Chapter 5, Elasticity, A Measure of Response.docx - Chapter...

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Chapter 5, Elasticity: A Measure of Response Elasticity We use elasticity to determine how responsive one variable is to movements in the value of another variable. We will calculate elasticity as the % change in one variable divided by the % change in another variable For example, if we are analyzing the impact of raising tuition fees, we might be interested in using a measure of elasticity Suppose Langara raised tuition by 100%, we could then look to see how enrollment changed. If enrollment decreased by 50% then we would say that the elasticity of enrolment to change in tuition is the % change enrollment the % change tuition fees = 50% 100% =− 0.5 Elasticity has no units and is independent of how we measure the magnitude of the variables The Price Elasticity of Demand measures how responsive quantity demanded is to changes in the price of the good Price Elasticity of Demand = the % change quantity demanded the % change price Given the following data (from a demand schedule for butter), determine the price elasticity of demand when the price increases from $1.00 to $1.25 Price of a lb. of Butter (cents) Price of a lb. of Butter (dollars) Lbs. of Butter sold Lbs. of Butter sold (measured in thousands) 100 1.00 10,000 10 125 1.25 8,000 8 For our first calculation, use the price in cents from the first column and the pounds of butter sold from the third column The change in price is 125 – 100 = 25 cents We need this as a percentage. We will calculate the percentage change using the “midpoint method” or “arc method”, where all percentage changes are calculated as the change in the variable value divided by the average (or midpoint) of the variable values.
Using the midpoint method for the change in the price of butter, we would determine that the percentage change in price is the change of 25 cents expressed as a percentage of the average of the two price values of 100 cents and 125 cents The average of 100 cents and 125 cents is 100 + 125 2 = 225 2 = 112.5 cents The percentage change in price is then calculated as the change in price the average price = 25 112.5 x 100% Find the percentage change in quantity demanded using the midpoint method (quantity demanded decreases from 10,000 to 8,000) The average of 10,000 and 8,000 is 10000 + 8000 2 = 18000 2 = 9000 The percentage change in quantity is then calculated as the change in quantity the average quantity = -2000 9000 x 100% Now calculate the price elasticity of demand

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