Presentation on theme: "Section 3: Elasticity of Demand What Is Elasticity of Demand?"— Presentation transcript:
1 Section 3: Elasticity of Demand What Is Elasticity of Demand? Elasticity of demand is a measure of how consumers react to a change in price.Demand for a good that consumers will continue to buy despite a price increase is inelastic.Demand for a good that is very sensitive to changes in price is elastic.
2 Elastic Demand Elastic Demand If demand is elastic, a small change in price leads to a relatively large change in the quantity demanded. Follow this demand curve from left to right.PriceQuantity$7$6$5$4$3$2$1Elastic Demand51015202530DemandThe price decreases from $4 to $3, a decrease of 25 percent.$4 – $3$4x 100 = 25The quantity demanded increases from 10 to 20. This is an increase of 100 percent.10 – 2010x 100 = 100Elasticity of demand is equal to 4.0. Elasticity is greater than 1, so demand is elastic. In this example, a small decrease in price caused a large increase in the quantity demanded.100%25%= 4.0
3 Inelastic Demand Inelastic Demand PriceQuantity$7$6$5$4$3$2$1Inelastic Demand51015202530DemandIf demand is inelastic, consumers are not very responsive to changes in price. A decrease in price will lead to only a small change in quantity demanded, or perhaps no change at all. Follow this demand curve from left to right as the price decreases sharply from $6 to $2.The price decreases from $6 to $2, a decrease of about 67 percent.$6 – $2$6x 100 = 67The quantity demanded increases from 10 to 15, an increase of 50 percent.10 – 1510x 100 = 50Elasticity of demand is about The elasticity is less than 1, so demand for this good is inelastic. The increase in quantity demanded is small compared to the decrease in price.50%67%= 0.75
4 Factors Affecting Elasticity 1. Availability of SubstitutesIf there are few substitutes for a good, then demand will not likely decrease as price increases. The opposite is also usually true.2. Relative ImportanceAnother factor determining elasticity of demand is how much of your budget you spend on the good.3. Necessities versus LuxuriesWhether a person considers a good to be a necessity or a luxury has a great impact on the good’s elasticity of demand for that person.4. Change over TimeDemand sometimes becomes more elastic over time because people can eventually find substitutes.
5 Elasticity and Revenue The elasticity of demand determines how a change in prices will affect a firm’s total revenue or income.A company’s total revenue is the total amount of money the company receives from selling its goods or services.If a good has an elastic demand, raising prices may actually decrease the firm’s total revenue.
6 Elastic demandChanging a good’s price brings about a substantial, opposite change in the quantity demanded. Description of products:A. not a necessityB.easily available substitutesC.cost of the product is a large percentage of a consumer’s income
7 Inelastic DemandChanging a good’s price has only a tiny impact on the quantity demanded. Description of products:A. a necessityB. few or no readily available substitutesC. costs a small portion of a consumers’ income
8 What are some products that might have a perfectly elastic or perfectly inelastic demands? Total revenue- total income that a business obtains from selling its products
9 Elasticity of SupplyElasticity of supply is a measure of the way quantity supplied reacts to a change in price.If supply is not very responsive to changes in price, it is considered inelastic.An elastic supply is very sensitive to changes in price.
10 What Affects Elasticity of Supply? TimeIn the short run, a firm cannot easily change its output level, so supply is inelastic.In the long run, firms are more flexible, so supply can become more elastic.
11 A Firm’s Labor Decisions Marginal Product of LaborLabor (number of workers)Output (beanbags per hour)Marginal product of laborBusiness owners have to consider how the number of workers they hire will affect their total production.The marginal product of labor is the change in output from hiring one additional unit of labor, or worker.—1421063177423652831373218–1
12 Labor (number of workers) Marginal Product of labor Marginal ReturnsIncreasing, Diminishing, and Negative Marginal ReturnsLabor (number of workers)Marginal Product of labor(beanbags per hour)87654321–1–2–3123Increasing marginal returnsIncreasing marginal returns occur when marginal production levels increase with new investment.Diminishing marginal returns occur when marginal production levels decrease with new investment.4567Diminishing marginal returnsNegative marginal returns occur when the marginal product of labor becomes negative.89Negative marginal returns
13 Production CostsA fixed cost is a cost that does not change, regardless of how much of a good is produced. Examples: rent and salariesVariable costs are costs that rise or fall depending on how much is produced. Examples: costs of raw materials, some labor costs.The total cost equals fixed costs plus variable costs.The marginal cost is the cost of producing one more unit of a good.
14 Government Influences on Supply By raising or lowering the cost of producing goods, the government can encourage or discourage an entrepreneur or industry.SubsidiesA subsidy is a government payment that supports a business or market. Subsidies cause the supply of a good to increase.TaxesThe government can reduce the supply of some goods by placing an excise tax on them. An excise tax is a tax on the production or sale of a good.RegulationRegulation occurs when the government steps into a market to affect the price, quantity, or quality of a good. Regulation usually raises costs.
15 Other Factors Influencing Supply The Global EconomyThe supply of imported goods and services has an impact on the supply of the same goods and services here.Government import restrictions will cause a decrease in the supply of restricted goods.Future Expectations of PricesExpectations of higher prices will reduce supply now and increase supply later. Expectations of lower prices will have the opposite effect.Number of SuppliersIf more firms enter a market, the market supply of the good will rise. If firms leave the market, supply will decrease.
16 Price CeilingsIn some cases the government steps in to control prices. These interventions appear as price ceilings and price floors.A price ceiling is a maximum price that can be legally charged for a good.An example of a price ceiling is rent control, a situation where a government sets a maximum amount that can be charged for rent in an area.
17 Price FloorsOne well-known price floor is the minimum wage, which sets a minimum price that an employer can pay a worker for an hour of labor.A price floor is a minimum price, set by the government, that must be paid for a good or service.