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ECON 4– Principles of Microeconomics
Lecture Notes – Elasticity
Learning Outcomes:
Define the concept of elasticity
Explain the price elasticity of demand and price elasticity of supply, and compute both using the midpoint method
Explain and calculate other elasticities using common economic variables
Explain the relationship between a firm’s price elasticity of demand and total revenue
Elasticity
Elasticity measures
Definition:
Elasticity allows us to look at changes in quantity demanded or quantity supplied quantitatively.
Four types of elasticity:
Price elasticity of demand, income elasticity,
Price Elasticity of Demand
Law of Demand: Consumers respond to higher prices by decreasing Qd or increasing Qd with lower prices.
Question:
Price elasticity of Demand measures how “responsive” consumers are to price changes.
–Elastic Demand
•Consumers are relatively
–Inelastic Demand
•Consumers are relatively
•Ed = price elasticity coefficient (measures the degree of responsiveness)
•It is common practice to drop the negative sign since we should already understand the inverse
relationship between price and quantity demanded.
Numeric Example:
•Suppose that a 10% increase in the price of ice cream causes the amount of ice cream demanded to
fall by 20%.
•Midpoints formula:
•Numeric Example: Suppose you buy 120 ice cream cones a year when the price is $4. If the price
increases to $6, you will only by 80 ice cream cones a year.
Interpretations of Ed
•Elastic Demand
–If % change in price results in a greater % change in quantity demanded =
•Inelastic Demand
–If % change in price results in a smaller % change in quantity demanded =
•Unit Elastic
–If % change in price results in the same % change in quantity demanded
Extreme Cases
•Perfectly Inelastic
–If % change in price results in
•Perfectly Elastic
–If % change in price results in
Determinants of Price Elasticity of Demand
•Availability of Substitutes
–More substitutes
