copyright 2008 the mcgraw-hill companies 18-1 price elasticity of demand total revenue test...
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Copyright 2008 The McGraw-Hill Companies18-1
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
18Extensions of Demand and Supply Analysis
Copyright 2008 The McGraw-Hill Companies18-2
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Chapter Objectives• Price Elasticity of Demand and
How It Can Be Applied• The Usefulness of the Total
Revenue Test for Price Elasticity of Demand
• Price Elasticity of Supply and How It Can Be Applied
• Cross Elasticity of Demand and Income Elasticity of Demand
• Consumer Surplus, Producer Surplus, and Efficiency Losses
Copyright 2008 The McGraw-Hill Companies18-3
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Price Elasticity of Demand• Measuring
Responsiveness to Price Changes
• Relatively Elastic or Inelastic
• Price-Elasticity Coefficient and Formula
Percentage Change in QuantityDemanded of Product X
Percentage Change in Priceof Product X
Ed =
O 18.1
Copyright 2008 The McGraw-Hill Companies18-4
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Price Elasticity of Demand
• Formula RestatedChange in Quantity Demanded of X
Original Price of X
Ed =
Change in Price of X
Original Quantity Demanded of X
÷
• Using Averages• Midpoint Formula
Change in QuantityEd = Sum of Quantities/2
÷Change in Price
Sum of Prices/2
W 18.1
Copyright 2008 The McGraw-Hill Companies18-5
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Price Elasticity of Demand• Why Use Percentages?• Elimination of the Minus
Sign• Interpretations of EdElastic Demand
Inelastic Demand
Unit Elasticity
Ed = .04.02 = 2
Ed = .01.02 = .5
Ed = .02.02 = 1
Copyright 2008 The McGraw-Hill Companies18-6
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Price Elasticity of DemandExtreme CasesPerfectly Inelastic Demand
Perfectly Elastic Demand0
P
Q
P
0Q
D1
D2
PerfectlyInelasticDemand(Ed = 0)
PerfectlyElasticDemand(Ed = ∞)
Copyright 2008 The McGraw-Hill Companies18-7
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
$3
2
1
0 10 20 30 40 Q
P
The Total Revenue Test• Total Revenue (TR) TR = P x Q Elastic Demand
a
b
D1
W 18.2
Copyright 2008 The McGraw-Hill Companies18-8
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
$4
3
2
1
0 10 20 Q
P
The Total Revenue Test• Total Revenue (TR) TR = P x Q Inelastic Demand
c
d
D2
W 18.2
Copyright 2008 The McGraw-Hill Companies18-9
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
$3
2
1
0 10 20 30 Q
P
The Total Revenue Test• Total Revenue (TR) TR = P x Q Unit-Elastic
e
fD3
W 18.2
Copyright 2008 The McGraw-Hill Companies18-10
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Elasticity on a Linear Demand Curve
1
2
3
4
5
6
7
8
8
7
6
5
4
3
2
1
5.00
2.60
1.57
1.00
0.64
0.38
0.20
$8,000
14,000
18,000
20,000
20,000
18,000
14,000
8,000
Elastic
Elastic
Elastic
Unit Elastic
Inelastic
Inelastic
Inelastic
(1)Total Quantity of
Tickets DemandedPer Week, Thousands
(2)Price Per Ticket
(3)Elasticity
Coefficient (Ed)
(4)Total Revenue
(1) X (2)
(5)Total-Revenue
Test
]]]]]]]
]]]]]]]
Price Elasticity of Demand for Movie Tickets as Measured by the ElasticityCoefficient and the Total-Revenue Test
Graphically…
G 18.1
Copyright 2008 The McGraw-Hill Companies18-11
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Price Elasticity and the Total-Revenue Curve
0 1 2 3 4 5 6 7 8
0 1 2 3 4 5 6 7 8
Quantity Demanded
Quantity Demanded
Pri
ceT
ota
l Rev
enu
e(T
ho
usa
nd
s o
f D
olla
rs)
$201816141210
8642
$87654321
a
bc
de
fg
h
ElasticEd > 1
Unit ElasticEd = 1
InelasticEd < 1
ElasticEd > 1
Unit ElasticEd = 1
InelasticEd < 1
D
TR
Copyright 2008 The McGraw-Hill Companies18-12
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Determinants of Price Elasticity of Demand
• Substitutability• Proportion of Income• Luxuries versus
Necessities• Time• Applications:
–Large Crop Yields–Excise Taxes–Decriminalization of Illegal
Drugs
Copyright 2008 The McGraw-Hill Companies18-13
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
P
Q
Price Elasticity of Supply
O 18.2Percentage Change in Quantity
Supplied of Product X
Percentage Change in Priceof Product X
Es =
Unit Elastic Supply Es = 1Market Period:Not Enough Time to Shift Resources
D1 D2
Sm
Q0
Pm
P0
GreatestPrice
Impact
Copyright 2008 The McGraw-Hill Companies18-14
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Price Elasticity of Supply
O 18.2Percentage Change in Quantity
Supplied of Product X
Percentage Change in Priceof Product X
Es =
Inelastic Supply Es < 1 Short Run:Resources Not Easily Shifted to Alternative Uses
P
Q
D1 D2
Ss
Q0
Ps
P0
Qs
LowerPrice
Impact
Copyright 2008 The McGraw-Hill Companies18-15
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Price Elasticity of Supply
O 18.2Percentage Change in Quantity
Supplied of Product X
Percentage Change in Priceof Product X
Es =
Elastic Supply Es > 1Long Run:Resources Easily Shifted to Alternative Uses
P
Q
D1 D2
Sl
Q0
Pl
P0
Ql
LeastPrice
Impact
Copyright 2008 The McGraw-Hill Companies18-16
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Price Elasticity of Supply
• Applications–Antiques and Reproductions
–Volatile Gold Prices
Copyright 2008 The McGraw-Hill Companies18-17
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Cross Elasticity of Demand
• Substitute Goods – Positive Sign
• Complementary Goods- Negative Sign
• Independent Goods – Zero or Near-Zero Value
Percentage Change in QuantityDemanded of Product X
Percentage Change in Priceof Product Y
Exy =
Copyright 2008 The McGraw-Hill Companies18-18
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Income Elasticity of Demand
• Normal Goods –
Positive Sign
• Inferior Goods-
Negative Sign
• Insights into the Economy
Percentage Change in QuantityDemanded
Percentage Change in IncomeEi =
Copyright 2008 The McGraw-Hill Companies18-19
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Consumer and Producer Surplus
Consumer Surplus
D
Pri
ce
(P
er B
ag
)
P1
Q1
Quantity (Bags)
ConsumerSurplus
Equilibrium Price = $8
O 18.3
Copyright 2008 The McGraw-Hill Companies18-20
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Consumer and Producer Surplus
Producer Surplus
SP
ric
e (
Per
Ba
g)
P1
Q1
Quantity (Bags)
ProducerSurplus
Equilibrium Price = $8
Copyright 2008 The McGraw-Hill Companies18-21
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Consumer and Producer Surplus
Efficiency Revisited
D
SP
ric
e (
Per
Ba
g)
P1
Q1
Quantity (Bags)
ConsumerSurplus
ProducerSurplus
Equilibrium Price = $8
W 18.3
Copyright 2008 The McGraw-Hill Companies18-22
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Consumer and Producer Surplus
Efficiency Revisited
D
SP
ric
e (
Per
Ba
g)
P1
Q1
Quantity (Bags)
EfficiencyLosses
Q2 Q3
Efficiency Losses (Deadweight Losses)
Copyright 2008 The McGraw-Hill Companies18-23
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Elasticity and Pricing Power:Last
Word
Why Different Consumers Pay Different Prices
• All Buyers in a Highly Competitive Market Pay the Same Price Regardless of Their Elasticities
• Difficulty in Applying Different Prices
• Observe Differences in Group Elasticities– Business Travelers– Leisure Travelers– Discounting for Children– Different Net Prices for College
Tuition
Copyright 2008 The McGraw-Hill Companies18-24
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
Key Terms• price elasticity of de
mand• midpoint formula• elastic demand• inelastic demand• unit elasticity• perfectly inelastic d
emand• perfectly elastic de
mand• total revenue test (T
R)• total-revenue test
• price elasticity of supply
• market period• short run• long run• cross-elasticity of d
emand• income elasticity of
demand• consumer surplus• producer surplus• efficiency losses (d
eadweight losses)
Copyright 2008 The McGraw-Hill Companies18-25
Price Elasticity of DemandTotal Revenue TestElasticity on a Linear Demand CurvePrice Elasticity and the Total-Revenue CurveDeterminants of Price Elasticity of DemandPrice Elasticity of SupplyCross ElasticityIncome ElasticityConsumer and Producer SurplusLast Word
Key Terms
End Show
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Consumer BehaviorAnd UtilityMaximization