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Econ 2610: Principles of Microeconomics

This chapter explores how increased drug enforcement impacts theft, analyzing the price elasticity of demand. It delves into responsiveness, unit elasticity, and the relationship between price changes and total expenditures. Examples and determinants of price elasticity are examined along with cases of perfectly elastic and inelastic demand. The concept of cross-price elasticity for substitutes and complements and income elasticity for normal and inferior goods are also discussed.

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Econ 2610: Principles of Microeconomics

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  1. Econ 2610: Principles of Microeconomics Yogesh Uppal Email: yuppal@ysu.edu

  2. Chapter 4 Elasticity

  3. Drug Enforcement and Local Theft • Hypothesis • Drug users steal to buy drugs • Increase drug enforcement will decrease theft • Analysis • Increased enforcement reduces supply of drugs • Price of drugs increases • Quantity demanded decreases • Theft goes down ONLY IF total expenditures on drugs decreases • How responsive is quantity demanded to price?

  4. Price Elasticity of Demand P Q • Price elasticity of demand • Percentage change in quantity demanded from 1% change in price • Measure of responsiveness of quantity demanded to changes in price • Example • Price of beef decreases 1% • Quantity of beef demanded increases 2% • Price elasticity of demand is – 2

  5. Calculate Price Elasticity Percentage change in quantity demanded ε = Percentage change in price • Price elasticity of demand is always negative • Ignore the sign • For small percentage changes in price

  6. Elastic Demand Price Elasticity of Demand Unit elastic Elastic Inelastic 0 1 2 3 • If price elasticity is greater than 1, demand is elastic • Percentage change in quantity is greater than percentage change in price • Demand is responsive to price

  7. Inelastic Demand Price Elasticity of Demand Unit elastic Elastic Inelastic 0 1 2 3 • If price elasticity is less than 1, demand is inelastic • Percentage change in quantity is less than percentage change in price • Quantity demanded is not very responsive to price

  8. Unit Elastic Demand Price Elasticity of Demand Unit elastic Elastic Inelastic 0 1 2 3 • If price elasticity is 1, demand is unit elastic • Price and quantity change by the same percentage

  9. Example: Demand for Pizza Percentage change in quantity demanded ε = Percentage change in price 1% ε = = 0.33 Demand is inelastic 3%

  10. Determinants of Price Elasticity of Demand

  11. Examples of Elasticities

  12. Price Elasticity Notation Percentage change in quantity demanded ΔQ / Q ε = ε = ΔP / P Percentage change in price • ΔQ is the change in quantity • ΔQ / Q is percentage change in quantity • ΔP is change in price • ΔP / P is percentage change in price

  13. Price Elasticity on a Straight-Line Demand Curve P 1 x ε = Q slope • Price elasticity is different at each point • Slope is the same for the demand curve • P/Q decreases as price goes down and quantity goes up

  14. Price Elasticity Pattern a Price a/2 b/2 b Quantity • Price elasticity changes systematically as price goes down • At high P and low Q, P / Q is large • Demand is elastic • At the midpoint, demand is unit elastic • At low P and high Q, P / Q is small • Demand is inelastic

  15. Two Special Cases Price Price D D Quantity Quantity Perfectly Elastic Demand Infinite price elasticity of demand Perfectly Inelastic Demand Zero price elasticity of demand

  16. Elasticity and Total Expenditure Price Expenditures = 8 2 D 4 Quantity • When price increases, expenditures can increase, decrease or remain the same • The change in expenditures depends on elasticity • Terminology: total expenditures = total revenue • Calculate as P x Q • Graphing idea: total expenditures is the area of a rectangle with height P and width Q • Example: P = 2 and Q = 4

  17. Price Elasticity and Total Expenditure D D 12 12 Expenditure = $1,000/day Expenditure = $1,600/day Price ($/ticket) Price ($/ticket) B 4 A 2 4 6 5 6 Quantity (00s of tickets/day) Quantity (00s of tickets/day) • Movie ticket price increases from $2 to $4 • A and B are both below the midpoint of the curve • Inelastic portion of the demand curve • Total revenue increases when price increases

  18. Price Elasticity and Total Expenditure 12 12 Z Expenditure = $1,600/day 10 Expenditure = $1,000/day Y 8 Price ($/ticket) Price ($/ticket) D D 2 6 1 6 Quantity (00s of tickets/day) Quantity (00s of tickets/day) • Movie ticket price increases from $8 to $10 • Prices are both above the midpoint of the curve • Elastic portion of the demand curve • Total revenue decreases

  19. Price Changes and Total Expenditure Changes 12 1,800 1,600 10 8 Total expenditure ($/day) 1,000 6 Price ($/ticket) 4 2 2 6 10 1 2 3 4 5 6 Price ($/ticket) Quantity (00s of tickets/day)

  20. Elasticity, Price Change, and Expenditures

  21. Cross-Price Elasticity of Demand • Substitutes and complements affect demand • Cross-price elasticity of demand • Percentage change in quantity demanded of A from a 1 percent change in the price of B • Sign of cross-price elasticity shows relationship between the goods • Complements have negative cross-price elasticity • Substitutes have positive cross-price elasticity

  22. Income Elasticity of Demand • Income elasticity of demand • Percentage change in quantity demanded from a 1 percent change in income • Income elasticity of demand can be positive or negative • Positive income elasticity is a normal good • Negative income elasticity is an inferior good

  23. Price Elasticity of Supply ΔQ / Q Price elasticity of supply = ΔP / P P 1 x Price elasticity of supply = Q slope • Price elasticity of supply • Percentage change in quantity supplied from a 1 percent change in price

  24. Price Elasticity of Supply S B 10 A 8 Price 4 2 3 Quantity • If supply curve has a positive intercept • Price elasticity of supply decreases as Q increases • Graph shows • Slope = 2 • At A, P = 8 and Q = 2 • Price elasticity of supply = (8 / 2) (1 / 2) = 2.00 • At B, P = 10 and Q = 3 • Price elasticity of supply = (10 / 3) (1 / 2) = 1.67

  25. Perfectly Inelastic Supply Price S Quantity • Zero price elasticity of supply • No response to change in price • Example: land on Manhattan • Supply is completely fixed • Any one-of-a-kind item has perfectly inelastic supply • Work of art (Mona Lisa) • Hope Diamond

  26. Perfectly Elastic Supply Price S Quantity • Infinite price elasticity of supply • Sell all you can at a fixed price • Inputs purchased at a constant price • No volume discounts • Constant proportions of production • Lemonade example • Cost of production is 14¢ at all levels of Q • Marginal cost P = 14¢

  27. Determinants of Price Elasticity of Supply

  28. Supply Bottleneck: Unique Inputs • Over time, most producers develop alternative production methods and a variety of input choices • The more flexible the production process, the more elastic supply • When production relies on a single input, supply is highly inelastic • No alternatives to singular talent • Sports stars • Actors and musicians • Bill Gates, Warren Buffet, George Soros, Carl Icahn

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