CENTENARY SECONDARY SCHOOL

DEPARTMENT OF BUSINESS, COMMERCE AND MANAGEMENT

STUDIES

ECONOMICS : GRADE 11

TERM TWO : CORE CONTENT

• Relationships between markets
• Effects of costs and revenue
• Price elasticity

TOPIC : MARGINAL UTILITY

Utility
• Utility is the satisfaction or pleasure a consumer obtains from the consumption of
goods and services.
• Utility is the want-satisfying power of goods and services.
• There is a direct relationship between the demand for an article and article’s
utility.
• The greater the satisfaction obtained – the greater the demand for the goods or
services.

Characteristics/Features of utility
1. Utility differs from person to person
• People’s tastes and preferences differ.
• For example, some people might enjoy exercising and others not.
2. Utility can change from time to time or season to season
• Ice cream is demanded more in summer than in winter.
3. Utility can change from place to place
• Warm clothing is demanded in colder climates as compared to hotter regions.
4. Utility does not mean usefulness
• Utility of goods can be useful, useless or even harmful.
• For example, a can opener, a cigarette or alcohol.
5. Utility does not depend on value or price
• Certain goods have a great value for everyone but do not command a price.
6. Utility diminishes as more units of the same product are consumed.
• When one consumes more and more units of the same product, the utility or
satisfaction increases with the first few units but starts to decline and
eventually no satisfaction is derived – known as diminishing utility.
• For example, drinking a cold drink. You will enjoy and derive high utility from
drinking the first few glasses but the satisfaction will decline as more glasses
are consumed until there is no satisfaction at all – this will eventually lead to
discomfort. This negative utility.
1. Total utility
• Total utility is the total benefit or satisfaction that a consumer derives from
consuming a good or a service.

Number of movies Total utility

0 0
1 50
2 90
3 120
4 140
5 150

Discussion
• The table shows Sam’s total satisfaction from watching different movies in a
month.
• If he does not watch any movies he does not derive any satisfaction and hence
his total utility is zero.
• If he sees one movie in the month he derives 50 units of satisfaction.
• As the number of movies he sees increases – the total utility increases – sees
five movies his total utility is 150 units.
• The table shows as Sam watches more movies, the total utility increases.

2. Marginal utility
The amount by which total utility increases when an additional unit of the good is
consumed is known as Marginal Utility.

Number of movies Total utility Marginal utility

0 0 0
1 50 50
2 90 40
3 120 30
4 140 20
5 150 10

Discussion
• The above table shows Sam’s marginal utility for watching movies in a given
month.
• As Sam watches more movies, his total utility increases.
• If Sam’s consumption increases from one to two movies, his total utility increases
from 50 utils to 90 utils and the marginal utility is 40.
• Marginal utility decreases as more units of a good or service are consumed – this
trend is called diminishing marginal utility.
ACTIVITY ONE
Study the table below and answer questions that follow.
NO. OF UNITS - APPLES TOTAL UTILITY MARGINAL UTILITY
0 0 -
1 6 6
2 11 A
3 15 4
4 B 3
5 20 2

1.1. What is the total utility of consuming three apples? (1)

1.2. What is the tendency of marginal utility, as consumption of a product
increases? (1)
1.3. Calculate the values of A and B. (4)
1.4. How does scarcity impact on total utility? (4)
1.5. Briefly explain the law of diminishing marginal utility. (4)

ACTIVITY TWO
Study the graph given below and answer the questions that follow

2.1. Which can of soda gave the most utility? (1)

2.2. What is the total utility gained after consuming the 3 can of Fanta?
rd
(1)
2.3. Why does the utility curve look like the demand curve? (2)
2.4. Why is this curve not true for everybody? (2)
2.5. Which can of Fanta takes the consumer to the point of disutility. What does
disutility mean (4)
PRICE ELASTICITY
Price elasticity of demand (PEd)

Definition
• Measures how much consumers respond, or how sensitive they are to a change
in the price of the product.
• Is the change in the quantity demanded by consumers due to a change in the
price of the product.
Calculating price elasticity of demand
Price elasticity of demand is equal to the percentage change in quantity
demanded divided by the percentage change in price.

PEd = Percentage change in quantity demanded (Qd)

Percentage change in price (P)

Illustrative example
The demand for a product increased from 400 to 600 when the price decreased
from R50 to R45.
Step 1:
Percentage change in quantity demanded =
Difference in quantity X 100
Original quantity
= (600 – 400) X 100
400
= 50%

Step 2:
Percentage change in price of product =

Difference in price X 100

Original price
= (50 – 45) X 100
50
= 10%

Step 3:
Price elasticity of demand

PEd = percentage change in quantity demanded (Qd)

Percentage change in price (P)

50%
10%

= 5%
ACTIVITY THREE
The price of an article has increased from R200 to R240 and the demand fell from
400 to 300 units.

Calculate price elasticity of demand.

FORMS OF PRICE ELASTICITY OF DEMAND

• Demand for most goods and services are either elastic or inelastic.
• Products with elastic demand have a coefficient greater than one, for eg: 1,25.
• Products with inelastic demand have a coefficient of less than one, for eg: 0,5.

What is a coefficient?
• Number used to multiply a variable.
• Example: 6z means 6 times z, and "z" is a variable, so 6 is a coefficient.

Elastic demand (where there is a response to a change in price)

• Demand tends to be elastic for goods and services which are:
a. close substitutes (red and white meat)
b. take up a large portion of consumers’ income (motor vehicles).
c. luxury goods (DVDs)

Inelastic demand (where there is no or little response to a change in price

• Examples include:
a. basic necessities (food items)
b. goods and services which take up a small portion of consumers’ incomes
c. addictive goods and services
d. goods and services with no substitutes
e. goods and services which have a number of different uses.

KINDS OF ELASTICITY

1. Perfectly elastic demand

• Even the smallest change in
price will cause an infinitely large
change in the quantity demand.
• The coefficient is infinity.
• For example, suppose there are a number of people selling CDs of a pop group
at one of their concerts, if one of them lowered his price below those of the
competitors he may capture all the buyers at the concert.
• A perfectly elastic demand curve can be shown with a horizontal straight line.
• The curve illustrates that consumers are willing to buy any quantity of a product
at a certain price level.

2. Perfectly inelastic demand

• A change in the price of a product has
no impact on the quantity demanded, in
other words a change in price causes no
change in the quantity demanded.
• For example, a person with a serious
illness might be prepared to buy the same
quantity of medication when its price rises
and may not find it beneficial to increase
the quantity they take when its price falls.

• Demand shows no response at all to changes in price.

• The demand curve will be a vertical line, parallel to the price axis.
• The graph shows that consumers plan to buy a fixed quantity of the product at a
specific price.
• Producers can increase their income by increasing the price of the product as the
quantity demanded will not change.

3. Unitary elasticity/unit elastic demand

• The percentage change in the
price is equal to the percentage
change in the quantity demanded.

• When a specific change in price causes exactly the same change in the quantity
demanded.
• For eg. when price increases by 40%, the quantity demanded will decrease by
40%.
• The coefficient is equal to one.
• When producers face a unit elastic demand curve there is no reason for them to
change the price of their products.
• Their sales income (total revenue) will remain constant as the quantity demanded
will decrease by exactly the same percentage as the increase in the price of the
product.

4. Relatively inelastic demand

• Demand is relatively inelastic when the price elasticity coefficient is a fraction.
• When demand is relatively inelastic, the average percentage change in quantity
demanded will be smaller than the average percentage change in price of the
product.
• The demand is not sensitive to the change in the price of the product.
• A relatively inelastic demand encourages producers to increase the price of their
products as they will be able to increase their sales income.

• Relatively inelastic means that relatively large changes in price cause relatively
small changes in quantity.
• In other words, quantity is not very responsive to price.
• More specifically, the percentage change in quantity is less than the percentage
change in price.
• A relatively inelastic demand curve can be represented by a steep curve.
• A 10% increase in the price of the product causes a 2% decrease in the quantity
demanded.
• Producers will be encouraged to increase the price of their products when they
face a relatively inelastic demand curve as a price increase will lead to an
increase in their income.
5. Relatively elastic demand
• Relatively elastic means that relatively small changes in price cause relatively
large changes in quantity.
• In other words, quantity is very responsive to price.
• More specifically, the percentage change in quantity is greater than the
percentage change in price.
• For example, a 10% decrease in the price of the product leads to a 15% increase
in quantity demanded.

• Producers can increase their sales income by decreasing the price of their
products.
• A relatively elastic demand curve can be illustrated by a relatively flat demand
curve.

Alternative Coefficient (E)

Perfectly Elastic PEd = ∞

Relatively Elastic PEd >1

Unit Elastic PEd = 1

Relatively Inelastic 0 < PEd < 1

Perfectly Inelastic PEd = 0

ACTIVITY THREE
Study the cartoon below and answer the questions that follow.

3.1. Which form of elasticity is depicted in the above cartoon? (1)

3.2. What is the new price for the milk? (1)
3.3. Explain the reason for consumers to continue to buy milk even when the
price increases. (2)

Question four
Study the structure below and answer questions that follow.

[Source: http/www.google.ca.za/?gws rd]

4.1. What is the main objective of a business? (1)

4.2. Explain ONE way by which a business can maximise its growth. (2)
4.3. How does market share relate to profit? (3)
4.4. Distinguish between accounting and economic profit. (4)
4.5. Briefly discuss relative prices without the use of a diagram. (8)
4.6. Graphically illustrate the effect of an increase in price of beef when
consumers substitute beef for chicken. (8)
Factors that determine the elasticity of demand

1. Availability of close substitutes

• A substitute product can be used in the place of another product to satisfy a need
or want.
• If a close substitute is available – the demand for the product will be very elastic.
• When the price of the product increases, the consumer will simply buy the
substitute.
• Since margarine and butter are close substitutes – households will easily switch
to margarine if the price of butter increases.
• If there are no close substitutes available – the demand will be inelastic.
• When the price of this product increases – consumers will have no choice but to
keep buying the product at a higher price, for example, electricity and petrol.
• For example, if the price of petrol increases, motorists have to buy the petrol at
the higher price because there is nothing else that they can use to fill up their
tanks.

2. Nature of the product (necessity or luxury)

• The price elasticity of demand for essential products such as basic foodstuffs
such as bread and milk tend to be inelastic.
• These products are needed for survival.
• Consumers will keep on buying these products in spite of price changes.
• The price elasticity of demand for luxury products such as vacation, restaurant
and entertainment tends to be elastic.
• These products are not essential for survival – sensitive to any price changes.
• A price increase in luxury products will cause a large decrease in quantity
demanded.

3. Habit forming products

• Some products are habit forming.
• Habit forming products such as cigarettes, alcohol, drugs and chocolates have an
inelastic demand.
• A change in price will have no influence on the quantity demanded.
• This means that consumers cannot go without the product so they will keep on
buying it even at higher prices.

4. Urgency
• If it is possible to postpone the purchase of a product, demand will tend to be
elastic, for example, a dishwasher.

5. Uniqueness
• The more unique a good or service is the less elastic demand will be.
• This because there will be fewer substitutes.
6. The proportion of income spent on the product
• The demand for goods on which consumers spend only a very small portion of
their income, such as matches, salt, newspapers and paper clips will be
inelastic.
 These prices are so low that consumers will hardly notice a price increase –
they will not even react to it.
 The demand for goods that consumers spend a large portion of their income,
such as furniture will be elastic.
 The consumer will carefully take note of any changes in price – because
changes in price will have a huge effect on the money available.

7. Durability of the product

 Durable goods can be used over an extended period of time before they have
to be replaced.
 The more durable a product is – the more elastic the demand will be.
 Since durable goods have a longer lifespan – consumers tend to keep these
goods for longer if the prices of these goods increase.

8. Advertising
 Advertising can be used to develop a strong preference for a specific brand
name.
 This makes the demand for a specific product relatively inelastic to a change
in the price of the product.
 The demand for products with well known brand names is less elastic than the
demand for products that do not have well known brand names.

9. Time
 Demand tends to be more elastic in the long run than in the short run –
because it takes consumers time to adjust to price changes.
 All consumers develop a preference for some consumer goods they use
regularly.
 If the price of the product that the consumer usually buys increases
dramatically over a period of time – the consumer may continue to buy the
specific brand for a few more months.
 In the short-run consumer demand for some products tend to be relatively
inelastic.
 However, when consumers have more time to try out other goods and change
their consumption pattern – demand is more elastic.

10. Number of uses of the product

 Articles that have more than one possible use are called multi-purpose articles
– these products have an inelastic demand.
 A product with only one possible use has an elastic demand.
Price elasticity of supply (PEs)
• Price elasticity of supply provides us with a measure of how sensitive or
responsive the quantity supplied is to change in the price.
• The price elasticity of supply measures how sensitive the market supply is to a
change in the price of a product.

Calculating price elasticity of supply

PEs = percentage change in the quantity supplied

percentage change in price

• The price elasticity coefficient of supply is always a positive number as a result

of the law of supply.
• Most products have either elastic or inelastic supply.
• Elastic supply is when a percentage change in price causes a smaller
percentage change in supply.
• Inelastic supply is when a given percentage change in price causes a smaller
percentage change in supply.

Price elasticity of supply

Response of supply to a change in price in the market

Factors that determine price elasticity of supply

• Availability of natural resources
• Availability of labour
• Availability of capital
• The level of spare capacity in the industry
• The level of employment
• Time