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Ch5 - Chapter 5 Elasticity and its Application In this...

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Chapter 5: Elasticity and its Application
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2In this chapter± look for the answers to these questions)# What is elasticity? What kinds of issues can elasticity help us understand? What is the price elasticity of demand? How is it related to the demand curve? How is it related to revenue & expenditure? What is the price elasticity of supply? How is it related to the supply curve? What are the income and cross-price elasticities of demand?
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You design websites for local businesses. You charge $200 per website, and currently sell 12 websites per month. Your costs are rising (including the opportunity cost of your time), so you consider raising the price to $250. The law of demand says that you won’t sell as many websites if you raise your price. How many fewer websites? How much will your revenue fall, or might it increase? $ scenario… ²
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*,13&8:S9;T.0(.09;TY &35N) .09;T8:S &57P57P13.0(&9;T.046O35N .Elasticity Basic idea: Elasticity measures how much one variable responds to changes in another variable. One type of elasticity measures how much demand for your websites will fall if you raise your price. Definition: .Elasticity is a numerical measure of the responsiveness of Q d or Q s to one of its determinants. ²
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*,13&8:S9;T.0(.09;TY &35N) .09;T8:S &57P57P13.0(&9;T.046O35N Price .Elasticity of -Demand Price elasticity of demand measures how much Q d responds to a change in P . Price elasticity of demand = Percentage change in Q d Percentage change in P Loosely speaking, it measures the price- sensitivity of buyers’ demand. ²
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*,13&8:S9;T.0(.09;TY &35N) .09;T8:S &57P57P13.0(&9;T.046O35N Price .Elasticity of -Demand Price elasticity of demand equals ² P Q D Q ! P ! P Q P rises by 10% Q falls by 15% 15% 10% = 1.5 Price elasticity of demand = Percentage change in Q d Percentage change in P Example:
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*,13&8:S9;T.0(.09;TY &35N) .09;T8:S &57P57P13.0(&9;T.046O35N Price .Elasticity of -Demand Along a D curve, P and Q move in opposite directions, which would make price elasticity negative. We will drop the minus sign and report all price elasticities as non-negative numbers. ² P Q D Q ! P ! P Q Price elasticity of demand = Percentage change in Q d Percentage change in P
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*,13&8:S9;T.0(.09;TY &35N) .09;T8:S &57P57P13.0(&9;T.046O35N ,Calculating Percentage ,Changes ² P Q D $250 8 B $200 12 A Demand for your websites Standard method of computing the percentage (%) change: end value – start value start value x 100% Going from A to B, the % change in P equals ($250–$200)/$200 = 25%
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*,13&8:S9;T.0(.09;TY &35N) .09;T8:S &57P57P13.0(&9;T.046O35N ,Calculating Percentage ,Changes ² P Q D $250 8 B $200 12 A Demand for your websites 57Problem + The standard method gives different answers depending on where you start. From A to B, P rises 25%, Q falls 33%, elasticity = 33/25 = 1.33 From B to A, P falls 20%, Q rises 50%, elasticity = 50/20 = 2.50
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*,13&8:S9;T.0(.09;TY &35N) .09;T8:S &57P57P13.0(&9;T.046O35N ,Calculating Percentage ,Changes So, we instead use the midpoint method : ² end value – start value midpoint x 100% The midpoint is the number halfway between the start & end values, the average of those values.
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