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Class Notes
Chapter 1: Introduction to Economics
Definition (Parkin&Begg): Economics is the social science that studies the choicesof
individuals, businesses, governments about
1- whatgoods and services to roduce,
!- howto roduce these goods and services,
"- for whomto roduce these goods and services#
Whatto roduce$
%oods: steel, comuters, cars, houses, etc#
ervices: insurance, hotels, transortation, education, retail and 'holesale trade, etc#
Howto roduce$
actors of roduction: and, abor, *aital, Entrereneurshi# and is natural
resources, ra' materials, 'ater, air# abor is the time and effort given b+ 'orkers#
*aital is the machiner+, euiment and buildings used during roduction#
For whomto roduce$ ho 'ill be able to bu+ goods and services$ .his deends
on consumers/ income and budget constraint#
1.1 Scarcity:
0uman beings have unlimited 'ants# e 'ant the best cars, cell hones, houses,
education, vacations, etc# But 'e cannot obtain all of our 'ants because our
resourcesare limited# e need mone+ and time to bu+ and eno+ these goods and
services (from consumer/s ersective)# o our resources are scarce. Economics
considers how prices and markets allocate scarce resources to unlimited wants of
the society.
Example1:.urkish societ+ and government 'ants to ut a comuter in ever+
classroom in rimar+ schools# .he government also 'ants to build a nuclear o'er
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lant# .his 'ill reduce .urke+/s energ+ bill of !2 billion 3D ever+ +ear for natural gas
and oil to other countries# But the government does not hae enou!h moneyto
reali4e both obectives (%ovt# has a budget)# %overnment has to choose bet'een:
1- utting a comuter in ever+ classroom in the countr+
!- building a nuclear o'er lant#
.he fact that government has to choose 'here to send its mone+ is called a
tradeoff# ike government, all firms and individuals alwaysface tradeoffs# .he+ have
to allocate their scarce resources to their most efficient use#
Example":ever+ consumer has a certain incomeand has to do a #ud!et#5s a
consumer, +ou cannot bu+ ever+thing +ou 'ant# or e6amle, if +our monthl+ income
is 1777 liras, and +ou have to a+ 877 liras for rent and other bills, then +ou have "77
liras to decide 'hat to bu+# et us sa+ a nice cell hone is "77 liras and a te6tbook is
27 liras# .hen +ou have to choose bet'een the te6tbook and the cell hone# .his is a
tradeoff# 0ere, the opportunity costof one cell hone is eual to 9 te6tbooks#
1." $pportunity Cost
%efinition:(Parkin) .he opportunity costof an action is the value of the ne6t-best
alternative action# hen there are onl+ t'o goods as in the e6amle of cell hone
and te6tbook, # *ost is eas+ to calculate#
Example1:et us sa+ ; have 1 . in m+ ocket# ; 'ant to drink a cu of tea and eat 1
cookie# 5 cu of tea is 7#92 . and 1 cookie is 1 .# *an ; bu+ both the tea and the
cookie 'ith m+ 1 .$
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Example":n unda+ morning, ; have three choices: slee, go ogging or have
breakfast 'ith friends# 5ssume that m+ best choice is to slee, then to go ogging and
last choice is to have breakfast# .hen the o# *ost of sleeing is to go ogging# #
*ost of ogging is to have breakfast# .o illustrate # *ost concet, let us introduce
the &roduction possi#ilities frontier#
1.' &roduction &ossi#ilities Frontier
ike a consumer cannot consume ever+thing she 'ants, an econom+ cannot
roduce an infinite amount of goods and services# Because the resources of an
econom+ like abor, and and *aital are fi6ed (scarce) at an+ given time#
Economists like to use modelsto illustrate ideas, so 'e use PP to illustrate scarcit+
and tradeoff#
FI()*E 1(Parkin): Production Possibilities rontier sho's the boundar+ bet'een
'hat an econom+ can roduce and 'hat it cannot roduce#
9
15
55
5
5
1 32 4 5
A
B
D
E
F
C
Z
attainable
unattainable
pizzas (millions)
G
CDs (millions)
12
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Possibilit+: Pi44as (millions) *Ds(millions)5 7 12B 1 1?* ! 1!D " @E ? 2 2 7
.5BE 1
Idea:5s 'e 'ant to roduce more i44as, 'e must roduce less *Ds, because our
resources are limited (fi6ed)#Attainableoints are the oints inside and on the curve#
.he+ sho' oints that this econom+canroduce# nattainableoints are oints
be+ond the PP curve and these oints cannot be roduced# Points on the curve are
called efficient# .his means all of the resources are sent on roduction# 5t a oint
such as A, some of the resources are not used efficientl+, so 'e call such oints
inefficient# 5t oint A, 'e can roduce both more i44as and more *Ds# f 'e are on
oint D and 'e 'ant to increase *D roduction, the onl+ 'a+ is to decrease i44a
roduction# o oint D is efficient and A is not#
$pportunity cost: 5t oint *, 'e roduce ! i44as and 1! *Ds# f 'e 'ant to
increase i44a roduction from ! to ", 'e cannot do this 'ithout decreasing *D
roduction from 1! to @# .his is because a oint such as % is imossible to roduce#
.hen the oortunit+ cost of 1 i44a is " *Ds# ne i44a costs us " *Ds# .o get 1
i44a, 'e give u " *Ds# e come to oint D# e can also calculate the oortunit+
cost of one *D in terms of i44as# 5t oint D, increasing *Ds b+ " costs us 1 i44a#
o oortunit+ cost of 1 *D is 1=" i44a ("*D>1i44a, 1*D>1="i44a)#
Increasin! opportunity cost: *ost of 1 i44a is not constant# rom oint D, if
'e 'ant to increase i44as again b+ 1, then 'e have to give u ? *Ds and come to
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oint E# .hen the oortunit+ cost of 1 i44a becomes ? *Ds#
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roduce each good and 'ho 'ill be able to bu+ the goods that are roduced# .his
lanning is ver+ comlicated 'hen +ou think of millions of goods and services to be
roduced# ;f eole start to like i44as more in a centrall+ lanned econom+, then
the+ have to 'rite letters to the government and ask for more i44a restaurants in
their to'n# ;t 'ould be a ver+ inefficient s+stem# Prices do not signal and influence
bu+er and seller behavior in a centrall+ lanned econom+#
;n a free market econom+, rices are ver+ imortant signals that determine behavior
of bu+ers and sellers# hat about the last global financial crisis that hit 3, Euroe
and Gaan$ hat 'e are learning from this crisis is mar-etsshould not #e
completely free from !oernment interention# Hules and regulations imosed b+
the government in the financial sector and the other sectors are necessar+#
1. /icroeconomics and macroeconomics
Economics has t'o broad branches: microeconomics and macroeconomics#
/icroeconomics studies the economic decisions of an individual, firm or grous of
firms and individuals# 5lso, microeconomic roblems are specific to an industr+
(>sector) or a commodit+# or e6amle, microeconomic uestions include:
1- h+ are eole bu+ing more DIDs and less movie tickets$
!- 0o' 'ould a ta6 on internet shoing affect e-Ba+$
"- hat are the effects of a strike in .urkish 5irlines on tourism industr+$
?- hat is the effect of the strong lira on te6tile industr+$
/acroeconomicsstudies the econom+ as a 'hole# acro does not consider an
individual or firm or industr+ (sektJr)# acroeconomics studies the .urkish Econom+
or another countr+/s econom+, or the global econom+# acro uestions include:
1- %ross Domestic Product: .his is the total value of all goods and services
roduced in a countr+ in a +ear# %DP er caita sho's the average income
of a erson in a countr+#
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!- *onsumer Price ;nde6: 5verage rice of all goods and services that a
consumer bu+s# ;nflation is the rate of change (increase) of *P;#
"- *an the *entral Bank of .urke+ make ever+one richer b+ rinting mone+
and droing from helicoters$
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Chapter ": 0asics of Supply and %emand
".1 /ar-et
5 market is an arrangement 'here bu+ers and sellers of a good or service meet#ometimes this is a lace, like a vegetable-fruit Ba4aar or the suermarket#
ometimes bu+ers meet sellers on the telehone or the internet# e categori4e
markets according to the good, for e6amle Kmarket for milkL or Kmarket for tobaccoL
or Kmarket for stock e6change ;FBL# arkets can be defined narro' or 'ide: market
for milk versus market for food#
"." %emand
Demand is the total uantit+ of a good that bu+ers 'ant to bu+ at ever+ rice during
a given time eriod# Demand e6lains #ehaior of #uyersconsumers in a market#
n this .5BE !, the demand for a chocolate bar is given#
.5BE !
Point Price(liras er
bar)
2uantity %emanded3millions of #ars per
wee-45 7#2 !!B 1#7 12* 1#2 17D !#7 8E !#2 2
5he law of demand: rom .able !, 'e can see that as the rice goes u, bu+ers
'ant to bu+ less# .his is the la' of demand: ther things constant, the higher the
rice of a good, the smaller is the uantit+ demanded and the lo'er the rice of a
good, the greater is the uantit+ demanded#
%emand cure isthe grahical reresentation of a demand relationshi bet'een
rice and uantit+ demanded#
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;%3HE !
6 %emand7 ersus 68uantity demanded7: .he term demand refers to the entire
relationshi bet'een the rice of a good and the uantit+ demanded at eery price#
Demand is reresented as a demand curve# .he 8uantity demanded of a good is
the uantit+ that consumers 'ant to bu+ at a particular price# Muantit+ demanded is
a oint on the demand curve#
Chan!e in demand: ;f some other factor other than rice changes the demand
behavior of consumers for a good, then the demand curve shifts.hen demand
curve shifts, this means that uantit+ demanded changes at ever+ rice# igure " and
.able " illustrate an increase in demand for chocolate# 0ere, t+ of chocolate
demanded increases b+ 17 bars at eery price#
Point Price(liras er
bar)
Muantit+Demanded
(millions of barser 'eek)
Point Muantit+demanded
5 7#2 !! 5/ "!B 1#7 12 B/ !2* 1#2 17 */ !7
D !#7 8 D/ 18E !#2 2 E/ 12
"#5
1#5
2#"
1#"
251"5 15 2"
2#5
3#"E
$uantit% &eman&e&(million ba's)
D
C
B
A
p'ie (li'asba')
&eman& *o' ene'+%
ba's
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5a#le ' : 9n Increase in %emand
FI()*E': 9n Increase in %emand 3demand cure shifts to ri!ht4
/oement alon! the demand cure: ;f all other factors are constant and onl+ rice
of the good changes, then 'e move along the original demand curve# or e6amle,
starting 'ith the original demand, if the rice of chocolate increases from 1 lira to !
liras, then uantit+ demanded decreases from 12 to 8# ;n this case demand curve
does not shift because the change is a rice change#
"#5
1#5
2#"
1#"
251"5 15 2"
2#5
3#"E
$uantit% &eman&e&(million ba's)
D
C
B
A
p'ie (li'asba')
32
E,
D,
C,
B,
A,
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Factors that chan!e demand 3and shift the demand cure4:
.he follo'ing nonprice factors cause demand curve to shift. ;f rice of the good
changes, demand curve does not shift, 'e move along the curve#
1 &rices of related !oods: *onsider the market for (gas) ben4ene# ;f the rice
of P% decreases, all other things constant, 'hat haens to demand for
ben4ene$ Demand for ben4ene decreases because eole 'ill bu+ cars that
oerate 'ith P% instead of ben4ene# P% and ben4ene are thus substitute
!oods# 5 substitute is a good that can be used in lace of another good (E6: a
.o+ota and a 0onda, .ea and *offee)#
;f the rices of cars decrease, 'hat haens to demand for ben4ene$ Demand for
ben4ene increases because ben4ene and cars are complement goods# 5
comlement is a good that is used together 'ith another good (E6: tea and
sugar)#
" Income:3suall+ 'hen income increases, demand for most goods increases#
.hese are called )ormal goods like cars, 'ashing machines, etc# ;f the
demand for a good increases 'hen incomes rise, this good is called a normal
!ood # ometimes, 'hen their income increases, eole bu+ less bread, or
less bus tickets (the+ bu+ a car instead)# 0ere bread and bus tickets are called
inferiorgoods# ;f the demand for a good decreases 'hen incomes rise, this
good is an inferior good#
' Expected future prices. ;f ever+bod+ starts to e6ect the rice of ben4ene to
increase ne6t 'eek on onda+, 'hat 'ould the+ do$ .he+ 'ould go and fill
their tanks toda+# Demand for ben4ene toda+ increases# imilarl+, if ever+one
starts to e6ect the rice of latos to decrease ne6t month, then +our
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demand for latos toda+ decreases# Peole 'ait to bu+ latos at a cheaer
rice# o a change in rice e6ectations influence toda+/s demand#
, 5astes fashion# Peole demand more vegetables toda+ because of health
concerns# imilarl+ more sring 'ater is sold toda+ because most eole do
not drink ta 'ater toda+# !7 +ears ago man+ eole drank ta 'ater and
demand for sring 'ater 'as ver+ small#
&opulation !rowthcauses demand for man+ goods to rise# *omare
demand for cars in .urke+ toda+ and !7 +ears ago#
; Season. ood demand increases during Hamadan, demand for airline travel
increases during summer# Demand for electricit+ and P% increase in 'inter# .hese
effects are called seasonalit+#
".' Supply
'upply is the total uantit+ of a good that sellers 'ant to sell at ever+ rice
during a given time eriod# ul+ e6lains the behavior of sellers in a market#
/uantity supplied of a good or service is the amount that sellers 'ant to sell at
a articular rice during a given time eriod# .able ? sho's the sul+ of
chocolate#
Point Price 2uantitysupplied
5 7#2 7B 1#7 9* 1#2 17D !#7 1"E !#2 12
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FI()*E ,
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FI()*E
%eterminants of supply:actors other than rice that influences sul+ of a good#
1- 5echnolo!ical improements, ;t becomes easier to roduce goods#
;ncreases sul+#
2- &rices of inputs, ;f rice of electricit+ is larger, 'hat haens to the sul+ of
bathrobes$ ;f rice of et fuel increases, 'hat haens to sul+ of airline
tickets$ Decreases sul+#
3- Expected future prices:;f the rice of a good is e6ected to rise in the future,
then sul+ decreases toda+ and increases in the future# or e6amle, if the
food traders e6ect the rice of olive oil to increase ne6t month, then the+
store more olive oil and sell a small amount no'# Because the+ can make
much more rofit ne6t month#
4- 5he num#er of suppliers:.hink of 17 +ears ago# Price of an air conditioner
'as more than 1777 3D# .oda+ +ou can bu+ the same 5* for 277 3D# .his
is because ten +ears ago onl+ imorted 5*s 'ere sold in .urke+# .oda+, man+
"#5
1#5
2#"
1#"
251"5 15 2"
2#5
3#"
E
$uantit%supplie&(million ba's)
D
CB
A
p'ie (li'asba')
suppl% o* ene'+% ba's
ne- suppl%
3"
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comanies including Iestel and 5rNelik are roducing and selling 5*s# o
sul+ of 5*s is much greater than 17 +ears ago#
"., /ar-et E8uili#rium:
Euilibrium is a situation 'here uantit+ sulied euals uantit+ demanded in a
market# ;n a free market, price balances demand and sul+ and brings the market
to an euilibrium#
E8uili#rium priceis the rice at 'hich uantit+ sulied euals the uantit+
demanded# E8uili#rium 8uantityis the uantit+ bought and sold at the euilibrium
rice#
Surplus Case
For example, if the current rice of otatoes is 7#2 lira=kg, and if the uantit+ sulied
is 177 tons this 'eek, and uantit+ demanded is O7 tons, then is this market at
euilibrium$ hat do +ou e6ect to haen to the rice$
.his market is not at euilibrium because there is a surplus of potatoes# nl+ O7
tons of otatoes 'ill be sold# hen otato sellers cannot sell the remaining !7 tons,
the+ start to cut rice# 5lso otato farmers decrease otato roduction# hen sellers
cut rices belo' 7#2 lira, uantit+ demanded increases and surlus amount
decreases belo' !7 tons# .his rocess goes on until surlus amount becomes 4ero#
'o in case of a surplus, price decreasesso that 0uantity demanded balances
0uantity supplied.
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!#2 2 12 17590usts(decreases
or increases) to bring the market into euilibrium# hen there is surlus, sellers 'ill
cut rices to eliminate unsold stocks# hen there is a shortage, then sellers 'ill
"#5
1#5
2#"
1#"
251"5 15 2"
2#5
3#"
$uantit%
supplie&(million ba's)
p'ie (li'asba')
suppl% o* ene'+% ba's
&eman& *o' ene'+%
ba's
E$uilib'ium
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increase rices and some bu+ers are still 'illing to a+ the higher rice for chocolate#
.hese rocesses sho' thatprice coordinatesthe plans of buyers and sellers so that
market moves toward e0uilibrium.
". &redictin! Chan!es in &rice and 2uantity
9n increase in demand:
ee igure 8 and .able 8# tarting from euilibrium osition, let us assume that
demand for chocolate increases for some reason# a+be because it is the
Ialentine/s Da+#
5t the current rice of 1#2 lira, there is a shorta!eof 17 m chocolate in the market#
.his causes rice to increase# hen rice increases, uantit+ demanded decreases
and uantit+ sulied increases# Price increases until the shortage becomes 4ero#
5fter some time, shortage is 4ero and the market is at euilibrium#
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FA()*E @
ince sul+ has increased, at the initial euilibrium rice of 1#2 liras, there is a
surlus of chocolate# .his causes the rice to fall# 5s the rice falls, t+ demanded
increases and uantit+ sulied decreases# .his causes the surlus to shrink# .his
rocess stos at the ne' euilibrium rice of 1#7 liras# 5t the ne' ebm, 12 m bars
are bought and sold# o ne' euilibrium t+ is 12 m bars#
Summary: hen sul+ of a good increases, its rice decreases and its uantit+
sold increases# E6: ;n .urke+, sul+ of 5*s have increased in the last five +ears# 5*
rices have fallen a lot and t+ of 5*s sold have increased#
*onversel+, if sul+ of a good decreases, then rice increases and t+ sold
decreases#
.here are 9 combinations of sul+ and demand changes# 5s an e6ercise, tr+ to see
'hat haens to euilibrium rice and uantit+ in each case#
1- *hange in demand, no change in sul+,
!- *hange in sul+, no change in demand
"- ;ncrease both in demand and sul+
"#5
1#5
2#"
1#"
251"5 15 2"
2#5
3#"
$uantit%supplie&(million ba's)
p'ie (li'asba')
ne- suppl%
3"
ol& suppl%
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?- Decrease both in demand and sul+
2- Decrease in demand and increase in sul+
9- ;ncrease in demand and decrease in sul+
Chapter ': 9pplications of Supply and %emand
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3.1 &rice controls:
%overnment intervenes into free markets in the form ofprice ceilings andprice floors.
3.1.1 &rice Floor
5 rice floor is a minimum rice set and enacted b+ the government for a good or
service# ;t makes the sale of a good or service belo' a certain rice illegal# .he
.urkish govt# sets price floorsfor several food roducts# ome e6amles are
ha4elnuts, tobacco, tea and 'heat# Why does the !ot. hae such a policy+In
order to support the farmers. 3suall+, if a grou of roducers is a member of a
union or the+ are a oliticall+ imortant grou, the+ have !reater #ar!ainin! power
and force the government to olicies that benefit its members# igure @ sho's the
effect of a rice floor in ha4elnut market#
;%3HE @: Price loor
or e6amle, assume that the ebm rice for ha4elnuts is " liras# or a rice floor to
hae a real effect 3#e 6#indin!74, it must be above the ebm rice# 5 rice floor
belo' " liras 'ould have no real effect on the market outcome# et us assume that
after negotiations bet'een the govt# and ha"elnut producers confederation, the price
.
li'as/+
0 (/+s)
D
e$bm p'ie3
p'ie *loo'5
su'plus amount
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flooris set to be 2 liras=kg# .his olic+ causes a surlus amount of ha4elnuts as
sho'n on the igure# hat haens to the surlus amount of ha4elnuts$ 0o' does
the govt# kee the rice high and revent the market from moving to'ard ebm$ 1y
buying the surplus amount.ometimes the govt# is able to sell this amount, but most
of the time, sells it for a rice a lot less than the rice it has aid for it# .his causes
the govt# institutions like iskobirlik to have deficits# ho a+s for these losses$ .he
treasur+ a+s, and so the ta6a+ers a+#
5nother rice floor in the labor market is the minimum wa!e# B+ the same reasoning
as above, minimum 'age causes a surlus of labor 'hich is also called
unemployment# ho' on the same figure#
'.1." &rice Ceilin!
5 rice ceiling is a maximum priceset and enacted b+ the government for a good or
service# ;t makes the sale of a good or service above a certain rice illegal# *onsider
the price ceilin!for bread, 7#27 . er loaf#h+ does the government think a rice
ceiling is necessar+$ %ovt# 'ants to suort oor consumers through this olic+#
igure 17 sho's the effect of a rice ceiling on bread#
.
li'aloa*
0 (loaes)
D
e$bm p'ie
"#5
p'ie eilin+
"#
so'ta+e amount
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;%3HE 17
5ssume the ebm rice of bread is 7#8 lira# 5 binding rice ceiling must be belo' the
ebm rice# !therwise it would have no effect on the market..he resultof the price
ceilin!is that there is a shorta!e of #readin the market# hen there is a shortage
of a good, it must be rationed 'ith some kind of mechanism# hich bu+ers 'ill be
able to get the limited amount of bread$ During the ;; +ears, bread 'as
distributed 'ith a KkarneL, a ration couon that gives ever+ erson a right to one loaf
er da+# ;f 'e assume that bread is distributed according to Kfirst-come, first-servedL
rincile as it is the case toda+, then eole have to 'ait in line to get bread# 5lso,
+ou cannot find the regular bread after 8m in the evening# .his is because the
bakeries do not 'ant to sell the chea bread the+ bake onl+ a limited uantit+# .he+
bake other t+es like francala that there is no rice restriction and so more
e6ensive# o rice ceilings have un'anted conseuences like this#
*ent ceilin!:%ood for the oor# ho' the short term and long term effects b+
dra'ing t'o sul+ curves# ;n the short term, sul+ curve is stee because it is
difficult for houseo'ners to resond to the olic+ uickl+# ;n the long term, available
housing for rent ma+ decrease as houseo'ners start to use their houses for other
more rofitable uroses# .his is an e6amle of un'anted conseuences of rice
controls#
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;%3HE 11
hortage of houses available for rent increases in the long term# e 'ill have similar
results if the government decides to enact a la' that restricts the rate of increase of
rents, like 2Q er +ear#
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Price elasticity of demand (PED) measures the sensitivit+ of uantit+ demanded to
changes in rice# PED is defined as the ercentage change in the uantit+ of a good
demanded divided b+ the corresonding ercentage change in its rice#
p'iein3an+e6
&eman&e&$t%in3an+e6=PED
Point Price (lira=ticket) Muantit+ of ticketsdemanded (1777)
Price Elasticit+ ofDemand
5 1!2 7B 177 !7 * 82 ?7 - ?D 9!#2 27 - 1#2E 27 97 -1 !2 O7 - 7#98% 7 177 -7#!2
590
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5B
Price change of 1!2177 is a ercentage change of (-!2 = 1!2) R 177 > -!7Q#
*orresonding Mt+ change of 7!7 is a ercentage change of
(!7 = 7) R 177 > + # .hen PED > #
B*
Price change: 17782 is (-!2 = 177)R177 > -!2Q
Mt+ change: !7?7 is (!7=!7)R177 > 177Q# .hen the PED > 177=-!2 > -?#
DE
Price change: 9!#227 is (-1!#2=9!#2)R177 > -!7Q
Mt+ change: 2797 is (17=27)R177 > !7Q # .hen PED > -1#
Demand is elasticif SPEDS T 1# Demand is inelasticif SPEDS U 1# Demand is unit
elasticif SPEDS > 1# ;n our e6amle, demand is elastic through oints 5, B and *#
Demand is inelastic through oints E, and %# Demand is unit elastic at oint D#
Why is elasticity important+*onsider +ourself as a manager of a football club, sa+
%alatasara+# .able 17 sho's demand for tickets and total revenue# Cour obective is
to ma6imi4e .otal Hevenue from ticket sales 'here
5otal *eenue 35*4 B &rice 3&4 Num#er of tic-ets sold 324
Price (lira=ticket) Muantit+ oftickets
demanded(1777)
Price Elasticit+of Demand
.otalHevenue
1!2 7 7
26
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177 !7 !77782 ?7 - ? "777
9!#2 27 - 1#2 "1!227 97 -1 "777!2 O7 - 7#98 !777
7 177 -7#!2 7
590
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echanical Engineering Products 1#"7urniture 1#!9otor Iehicles 1#1?.ransortation services 1#7"
&rice Inelastic %emand%as, Electricit+ and ater 7#@!*hemicals 7#O@Drinks 7#8O*lothing 7#9?.obacco 7#91Banking and ;nsurance 7#290ousing 7#225gricultural and ish Products 7#?!Books, aga4ines, ne'saers 7#"?ood 7#1!
il 7#72590
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difference bet'een short term and long term resonses, let us consider the 1@8"
oil crisis#
$il price shoc- of 1=?'?,
5PE* (rgani4ation of 5rab Petroleum E6orting *ountries) agreed to restrict oil
sul+ to 3## and estern Euroe in resonse to 1- estern ressures for chea
crude oil, !- .heir suort for ;srael# igure 17 sho's the short-term and long-term
effects of this#
%3HE 1": Elastic and inelastic demands
In the shortterm 31 year4, rice of crude oil had uadruled b+ 1@8?# .his is
because demand for oil is very inelastic in the short term, elasticity is around 7#72# 5s
sho'n on art (a) of igure 1", the decrease in the sul+ of crude oil led to a large
increase in its rice but a small decrease in t+ of oil sold# .his means that the
revenue of PE* countries increased ver+ sharl+ 1 +ear after the oil embargo#
But in the lon!term as the time passed, consumers 'ere better able to substitute
a'a+ from oil b+ bu+ing smaller cars, use ublic transortation, and use alternative
1""$uantit% &eman&e&
(ba''els)
A
p'ie (&olla'sba''el)
"
inelasti &eman&(a)elasti &eman&(b)
D
D
,
,
D
D
,
,
29
p'ie (&olla'sba''el)
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energ+ sources such as natural gas, nuclear o'er, 'ind and 'ater# 3se aer bags
instead of lastic bags, etc# $emand is much more elastic in the long6term than in the
short6term. o in the long-term, the demand curve is much flatter as in art (b) of
igure 17# 5s a result, the same fall in the sul+ of oil roduced a small rice
increase but a large decrease in t+ of oil sold in the long-term# .hen the PE*
revenues decreased a lot as time assed# .he real rice of crude oil decreased back
to levels close to the re-crisis levels in 1@O9#
5nother factor that contributed to the revenue decline 'as that oil roduction made
b+ non-PE* countries significantl+ increased in the long-term# .his resonse b+
non-PE* countries made the long-term sul+ of oil more elastic# PE* revenues
decreased further# ;t 'as easier to kee rices high in the H than in H#
Cear: *rude oil rice change Q
8"-8? 27
8@ 1?
O7 "?
O1 "?
O! -17
O" -17
O? -17
O2 -17
O9 -?2
6Can !ood news for farmin! #e #ad news for farmers+7
*onsider market for 'heat# heat has an inelastic demand# 5ssume initiall+ the
market is at ebm#
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farming t'o times the old amount# ul+ curve 'ill shift right# .he ne' ebm 'ill be
at some oint 'ith a lower price and a hi!her 8ty# .his is good for consumers
because the+ are able to bu+ 'heat & bread cheaer# But is this good for 'heat
roducers$ .he ans'er deends on PED#
3nfortunatel+, ..5 HEIE
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inomein3an+e6
&eman&e&$t%in3an+e68ED=
*onsider demand for tomatoes, lato comuters and bus tickets# hich one do +ou
think has a larger income elasticit+ of demand$ *onsider the case 'hen +our income
rises from 1777 liras a month to 2777 liras a month# 0o' much does +our demand
for tomatoes increase$ 0o' much does +our demand for a tri to Paris increase$
0o' about bus tickets$ Luxury goodshave an ;ED larger than one# 5irline travel is
a lu6ur+ good# Necessity goodshave an ;ED less than one# .omatoes, tobacco,
clothing are necessit+ goods#
Normal goodshave a positie income elasticit+ of demand# ost goods are normal#
nferior goodshave a negative income elasticit+ of demand (;ED)# Bus tickets are
e6amles of inferior goods# .able 1! sho's some real 'orld income elasticities of
demand#
Income Elastic %emand5irline travel 2#O!ovies "#?1oreign travel "#7OElectricit+ 1#@?Hestaurant meals 1#910aircuts 1#"95utomobiles 1#78
Income Inelastic %emand.obacco 7#O9
5lcoholic Drinks 7#9!urniture 7#2"
32
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*lothing 7#21