Computing the Own Price Elasticity of Demand Elasticity can help answer

# Computing the own price elasticity of demand

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Computing the (Own) Price Elasticity of Demand Elasticity can help answer questions such as: –Should a firm raise or lower the price of a good to increase revenues? –If an excise tax is placed on a good, how much tax revenue will be generated?
The (Own) Price Elasticity of Demand Formula = change P Q E d d Δ Δ = % % P & Q For the same good!
Example University parking pass prices increase by 50%. As a result, 25% less people demand a parking pass. 5 . 0 % 50 % 25 = + = P Q E d d Δ Δ = % % Plug in numbers
Example What does the numerical result mean? –In this case, the quantity demanded response was relatively small (compared to the price change). –Demand is inelastic for parking. Why is it negative? –There is an inverse relationship between price and quantity demanded. 5 . 0 % 50 % 25 % % = + = Δ Δ = P Q E d d
The Percent Formula has a problem. One issue with using the percent change formula. –Price decreases from \$100 to \$80 A 20% change –Price increases from \$80 to \$100 A 25% change! Thus, the “direction” of the variable change will change our numerical elasticity result. How can we fix this?
Midpoint Method The Midpoint Method is an alternative way to find elasticity. The formula is more complicated. ( ) ( ) ( ) ( ) P P E d of average / / Δ = ( ) ( ) [ ] ( ) ( ) [ ] 2 / / / P P P P E d + =
Midpoint Method • Example: “Old” price. P 1 = \$6 results in Q 1 = 15 “New” price. P 2 = \$4 results in Q 2 = 25 ( ) ( ) [ ] ( ) ( ) [ ] 2 / / 2 / / 2 1 1 2 2 1 1 2 P P P P Q Q Q Q E d + + = ( ) ( ) [ ] ( ) ( ) [ ] 2 / 4 6 / 6 4 2 / 25 15 / 15 25 + + = d E 25 . 1 5 / 2 20 / 10 = = d E Plug in numbers
Economics in Seinfeld Jerry and George likely have different (own) price elasticity of demand for “The jacket” ? v=E7YF6_ODMdM&feature=youtu.be
Elasticity: Graphing the Price Elasticity of Demand 4
Graphing (Own) Price Elasticity If demand is relatively elastic –We are relatively sensitive to price changes –The demand curve is relatively flatter If demand is relatively inelastic –We are relatively insensitive to price changes –The demand curve is relatively steeper
Graphing (Own) Price Elasticity 0 % % = Δ Δ = P Q E d d Numerator is zero!
Graphing (Own) Price Elasticity big" " small" " % % = Δ Δ = P Q E d d
Graphing (Own) Price Elasticity small" " big" " % % = Δ Δ = P Q E d d
Graphing (Own) Price Elasticity = Δ Δ = % % P Q E d d Denominator is zero!
Remembering Own Price Elasticity Relatively shallow (flat) demand curves are relatively more elastic. Relatively steep demand curves are relatively more inelastic. Ways to remember: – Steep demand curve looks like the letter “I,” so it is “I”nelastic. – Steep demand curve has an almost “I”nfinite slope, and is “I”nelastic
Examples P Q E d d Δ Δ = % % Elasticity E d coefficient Interpretation Example
Time, Elasticity, and Demand Curve
Slope and Elasticity Elasticity and the slope of the demand curve are related, but are NOT the same.

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• Spring '16
• Betsy Sarlay

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