Lecture Notes 3

# Lecture Notes 3 - E.g Supply and Demand of Automobiles...

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31/01/11 E.g. Supply and Demand of Automobiles: People want to drive more, taste in preference shift Simultaneously two new automobiles come into existence Both effects are increasing – pushing this analysis to the right – If the shift in demand was greater than the taste in preference shift, the equilibrium price would be higher The price change cannot be determined unless the specific effects are known Oil price shock: demand goes up, supply falls, the price increases, but the quantity effect is indeterminate. Demand falls, supply increases, the price will fall, quantity effects are indeterminate Elasticity: Demand curve is downward sloping – higher price, people are less willing to buy the good Elasticity illustrates what the overall effect of a price change. In general terms elasticity is the percentage change in one variable, x, relative to a change in another variable, y. Price elasticity: % change in quantity demanded, given a % change in price (by convention, in absolute value) % Change in quantity demanded = change in quantity demanded/Q % Change in price = change in price/P o E.g. q = 4, 6 P = 4, 3 What is the price elasticity? Which base does one use? Midpoint formula: change in q/(q1+q2)/2 divided by change in p/(p1+p2)/2 Elasticity is not slope – formula can be (change in q/change in p)*(p/q) Elasticity decreases moving down a demand curve What does a value, x, suggest? If price is raised by 10%, quantity demanded will decrease by x*10%

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Lecture Notes 3 - E.g Supply and Demand of Automobiles...

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