PAM_2000_Fall_2008_Chapter_3 - Title: Busted Artist: Ray...

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1 • Title: Busted • Artist: Ray Charles and Willie Nelson • Economic concepts: budget constraint, feasible set • Representative lyrics: My bills are all due and the baby needs shoes and I'm busted Cotton is down to a quarter a pound, but I'm busted I got a cow that went dry and a hen that won't lay A big stack of bills that gets bigger each day The county's gonna haul my belongings away cause I‘m busted PAM 200: Intermediate Microeconomics Prof. John Cawley Chapter 3: Applying the Supply and Demand Model
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2 Where We Are Consumer Theory Individual Demand Market Demand Theory of Production Costs of Production Perfect Competition Imperfect Competition: Monopoly Monopolistic Competition Oligopoly Prices General Equilibrium Market Imperfections Factor Markets Strategy Game Theory Context • Last class, studied how shocks may cause movement along, and shifts of, demand and supply curves – Predicted direction, but not size, of changes in price, quantity • Today, how to measure exact change in price and quantity resulting from shocks – Useful for determining how taxes affect P,Q: • Expected revenue from taxes • Whether tax burden falls on consumer or supplier • Changes in behavior
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3 Chapter Outline • Why shapes of demand and supply curves matter • Elasticities: sensitivity of demand or supply to changes in price, income, or other factors – Price elasticity of demand / supply – Income elasticity of demand – Cross-price elasticity of demand – Elasticities in the short run vs. long run • Effects of sales taxes – Unit – Ad valorem The Effect of a Supply Shock Depends on the Shape of the Demand Curve Q_2 Q_1 0 Q P_2 P_1 S 1 D 1 S 2 e 1 e 2 P Consumers somewhat sensitive to price
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4 Q_1 = Q_2 0 Q P_2 P_1 S 1 S 2 D 2 e 1 e 2 The Effect of a Supply Shock Depends on the Shape of the Demand Curve P Consumers insensitive to price Q_1 Q_2 0 Q P_1=P_2 S 1 S 2 D 3 e 1 e 2 The Effect of a Supply Shock Depends on the Shape of the Demand Curve P Consumers very sensitive to price
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5 Price Elasticity of Demand • A succinct way to describe how sensitive consumers are to price • It equals the percent change in quantity demanded in response to 1% change in price: • It describes shape of demand curve at a certain point on the demand curve % change in quantity demanded % change in price ε = Price Elasticity of Demand Suppose demand function is linear: Then So Negative price elasticity is consistent with Law of Demand Price elasticity varies by where you are (P,Q) on the demand curve %/ %P / P DD D QQ P P PQ ΔΔ Δ == = Δ D Qa b p = D Q b P Δ =− Δ P b Q
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6 Elasticity of Demand (cont.) • Demand is called inelastic if – In percentage terms, quantity changes less than price – Demand is called perfectly inelastic if • Demand is called elastic if – In percentage terms, quantity changes more than price – Demand is called perfectly elastic if • Demand is unitary elastic if – In percentage terms, quantity changes exactly as much as price 0 ε = 10 ≤< = −∞ 1 = − 1 < −
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This note was uploaded on 05/30/2009 for the course PAM 2000 taught by Professor Evans,t. during the Spring '07 term at Cornell University (Engineering School).

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PAM_2000_Fall_2008_Chapter_3 - Title: Busted Artist: Ray...

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