Elasticities part 2

Elasticity of demand
•Three types:
•Price elasticity of demand (PED)
•Cross elasticity of demand (XED)
•Income elasticity of demand (YED)
PED
• How much the quantity demanded of a product changes when there
is a change in the price of the product

When the price of widgets falls from 5.00 BGN to 4.50 BGN, the
number of them bought increases from 200,000 to 230,000. What is
the PED?
A perfectly inelastic or elastic demand curve?
A perfectly elastic demand curve
 Inelastic demand and “Revenue boxes”

𝑎 >𝑐 Increasing the

∴ 𝑎+ 𝑏>𝑏+ 𝑐 price leads to a
higher/lower
revenue for the
firm.
 Elastic demand and “Revenue boxes”

𝑎 <𝑐 Increasing the

∴ 𝑎+ 𝑏<𝑏+ 𝑐 price leads to
a higher/lower
revenue for
the firm.
 Unit Elastic demand and “Revenue boxes”

𝑎=𝑐 Increasing the

price leads to
∴ 𝑎+ 𝑏=𝑏+𝑐 higher/lower
revenue for the
firm.
 Mathematical note on elasticity

When price drops When price drops

from 20 to 18, QD from 10 to 8, QD
increases from 60 to increases from 160 to
80. 180.

For QD: For QD:

(20/60)*100 = 33.3% (20/160)*100 = 12.5%

For P: For P:
(2/20)*100 = 10% (2/10)*100 = 20%

QD/P = 33.3%/10% QD/P = 12.5%/20%

= 3.3, which is elastic = 0.625, which is

inelastic
 Determinants of PED
• Number and closeness of substitutes – The more substitutes
a product has, the more/less elastic the PED will be.
• Necessity and definition of a product – If a product is
necessary, like food, demand will be very elastic/inelastic.
The definition of food, though, is very broad and can be
broken down to more elastic demand.
• Time period considered – As price changes, it takes time for
consumers to change buying habits. Therefore, PED is
inelastic/elastic in the short-run and more inelastic/elastic in
the long-run.
 PED and taxation
• Indirect taxes heavily affect products with elastic demand, and
indirect taxes would lead to a big fall in demand, and thus lead to
unemployment in the industry
• Therefore, governments tend to impose taxes on products with
inelastic demand.
 Cross-price elasticity of demand (XED)
• A measure of how much the demand for a product changes
when there is a change in the price of another product.
• Big petrol price increase affect on petrol cars and Tesla cars
• We need to thing about whether the other product is a
substitute or a complement.

% Δ𝑖𝑛𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑑𝑒𝑚𝑎𝑛𝑑𝑒𝑑 𝑜𝑓 𝑝𝑟𝑜𝑑𝑢𝑐𝑡 𝑋

𝑋 𝐸 𝐷=
% Δ 𝑖𝑛 𝑡h𝑒 𝑝𝑟𝑖𝑐𝑒 𝑜𝑓 𝑝𝑟𝑜𝑑𝑢𝑐𝑡 𝑌
 XED example
A burger place reduces the price of their burger from 2 BGN to 1.80
BGN, the number of pizza slices sold in the shop next door each week
falls from 400 to 380.
Complement or substitute?
XED?
-5%
-10%

+0.5
Cinema tickets and popcorn
• Cinema tickets half-price on Tuesday
• Popcorn sales increase by 25% on Tuesday
• Complement or substitute?
+25%
-50%
= -0.5
 Range of values for XED
Can be POSITIVE or NEGATIVE

Substitutes. Complements.
The closer substitutes
two products are, the
higher the value of XED.
For example, two types of
soft drink.

XED of 0 = unrelated goods

Visualisation of XED
 Income elasticity of demand (YED)
Measures how much the demand for a product changes when
there is a change in the consumer’s income.
Usually, an increase in income causes demand to increase.
Unless…?

% Δ 𝑖𝑛𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑑𝑒𝑚𝑎𝑛𝑑𝑒𝑑 𝑜𝑓 𝑡h𝑒 𝑝𝑟𝑜𝑑𝑢𝑐𝑡

𝑌 𝐸 𝐷=
% Δ 𝑖𝑛𝑖𝑛𝑐𝑜𝑚𝑒 𝑜𝑓 𝑡h𝑒 𝑐𝑜𝑛𝑠𝑢𝑚𝑒𝑟
Example
Average income increases from 60,000 BGN to 66,000 BGN and
demand for holidays increases from 2,500 to 3,000
Will holidays be a normal or an inferior good?
YED?

+2
 YED, PED, XPD
1. Average Spanish incomes increase from €100,000 to €105,000 and demand for
season tickets at Barcelona FC for increases from 25,000 to 30,000.
What is the YED for season tickets at Barcelona FC?
2. Season tickets for Manchester United FC increase from £950 to £104,500 and
demand falls from 10,000 to 9,500.
What is the PED for season tickets for Manchester United FC ?

3. Following the increase in price of season tickets for Manchester United FC,
would you expect the demand for season tickets for local rivals Manchester City
FC to:
increase by 10%, increase by 2%, not change, fall by 2% or. fall by 10%?

+4 -0.5 Why would a United fan buy a ticket to watch City?

 Range of values for YED
Can be POSITIVE or NEGATIVE Inferior goods.
Described by the Engel-
curve.
Normal goods.
0 < YED < 1 is income-inelastic.
Necessity goods like bread have
low income elasticity.

YED > 1 is income-elastic.

Superior goods like holidays
have high income elasticity.
 Elasticity of supply (PES)
• Price elasticity of supply (PES) is a measure of how much the
supply of a product changes when there is a change in the
price of the product.
% Δ 𝑖𝑛 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑠𝑢𝑝𝑝𝑙𝑖𝑒𝑑 𝑜𝑓 𝑡h𝑒 𝑝𝑟𝑜𝑑𝑢𝑐𝑡
𝑃𝐸𝑆=
% Δ 𝑖𝑛 𝑝𝑟𝑖𝑐𝑒 𝑜𝑓 𝑡h𝑒 𝑝𝑟𝑜𝑑𝑢𝑐𝑡
 Example
(Usually we can expect the
supply to rise as the price rises.)
In summer I realise I can sell my monthly sports
magazine for 5.50 BGN instead of 5.00 BGN.
I therefore increase the supply of my magazine
from 200,000 to 230,000.
PES?

+1.5 ++++++Positive++++++
 Perfectly inelastic supply curve
Possible in the
immediate time period
(very short run)
because firms can’t
increase supply
immediately. (Crops)
Until new factors of
production are
employed, their supply
curve is perfectly
inelastic.
Perfectly elastic supply curve

Common
with
agricultural
imports
Mathematical note on PES
S1 and S2 have a PES of 1 along their entire length.
Any supply curve going through the origin has an
elasticity of 1.

S3 has a PES value of less than 1 along its entire

length. Any supply curve starting from the x-axis
has an elasticity of less than 1.

S4 has a PES value of more than 1 along its entire

length. Any supply curve starting from the y-axis
has an elasticity of more than 1.