on price elasticity

an item which is a necessity is going to be less elastic with little or no decrease to the quantity demanded while a good like a Rolex watch is a luxury and if the price changes people will forego it. This shows luxury goods have a higher price elasticity.

Effect of the long run on price elasticity

if prices rise in the short run there is not much people can respond with that would seriously affect demand, however in the long run people can buy different goods to respond to a change. This creates a higher price elasticity over longer periods of time

Demand is elastic

when price elasticity of demand is greater than 1

demand is inelastic

when the price elasticity of demand is less than 1

demand has unity elasticity

when price elasticity of demand is equal to 1

the greater the price elasticity of demand

the flatter the demand curve…

inelastic good

a good that when the price changes, the quantity demanded responds very little (ex. healthcare, eggs, cigarettes)

elastic good

a good that when the price changes the quantity demanded strongly responds (ex. Mountain Dew)

decreases

If demand is elastic and there is a price increase, how does it affect the total revenue?

increases

If the demand is inelastic and there is a price increase, how does it affect the total revenue? 

income elasticity of demand

how much the quantity demanded of a good respond to a change in consumers income

normal goods

goods for which demand increases when consumer income rises. These include luxury items, branded clothing, and high-quality food. For this, income elasticity is greater than 0

inferior goods

goods for which demand decreases as consumer income rises. The are often lower-quality or budget-friendly options that consumers turn to when their income is low. These examples include generic brands and public transportation. For this, income elasticity is less than 0

cross-price elasticity of demand

how much the quantity demanded of one good responds to a change in the price of another good

effects of substitutes on cross-price elasticity of demand

cross-price elasticity is greater than 0

effects of complements on cross-price elasticity of demand

cross-price elasticity of demand is less than 0

Price elasticity of supply

how much the quantity supplied responds substantially to price changes and measures price-sensitivity

greater price elasticity of supply

the more easily sellers can change the quantity they produce