1. Price Elasticity of Demand
Lecture 1

2. Demand Curves Show How Sensitive Consumers are to Price Changes
Relatively inelastic
1. Quantity demanded is not affected very
much by price changes.
2. Therefore not very sensitive to price changes.
3. Not many substitutes, short period of time,
and small proportion of budget.
4.  Q is not as great as theP. P
Demand
Quantity Demanded/unit time

3. Demand Curves Show How Sensitive Consumers are to Price Changes
Relatively elastic
1. Quantity demanded is affected very
much by price changes.
2. Therefore very sensitive to price changes.
3. Many substitutes, long period
of time, and large proportion
of budget.
4.  Q is greater than theP. P
Demand
Quantity Demanded/unit time

4. Elastic? or, Corn Here the slope relates that the
Price
Here the slope relates that the
quantity demanded is very
sensitive to price changes
1000 bu./month

5. Inelastic? Corn BUT a change in the scale of measure changes the graph
so as to make it look as
though the quantity demanded
is NOT very sensitive to
changes in price !
Price 6 5 4 3 2 1 1 2 3 4 5
million bu/month

6. Calculating Elasticity
Due to the problems with scaling depicted here, we rely on a mathematical determination of elasticity.

7. Price Elasticity of Demand (Ed)
percentage change in quantity demanded
percentage change in price

8. Calculating Ed: Ed All 3 of these equations yield the same answer
= %Qd / %P
= (Qd / P) * P0 / Q0
= (1 / Slope) * P0 / Q0
All 3 of these equations
yield the same answer

9. Interpreting an Elasticity Estimate
If Ed were to = , what does it tell us?
“For every 1% change in price, Qd will change .75% in the opposite direction”

10. Example: P0 = 8 P1 = 7 Q0 = 40 Q1 = 48 Step 1: Q = 48 - 40 = 8
Step 2: Use the formula for Ed.

11. Step 3:
Ed = (Qd / P) * P0 / Q0
= (8 /-1) * (8/40) = - 1.6

12. Step 4:
This means that for every 1 % change in price that there is a 1.6 % change in quantity demanded in the opposite direction.

13. Since we know that an Ed = - 1
Since we know that an Ed = means that a 1 % change in price results in a 1.6% change in quantity demanded in the opposite direction,
What would a 20% increase in price result in?

14. Step 1: Ed = % Q / %  P
Step 2: %Q = Ed * % P
Step 3: % Q = * +20% = - 32%

15. What would a 20% increase in the quantity demanded result in ?
Step 1: Ed = % Q / %  P
Step 2: % P = 1 / Ed * % Q

16. Step 3:
% P = (1 / - 1.6) * +20% = %

17. If you have trouble with algebraic derivations of an equation then,
REMEMBER:
% P X Ed = % Q
% Qd X (1 / Ed) = % P

18. We now know how to mathematically determine Ed, what does it tell us about elasticity ?
Economist usually drop the negative sign of the elasticity of demand for they know that P Q.

19. Ed > 1  elastic demand (very responsive
to price changes).
Ed< 1  inelastic demand (not very
sensitive to prices).
Ed = 1  unitary elastic (ratio of %s = 1).

20. Ed > 1  %Q > %P
Ed< 1  %Q < %P.
Ed= 1  %Q = %P.

21. 1971 Estimates of Price Elasticity of Demand at Retail in the USEd
beef
pork
chicken
milk
sugar
bread
all foods
non foods