Demand and Supply Guest Lodge

1. Demand and Supply Guest Lodge Everyone who handed in their assignment gets a bonus mark Groups of 4 20 minutes At the 10 minute mark can collaborate with other groups for 2 minutes Last 8 minutes you are to work in your group alone If you get 100% you will receive a second bonus mark

2. Chapter 5 Elasticisity of Supply and Demand

3. Elasticity of Demand • Would you buy the new Sony Play Station 4 if it was • $2000 • $1500 • $1000 • $800 • $600 • $500 • $100 • $20

4. Elasticity of Demand Imagine that you are asthmatic. Would you buy medication if it was $200 $180 $300 $400 $500 $600 $1000

5. Elasticity of Demand Imagine that you are NOT asthmatic. Would you buy medication if it was $1000 $800 $500 $200 $180 $5 $1

6. Elasticity of demand – measures how responsive demand is to price.

7. Elasticity of demand • As prices rise =>quantity demanded falls • Law of demand • But by how much will sales fall? • Demand for the PS4 is elastic • a change in price will lead to a large change in quantity demand (5% change in price = 10% change in demand) • Demand for the asthma medication is inelastic • a change in price will lead to a small change in quantity demand (5% change in price = 2% change in demand)

8. Elastic Demand • When a percentage change in price causes a larger percentage change in quantity purchased • i.e. A 10% increase in price causes a 50% decrease in amount purchased • Buyers are price sensitive • Ex Chicken • Other goods that would have elastic demand?

9. Elastic Demand & Revenue • When prices rise total revenue falls • Revenue = Quantity x Price • Decrease in Quantity will be greater than Increase in Price • When prices fall total revenue rises • Revenue = Quantity x Price • Increase in Quantity will be greater than decrease in Price

10. Inelastic Demand & Revenue • When prices rises total revenue rises • Revenue = Quantity x Price • Decrease in Quantity will be smaller than Increase in Price • When prices fall total revenue falls • Revenue = Quantity x Price • Increase in Quantity will be smaller than decrease in Price

11. Elasticity of Demand • A measure of the actual change in quantity demanded for a product who’s price has changed Coefficient of Demand Elasticity % Change in Quantity Demanded % Change in Price = OR Coefficient of Demand Elasticity ∆Qd ∆ Pd =

12. Elasticity of Demand • The Cause is in the denominator • The Effect is in the numerator

13. Coefficient • 1 > x : Inelastic coefficient • Change in quantity demanded will be smaller than the change in price • 1 < x : Elastic coefficient • Change in quantity demanded will be greater than change in price • 1 = x : Unitary coefficient • Change in quantity demanded will be equal to change in price (5% change in price = 5% change in demand)

14. Problem to solve • A large gas station sells 10 million/L of gas/month at a price of $0.50/L. If the station’s owners raise their price to $0.54/L the quantity demanded by the stations customers falls to 9.5 million litres. With this information can we calculate a coefficient that the station owners will find useful in making their pricing decision?

15. Turn to page 95 • Work through the equations on page 95 and 96. • Fill in the table 5.1 on page 96.

16. What we know: • Change in price is 4 cents which = a change of 8% • 1st step: calculate % of change in Qd • 8% of $0.50 (orig. price): 4/50 X 100 = 8% • 7.4% of $0.54 (new price) 4/54 X 100 = 7.4% • 2nd step: we must compromise by using the average price - $0.52 and divide it by 4 • 4 / $0.52 X 100 = 7.69% (will serve as the denominator in the equation)

17. 3rd step: Similar to the prior 2 steps we must determine the per cent change in quantity demanded 10 million/L vs 9.5 million/L • The average is 9.75 million/L of gas demanded • The change in quantity is -0.5 million/L • Therefore percent change is • -0.5 / 9.75 X 100 = -5.128 or 5.13%

18. Therefore… • %change in quantity demanded = 5.13% or 0.67 % change in price 7.69% Has a co-efficient of 0.67 = inelastic

19. Lets look at table on pg. 96

22. Factors Affecting DEMAND ELASTICITY 1. Availability of Substitutes • More substitutes more elastic

23. Factors Affecting DEMAND ELASTICITY 2. Nature of Item • Necessities tend to be more inelastic • Luxuries tend to be more elastic

24. Factors Affecting DEMAND ELASTICITY 3. Fraction of income spent on item • Big ticket item are more elastic • House, Cars

25. Factors Affecting DEMAND ELASTICITY 4. Amount of time Available • Inelastic in the short run • Elastic in the long run • Example: Yasin works downtown. He lives in a 3 bedroom house all alone in Kanata. He drives a Hummer. The price of gas has gone up to $2 a litre. He is really feeling the pinch. • What can he do in the short term? • What can he do in the long term?

26. Pg. 95 Homework • Beef – slightly or unitarily elastic • Other meats can substitute if prices rise • Steak – elastic, as non-essential meat; • other substitutes are available if prices rise • Soft drinks – inelastic • a near-essential, non alcoholic drink • Coca-Cola – elastic • Other cola drinks are available

27. p.95. continued • Pencils – inelastic • as an essential item and a small part of most budgets • Public transportation – inelastic • An essential service in most areas • Hair cuts – inelastic • Inelastic as an essential service for most people

28. 2) Food is inelastic because it is essential. When the price of an inelastic item rises, so do revenues • 3) Price falls and demand is elastic - revenues will increase Price rises and demand is inelastic – revenues will increase Price rises and demand is elastic – revenues will decrease Price falls and demand is inelastic – revenues will decrease Price rises and demand is unitary – revenues will stay the same

29. Pg. 95 • 4) • A) A co-efficient of 1.5 is elastic, therefore a lower price would increase revenues • B) A 0.9 coefficient indicates that the item is inelastic. The economist would recommend maintaining the present price, or if possible, raising the price, because revenues would increase for the seller (so long as the increase in price doesn’t equal a coefficient greater than 1.

30. Slope of elasticity and Inelasticity demand curves

31. A unitary demand curve

32. Homework

33. Elasticity of Supply • Elasticity of supply measures how responsive the quantity supplied by a seller is to rise or fall in price.

34. Supply Coefficient • 1>x = inelastic • seller cannot increase the quantity supplied by a greater percentage than the percent increase in price • 1<x = elastic • Seller can increase the quantity supplied by a greater percentage than the percent increase in price • 1=x = unitary • Seller is able to match a price increase by the same percentage increase in quantity supplied.

35. Elasticity of Supply Eqn. • Coefficient %change in of supply = quantity supplied elasticity % change in price

36. Factors Affecting Supply Elasticity Ease of storage • When the price drops they can either sell at a low price or put it in inventory until the price rises Time • The more time a seller has to increase production the more elastic supply will be • (ex. farmers can’t increase production of corn over night therefore short term = inelastic and long term = elastic) Cost Factors • increasing supply may be costly. Supply is more elastic in in industries that are not costly to manufacture and where production can be easily expanded if demand increases

37. Inelastic supply curve

38. Elastic supply curve

39. Unitary supply curve

40. HW pg. 101 • 1) • A) A coefficient of 0.8 is bad news for sellers, because it indicates that supply is inelastic. Thus, sellers will be slow to increase supply to take advantage of rising prices (ex. fruits and vegetables) • B) A coefficient of 1.5 is good news for sellers because it indicates that supply is elastic. Thus sellers can quickly increase supply to take advantage or rising prices (ex. steel)

41. p.101 • #2

42. Utility Theory • Utility = satisfaction • Marginal = extra • Marginal utility = extra satisfaction

43. Example of Marginal Utility • Richard loves to eat pizza and cheeseburgers. Over the last week he has consumed 3 cheeseburgers and no pizza. While out for dinner he is looking at the menu and sees both pizza and cheeseburgers on the menu. What is he more likely to choose to eat, pizza or a cheeseburger?

44. Since the marginal utility of buying a pizza will be greater than the marginal utility of buying cheeseburger, Richard will choose to buy a pizza.

45. Richard is really hungry so he orders 5 • Consumes 1st cheeseburger = high marginal utility • Consumes 2nd cheeseburger = marginal utility drops a bit • Consumes 3rd cheeseburger = marginal utilty drops even more • By the time Richard consumes his last cheeseburger his marginal utility or extra satisfaction he gets from each additional burger is less and less. • Note: • Total utility increases but less and less as each additional cheeseburger is consumed.

47. Utils – units of satisfaction • If Richard has $10 and a Pizza costs $2 and a cheeseburger costs $1, what purchase combination would provide him with the most satisfaction?

48. First we need to know • Marginal Utility = MU Price

50. Richard’s best combination to maximize satisfaction is; • Purchasing 3 pizzas and 4 cheeseburgers • Has maximum satisfaction: 49 utils • Consumer Equilibrium – receiving the same amount of satisfaction per dollar of each item • Where does consumer equilibrium occur for Richard?