Elasticity3.pdf

Elasticity Dr. Irfan Ahmad Shah IMT, Hyderabad Dr. Irfan Ahmad Shah Elasticity Elasticity Elasticity is the quantication or measurement of demand Elasticity measures the responsiveness in the quantity demanded of a commodity to changes in ea...

Elasticity Dr. Irfan Ahmad Shah IMT, Hyderabad Dr. Irfan Ahmad Shah Elasticity Elasticity Elasticity is the quantication or measurement of demand Elasticity measures the responsiveness in the quantity demanded of a commodity to changes in each of the forces that determine the demand If you reduce price, how much will the demand increase? What about other factors that aect demand? Dr. Irfan Ahmad Shah Elasticity Elasticity Price Elasticity Income Elasticity Cross Elasticity Ways to measure elasticity Point Elasticity Arc Elasticity Dr. Irfan Ahmad Shah Elasticity Price Elasticity Price Elasticity is the responsiveness of the quantity demanded of a commodity to a change in its price ∆Q ∆Q/Q or ∆P ∆P/P Percentage change in the quantity demanded of a commodity divided by the percentage change in its price. Sign of Elasticity Dr. Irfan Ahmad Shah Elasticity Point Elasticity ∆Q/Q ∆P/P Lower segment/Upper segment Dr. Irfan Ahmad Shah Elasticity Elasticity Dr. Irfan Ahmad Shah Elasticity Elasticity Short-run and Long-run Elasticity Importance of Elasticity If price changes, quantity demanded also changes, what will be the eect on total revenue? Dr. Irfan Ahmad Shah Elasticity Elasticity Dr. Irfan Ahmad Shah Elasticity Point vs Arc Elasticity Dr. Irfan Ahmad Shah Elasticity Point vs Arc Elasticity Increase in Price and decrease in price may lead to dierent results if point elasticity formula is used for calculating arc elasticity Estimate elasticity from point A to B and from B to A If Q = 200, P = 4 and Q1 = 300, P1 = 3 Dr. Irfan Ahmad Shah Elasticity Arc Elasticity ∆Q (P 2 + P 1)/2 Ep = ∆P (Q 2 + Q 1)/2 ∆Q (P 2 + P 1) We can remove the division by 2 as: Ep = ∆P (Q 2 + Q 1) What are the advantages and disadvantages of Arc elasticity over point elasticity? Dr. Irfan Ahmad Shah Elasticity Total Revenue, Marginal Revenue and Elasticity If price falls and Ep is: Greater than 1, then Total Revenue will increase Equal to 1, then Total Revenue will remain same Less than 1, then Total Revenue will decrease Dr. Irfan Ahmad Shah Elasticity Elasticity Dr. Irfan Ahmad Shah Elasticity Factors aecting the Price Elasticity Availability of substitutes Length of time over which the quantity responds to price change Dr. Irfan Ahmad Shah Elasticity Income Elasticity of Demand Income elasticity measures the responsiveness in the demand for a commodity due to change in consumer income ∆Q/Q ∆I /I ∆Q I x - Point Income Elasticity ∆I Q ∆Q (I 2 + I 1) EI = - Arc Income Elasticity ∆I (Q 2 + Q 1) EI is: Positive for normal goods, Low for necessities (between 0 to 1) High for luxuries (above 1) Negative for inferior goods (below 0) Dr. Irfan Ahmad Shah Elasticity Cross Elasticity of Demand Cross elasticity measures the responsiveness in the demand for a commodity due to change in the price of related goods ∆Qx /Qx ∆Py /Py ∆Qx (Py 2 + Py 1 ) Exy = - Arc Elasticity ∆Py (Qx 2 + Qx 1 ) Exy is: Positive for substitute goods, Negative for complementary goods (below 0) If cross elasticity between substitutes is high then they are close substitutes If cross elasticity between two goods is close to zero, then the goods may be independent Dr. Irfan Ahmad Shah Elasticity