AS Micro The Importance of Elasticity of Demand
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Transcript of AS Micro The Importance of Elasticity of Demand
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AS MicroThe Importance of
Elasticity of Demand
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Price Elasticity of Demand
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Elasticity Matters!
What do I need to know?The definitions of each elasticityThe formula’s and be confident in using themHow to draw the diagramsThe determinants of PED and PESExamplesWhy they are important
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Factors that Affect Price Elasticity
Necessity or luxury?
Availability of substitutes
Consumer income Brand loyalty
Habits Frequency of purchase
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The price of a tablet computer falls from £800 to £600 and as a result, weekly sales of the tablet device expand from 100,000 to 150,000. It can be inferred that the price elasticity of demand for this price change is?
% change in demand = 50%% change in price = -25%Price elasticity of demand = 50 / -25 = -2
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A mobile phone company has 3 million customers for a package of services. Each customer pays a monthly fee of £20. The company conducts market research and estimates that price elasticity of demand for this package is (-) 2. If the company reduces monthly fees by £5, the change in total revenue is likely to be:
% change in price = 25%Elasticity = 2% change in demand = 50%New demand = 4.5 million customers @ £15 = £67.5 millionChange in total revenue = + £7.5 million
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A manufacturer reduces the price of its washing machines by 5% and, as a result, the volume of sales of washing machines rises by 4%. The value of price elasticity of demand for the good following this price change is?
Ped = 4% / 5% = 0.8 (demand is inelastic)
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In September 2009, the London Evening Standard was charging 50p per copy and selling 250,000 copies a day. In October 2009 a new owner decided to make it a free paper and by March 2010 the Standard was selling 600,000 copies each day. Calculate the price elasticity of demand for this price change.
% change in demand = 140%% change in price = 100%Price elasticity of demand = 1.4 (i.e. Elastic)
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Peak and Off-Peak Demand
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Peak and Off-Peak: Price & Revenue
Price
Quantity
Price
Quantity
S1
Q1
Q1: Diagram assumes a fixed supply capacity in the market
Q1
S1
P off-peak D1
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Peak and Off-Peak: Price & Revenue
Price
Quantity
Price
Quantity
S1
Q1
Q1: Diagram assumes a fixed supply capacity in the market
Q1
S1
P off-peak D1
D2
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Peak and Off-Peak: Price & Revenue
Price
Quantity
Price
Quantity
S1
Q1
Q1: Diagram assumes a fixed supply capacity in the market
Q1
S1
P off-peak D1
D2
P peak
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Peak and Off-Peak: Price & Revenue
Price
Quantity
Price
Quantity
S1
Q1
Q1: Diagram assumes a fixed supply capacity in the market
Q1
S1
P off-peak D1
D2
P peak
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The case for price discounting
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Dangers from discounting
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Cross Price Elasticity of Demand
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Cross Price Elasticity of Demand
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The price of Good X rises by 20 %. As a result, the demand for a substitute Good Y rises by 10 %. What is the cross-elasticity of demand for Good Y with respect to Good X?
Xed = % change in DX / % change in PY= +10% / +20% = +0.5I.e. X and Y are weak substitutes
Cross price elasticity
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Using Cross Price Elasticity
The table below gives estimates of the price elasticity’s and cross-elasticities of demand for bus and rail travel. What would be the change in the volume of rail travel resulting from a 25% increase in bus fares?
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Using Cross Price Elasticity
The table below gives estimates of the price elasticity’s and cross-elasticities of demand for bus and rail travel. What would be the change in the volume of rail travel resulting from a 25% increase in bus fares? Answer: = +4% (+0.16 x 25)
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Income elasticity
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Income elasticity of demand
• Normal goods – positive income elasticity• Luxury goods – income elasticity > +1• Necessities – income elasticity >0 and <+1• Inferior products – negative income elasticity• Counter cyclical goods – products whose
demand varies inversely to the macroeconomic cycle – demand rises in a downturn
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Rising demand for cinema visits
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And for pizza too!
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Application of income elasticity
The table shows a consumer's expenditure on a range of goods at different levels of income. For which good does the consumer have an income elasticity of demand greater than zero, but less than one?