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Transcript of Demand and Supply Guest Lodge Everyone who handed in their assignment gets a bonus mark Groups of...
Demand and Supply Guest Lodge Everyone who handed in their assignment gets a
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Chapter 5Elasticisity of Supply and Demand
Elasticity of Demand Would you buy the new Sony Play Station
4 if it was $2000 $1500 $1000 $800 $600 $500 $100 $20
Elasticity of Demand Imagine that you are asthmatic. Would
you buy medication if it was $200 $180 $300 $400 $500 $600 $1000
Elasticity of Demand Imagine that you are NOT asthmatic.
Would you buy medication if it was $1000 $800 $500 $200 $180 $5 $1
Elasticity of demand – measures how responsive demand is to price.
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)
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?
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
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
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
=
Coefficient of Demand Elasticity
∆Qd∆ Pd
=
OR
Elasticity of Demand The Cause is in the denominator The Effect is in the numerator
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)
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?
Turn to page 95 Work through the equations on page
95 and 96. Fill in the table 5.1 on page 96.
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)
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%
Therefore… %change in quantity demanded = 5.13% or 0.67
% change in price 7.69%
Has a co-efficient of 0.67 = inelastic
Lets look at table on pg. 96
Factors Affecting DEMAND ELASTICITY
1. Availability of Substitutes More substitutes more elastic
Factors Affecting DEMAND ELASTICITY
2. Nature of Item Necessities tend to be more inelastic Luxuries tend to be more elastic
Factors Affecting DEMAND ELASTICITY
3. Fraction of income spent on item Big ticket item are more elastic House, Cars
Factors Affecting DEMAND ELASTICITY4. 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?
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
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
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 decreasePrice falls and demand is inelastic – revenues will decreasePrice rises and demand is unitary – revenues will stay the same
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.
Slope of elasticity and Inelasticity demand curves
A unitary demand curve
HomeworkPrice Quantity
Demanded
Sales Revenue
Elasticity
$1.00
$0.90
$0.80
$0.70
$0.60
$0.50
300
400
500
600
700
800
$300
$360
$400
$420
$420
$400
Elastic
Elastic
Unitary
Inelastic
Inelastic
Elasticity of Supply Elasticity of supply measures how
responsive the quantity supplied by a seller is to rise or fall in price.
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.
Elasticity of Supply Eqn.
Coefficient %change in of supply = quantity supplied elasticity % change in price
Factors Affecting Supply ElasticityEase 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
Inelastic supply curve
Elastic supply curve
Unitary supply curve
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)
p.101 #2
Price per cone
Short-term supply
Coefficient
Long-term supply
Coefficient
$1 3000.75
10002.0
$2 5000.825
50001.66
$3 700 10000
Utility Theory Utility = satisfaction Marginal = extra
Marginal utility = extra satisfaction
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?
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.
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.
Pizza Total utility
Marginal Utility
Cheese – burgers
Total Utility
Marginal Utility
1 10 10 1 11 11
2 18 8 2 18 7
3 24 6 3 22 4
4 28 4 4 25 3
5 30 2 5 26 1
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?
First we need to know
Marginal Utility = MU Price
Pizza $2
Total Utility
Marginal
Utility
MUprice
Cheese-
burgers $1
Total Utility
Marginal
Utility
MUprice
1 10 10 10 = 5 $2
1 11 11 11 = 11 $1
2 18 8 8 = 4$2
2 18 7 7 = 7 $1
3 24 6 6 = 3$2
3 23 5 5 = 5 $1
4 28 4 4 = 2 $2
4 25 3 3 = 3 $1
5 30 2 2 = 1$2
5 26 1 1 = 1 $1
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?
Pg. 105 HW 1) The total satisfaction from
consumeing several soft drinks is higher than consuming just one, but the extra satisfaction gained from each drink after the first one drops steadily
Pg. 105 HWUnits Consumed
Total Utility Marginal Utility
0 0 -
1 6 6
2 14 8
3 24 10
4 34 10
5 42 8
6 48 6
3) Enrique’s consumer surplus is $2 because he would have paid $10 for one movie, but now he has to pay only $8.
Consumer Surplus Consumer surplus – the difference
between what consumers are wiling to pay for an item and what they actually pay
Ex. IPAD 3 is $800 but you would have paid
$1000 = consumer surplus of $200
Ceiling Price A price restriction place by
government in order to prevent the price of a product from rising above a certain level
Results in a shortage if the ceiling price is lower than the equilibrium price
Ex Gas Prices, Rent Control
Ceiling Price
S1
D1
E1
Price Ceiling
Qd
Price
QuantityQs
Shortage
Shortage
Consequence of Price CeilingsPros
Equitable access to good and services
Cons Long line ups Black market Decrease in
quality
Floor Price A price restriction placed by
government in order to prevent the price of a product from falling below a certain level
Results in a surplus if the price is above the equilibrium price
Ex Minimum Wage
Floor Price
S1
D1
E1
Price Floor
Qs
Price
QuantityQd
Surplus
Consequence of Price FloorPros
Stable Price Food Security Living wage for
manufacturers Secures local
industry
Cons Overproduction of
product Waste Sold or given away
Higher taxes to pay for surplus
Higher prices for consumers
Subsidies A grant of money made to particular
industry by the government Results in a supply shift to the right Example
Farm Subsidies Research and Development New Industry (Infant Industry)
Environmental
SubsidiesPrice = $100-Cost = $110Profit = -$10
Price = $100- Cost = $110
+ Subsidy = $20Profit = $10
Subsidies
S2
D1
E2
P1
Q2
Price
QuantityQ1
Subsidy
S1
E1
P2
Subsidies
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