e100_wntr2010_lec3_topost

e100_wntr2010_lec3_topost - Econ 100: Lecture 3 Finish up...

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Econ 100: Lecture 3 • Finish up discussion of elasticity • Start model of consumer utility maximization (Chapter 3)
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Time period and elasticity • Often important to distinguish between short-run and long-run elasticity • Ex: Elasticity of demand for cars and gasoline differ dramatically between short and long-run cars: long run less elastic gas: short run less elastic
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Why this paradox? • Cars: as prices of cars go up in the short run, individuals can postpone buying new cars (less responsive to price in long run, eventually have to buy a new car, even if price is higher) • Gasoline: as price of gas goes up in short run, hard to adjust since have fixed type of car, commuting patterns, etc.
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Ex: Cigarette taxes and demand for cigarettes • Tax on cigarettes (producers) shifts the supply curve and raises price • This will reduce demand for cigarettes (sometimes used as justification for tax) • How much impact cigarette taxes have on smoking depends on elasticity of demand
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Elasticity of demand and total expenditure • If price elasticity of demand is greater than 1, what happens to total expenditure on a good when price rises? • 1% increase in price leads to > 1% decrease in quantity • Expenditure = P*Q • So, expenditure falls with price increases (for elasticity > 1)
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• Similarly, if price elasticity is less than 1, price increase increases total expenditures • P increases 1 %, Q falls by < 1% • Elasticity of demand has important implications for producers (revenue) and government (taxes)
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Back to cigarette example • Taxing cigarettes : suppose young smokers have high elasticity (abs. value > 1), and older smokers have low elasticity (abs. value < 1) • Tax increase on cigarettes generates large quantity response in young smokers (& raises limited revenue), but leads to increase in revenues from older smokers (with little quantity response)
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P Q Extreme Cases: Perfectly Inelastic Demand (elasticity = 0) D Change in P leads to 0 change in quantity demanded
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P Q Extreme Cases: Perfectly (Infinitely) Elastic Demand D Change in P leads to infinite change in Q
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This note was uploaded on 02/27/2010 for the course ECN 40279 taught by Professor Annstevens during the Spring '10 term at UC Davis.

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e100_wntr2010_lec3_topost - Econ 100: Lecture 3 Finish up...

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