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chap 5 lect notes

# chap 5 lect notes - What we observe Price At any moment in...

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1 Elasticity and its application Chapter 5 What we observe Quantity• Price 0Q 0 At any moment in time, this is what we observe. P 0 Point A What we observe Quantity• Price 0Q 0 P 0 Point A But, this can change at any time! Point B P 1 Q 1 Quantity of Ice-Cream Cones Price of Ice-Cream Cone \$2.00 01234567891 01 11 2 13 Equilibrium quantity Equilibrium price Equilibrium Market equilibrium Supply and Demand give us basis for explaining why we observe particular P, Q combinations in a market. Quantity of Ice-Cream Cones Price of Ice-Cream Cone \$2.00 01234567891 01 11 2 13 Equilibrium quantity Equilibrium price Equilibrium Supply Demand Market equilibrium Analyzing changes in equilibrium ± Decide whether the event shifts the supply or demand curve (or both). ± Decide whether the curve(s) shift(s) to the

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2 The Law of Demand Price of Ice-Cream Cone 2.00 \$2.50 0 1 2 3 4 7 8 9 11 12 Quantity of Ice-Cream Cones 13 Demand New equilibrium Initial equilibrium S 1 S 2 10 P ↑⇒ Qd P ↓⇒ Qd Response vs. Responsiveness ± Response ² The Law of Demand explains how the quantity demanded will normally respond to a change in price. ± Responsiveness ² Will the response be large or small ? Elasticity . . . ± A measure of how much buyers and sellers respond to changes in market conditions ² Can be applied to both sides of the market: demand and supply ² Allows us to make more complete use of supply and demand analysis Price elasticity of demand ± Price elasticity of demand is the percentage change in quantity demanded given a percent change in the price. ² It is a measure of how much the quantity demanded of a good responds to a change in the price of that good. Measuring the price elasticity of demand 100 ) P P ( 100 ) Q Q ( P % Q % Demand of Elasticity Price E d × / Δ × / Δ = Δ Δ = = Measuring the price elasticity of demand is simple: 100 ) P P ( 100 ) Q Q ( P % Q % Demand of Elasticity Price × / Δ × / Δ = Δ Δ = Notice the “minus” sign: This allows us to express the elasticity of demand as a positive number.
3 Determinants of the price elasticity of demand Demand tends to be more elastic ± If the good is a luxury (in contrast to necessities) ± The larger the number of close substitutes ± The more narrowly defined is the market ± The longer the time horizon Calculating the price elasticity of

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chap 5 lect notes - What we observe Price At any moment in...

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