Elasticity and its application (KINH tế VI mô SLIDE)

3 Elasticity and Its Application Overview The Elasticity of Demand  The price elasticity of demand  The income elasticity of demand  The cross-price elasticity of demand The Elasticity of Supply The Elasticity • Elasticity – Measure of the responsiveness of quantity demanded or quantity supplied to one of its determinants 1.The Elasticity of Demand 1.1 Price elasticity of demand 1.1.1 Definition: Measure of how much quantity demanded of a good responds to 1% change in the price of that good EDp = %△QD /%△P – Measures how willing consumers are to buy less of the good as its price rises The Elasticity of Demand • Elastic demand • Quantity demanded responds substantially to changes in the price • Inelastic demand • Quantity demanded responds only slightly to changes in the price The Elasticity of Demand 1.1.2 Determinants of price elasticity of demand – Availability of close substitutes – Necessities vs luxuries – Definition of the market – Time horizon The Elasticity of Demand 1.1.3 Computing the price elasticity of demand Use absolute value (drop the minus sign) – Arc-elasticity of demand: Midpoint method (Q − Q )/[(Q2 + Q1 )/ ] • Two points: (Q 1, P1) and (Q22, P2) Price elasticityof demand= (P2 − P1 )/[(P2 + P1 )/ ] The Elasticity of Demand E.g PA = 25, QA = 150 PB = 12, QB = 320 What is the AB arc elasticity of demand? P A PA B PB QA QB Q The Elasticity of Demand 1.1.3 Computing the price elasticity of demand - Point-elasticity of demand • One points (Q*, P*) E D P %∆Q dQ / Q dQ P P = = = × = Q' ( p) × %∆P dP / P dP Q Q E.g Demand curve Q = 50- 3P What is the elasticity of demand at the point of P = The Elasticity of Demand 1.1.4 Variety of demand curves (a) Demand is perfectly inelastic • Elasticity = • Demand curve - vertical (b) Demand is inelastic • Elasticity < (c) Demand has unit elasticity • Elasticity = 10 The Elasticity of Demand 1.2 Income elasticity of demand EDI – Measure of how much the quantity demanded of a good responds to 1% change in consumers’ income EDI = %△QD / %△I – Normal goods: positive income elasticity • Necessities: smaller income elasticities • Luxuries: large income elasticities – Inferior goods: negative income elasticities 22 The Elasticity of Demand 1.2 Income elasticity of demand: EDI – Normal goods: • Necessities: • Luxuries: – Inferior goods: 23 The Elasticity of Demand 1.3 Cross-price elasticity of demand – Measure of how much the quantity demanded of one good X responds to 1% change in the price of another good Y Exy = %△QDx / %△Py 24 The Elasticity of Demand 1.3 Cross-price elasticity of demand • Substitutes: • Complements: • Independents: 25 2.The Price elasticity of supply 2.1 Definition: Measure of how much the quantity supplied of a good responds to 1% change in the price of that good ESp = %△QS /%△P – Depends on the flexibility of sellers to change the amount of the good they produce 26 The Elasticity of Supply • Elastic supply • Quantity supplied responds substantially to changes in the price • Inelastic supply • Quantity supplied responds only slightly to changes in the price 27 The Elasticity of Supply 2.2 Determinant of price elasticity of supply – Time period – Substitutions of inputs: 28 The Elasticity of Supply 2.3 Computing price elasticity of supply Arc elasticity (P1, Q1) (P2, Q2) E PS Q1 − Q Q1 + Q ( ) = P1 − P P1 + P ( ) Point elasticity A(P, Q) %∆QS E = %∆P S P = dQ P P × = Q`( P) × dP Q Q 29 The Elasticity of Supply 2.4 Variety of supply curves – Supply is perfectly inelastic • Elasticity =0 • Supply curve – vertical – Inelastic supply • Elasticity < – Unit elastic supply • Elasticity =1 – Elastic supply • Elasticity >1 – Supply is perfectly elastic • Elasticity = infinity • Supply curve – horizontal 30 Figure The price elasticity of supply (a, b) (a) Perfectly inelastic supply: Elasticity = Price (b) Inelastic supply: Elasticity < Price an an Quantity Quantity The price elasticity of supply determines whether the supply curve is steep or flat Note that all percentage changes are calculated using the midpoint method 31 Figure The price elasticity of supply (c) (c) Unit elastic supply: Elasticity =1 Price an Quantity The price elasticity of supply determines whether the supply curve is steep or flat Note that all percentage changes are calculated using the midpoint method 32 Figure The price elasticity of supply (d, e) (d) Elastic supply: Elasticity > (e) Perfectly elastic supply: Elasticity equals infinity Price Price an an Quantity Quantity The price elasticity of supply determines whether the supply curve is steep or flat Note that all percentage changes are calculated using the midpoint method 33 Figure How the price elasticity of supply can vary Price an Quantity 34 Applications of Supply, Demand, & Elasticity • Why did OPEC fail to keep the price of oil high? – 1970s: OPEC reduced supply of oil • Increase in prices 1973-1974 and 1971-1981 • Short-run: supply is inelastic – Decrease in supply: large increase in price – 1982-1990 – price of oil decreased • Long-run: supply is elastic – Decrease in supply: small increase in price 35 Figure A reduction in supply in the world market for oil (a) The Oil Market in the Short Run Price In the short run, when supply and demand are inelastic, a shift in supply S2 (b) The Oil Market in the Long Run Price In the long run, when supply and demand are elastic, a shift in supply S1 S2 P2 an P1 … leads to a large increase in price an P2 P1 Demand Quantity S1 … leads to a small increase in price Demand Quantity When the supply of oil falls, the response depends on the time horizon In the short run, supply and demand are relatively inelastic, as in panel (a) Thus, when the supply curve shifts from S1 to S2, the price rises substantially By contrast, in the long run, supply and demand are relatively elastic, as in panel (b) In this case, the same size shift in the supply curve (S1 to S2) causes a smaller increase in the price 36 ...Overview The Elasticity of Demand  The price elasticity of demand  The income elasticity of demand  The cross-price elasticity of demand The Elasticity of Supply The Elasticity • Elasticity. .. inelastic • Elasticity < (c) Demand has unit elasticity • Elasticity = 10 The Elasticity of Demand • Variety of demand curves (d) Demand is elastic • Elasticity > (e) Demand is perfectly elastic • Elasticity. .. is the elasticity of demand at the point of P = The Elasticity of Demand 1.1.4 Variety of demand curves (a) Demand is perfectly inelastic • Elasticity = • Demand curve - vertical (b) Demand is