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Macroeconmics Test 210/01/2012Elasticitiesmeasure the level of responsiveness to different types of market changes. In this section we'll start with the price elasticity of demand.The price elasticity of demandmeasures how responsive consumers ofa particular good or service are to changes in the price of that same good or service.Must know 1.) Direction of change 2.) Size of changethe less responsive we are to price changes, the steeper our demand is and the more responsive we are to price changes, the flatter our demand is.The absolute valueof a number is essentially just the number without a sign.Goods or services that have a price elasticity of demand (in absolute value) less than 1 are referred to as price inelastic.Goods or services that have a price elasticity of demand (in absolute value) greater than 1 are referred to as price elastic.Goods or services that have a price elasticity of demand (in absolute value) exactly equal to 1 are referred to as unit price elastic.If a good or service existed such that consumers were willing and able to purchase a fixed amount, never buying more when the price fell and never buying less when the price rose, we would have a good that is perfectly price inelastic.If a good or service existed such that consumers were willing to pay only one price and would reduce their purchases to zero even if price went up by only a fraction of a cent and would increase their purchases to infinity even if price dropped by only a fraction of a cent, we would have a perfectly price elasticgood or service.When we measure the producer's price responsiveness, however, we referto it as the price elasticity of supply. The price elasticity of supply measures the change in the quantity that producers will choose to supply when there is a change in the price that producers can receive for selling their product. The formula is very similar to the price elasticity of demand formula in that it compares the quantity change in the numerator to the price change in the denominator.The major difference is that the price elasticity of demand is always negativebecause consumers want to buy less when price rises (a negative relationship between price and quantity demanded) while the price elasticity of supply is always positivebecause producers want to sellmore when the price rises (a positive relationship between price and quantity supplied).We assumed that the higher income would result in an increase in the demand for gasoline. This means we are assuming gasoline is a normal good. A normal good is one that consumers want more of (higher demand) when they have more income and want less of (lower demand) when they have less income.
Some goods or services, however, are inferior goods. These are goods or services that we demand less of when our income rises and more of when our income falls (a negative relationship between income and demand). These are goods or services that are useful for us but have a more expensive preferred alternative.