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Questions and Answers
What happened to the price of oil approximately between 1979 and 1981?
In the short run, when supply and demand are inelastic, what is the expected outcome of a supply shift?
What describes the price elasticity of university T-shirts when the price decreases from $12 to $8 and quantity sold doubles?
In the long run, when supply and demand are elastic, how does a supply shift affect prices?
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Which of the following typically characterizes normal goods in terms of income elasticity of demand?
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What indicates that a good is considered an inferior good?
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Which statement best describes Engel's Law?
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What does a negative cross-price elasticity of demand imply?
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What does the price elasticity of demand measure?
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When is demand classified as elastic?
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What factor is likely to make demand more elastic?
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According to Engel's Law, as income increases, consumers will typically:
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What is the result of a 10 percent increase in the price of ice-cream cones causing demand to fall by 20 percent?
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Which type of goods typically have inelastic demand?
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What is the general concept of cross-price elasticity of demand?
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What does a price elasticity of demand equal to zero indicate?
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What is the impact of a longer time horizon on the elasticity of demand for most goods?
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What does a price elasticity of demand value greater than 1 indicate?
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If the income elasticity of demand for a good is negative, what type of good is it?
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According to Engel's Law, what typically happens to the percentage of income spent on food as income rises?
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How is cross-price elasticity of demand defined?
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What is a characteristic of perfectly inelastic demand?
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What does a price elasticity of demand value less than 1 signify?
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Which of the following scenarios illustrates the concept of substitutes in terms of cross-price elasticity?
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What occurs when demand is elastic and the price increases?
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In the long run, how does the elasticity of supply compare to the short run?
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What can be inferred from a positive income elasticity of demand?
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What is the effect of a price increase on total revenue when the demand is inelastic?
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How does cross-price elasticity help determine the relationship between two goods?
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If the quantity demanded of a good decreases due to an increase in consumer income, what type of good is this?
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Study Notes
Elasticity
- Elasticity is a measure of how much buyers and sellers respond to a change in market conditions.
- A 10 percent increase in gasoline prices reduces gasoline consumption by about 2.5 percent after a year and by about 6 percent after five years.
Price Elasticity of Demand
- Consumers usually buy more of a good when its price is lower.
- The price elasticity of demand measures how much the quantity demanded responds to a change in price.
Elastic and Inelastic Demand
- Demand for a good is said to be elastic if the quantity demanded responds substantially to changes in the price.
- Demand is said to be inelastic if the quantity demanded responds only slightly to changes in the price.
Determinants of Price Elasticity of Demand
- Availability of Close Substitutes: a good with close substitutes tends to have more elastic demand.
- Necessities versus Luxuries: necessities tend to have inelastic demands.
- Definition of the Market: narrowly defined markets tend to have more elastic demands.
- Time Horizon: goods tend to have more elastic demand over longer time horizons.
Computing Price Elasticity of Demand
- The price elasticity of demand = (Percentage change in quantity demanded) / (Percentage change in price).
- We follow the practice of dropping the minus sign and using all price elasticities as positive numbers (absolute value).
Demand Curves
- Demand is considered elastic when the elasticity is greater than one.
- Demand is considered inelastic when the elasticity is less than one.
- If the elasticity is exactly one, demand is said to have unit elasticity.
Case Study: Prices in the Short Run
- In the short run, when supply and demand are inelastic, a shift in supply leads to a large increase in price.
Case Study: Prices in the Long Run
- In the long run, when supply and demand are elastic, a shift in supply leads to a small increase in price.
Problem: Elasticity of University T-shirts
- Last week, 25 university T-shirts were sold at $12.
- The owner reduced the price to $8, and the quantity sold doubled to 50.
- The price elasticity of demand is the percentage change in the quantity demanded divided by the percentage change in the price.
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