PowerPoint PresentationSlide 2Slide 3Slide 4Slide 5Slide 6Slide 7Slide 8Slide 9Slide 10Slide 11Slide 12Slide 13Slide 14Slide 15Slide 16Slide 17Slide 18Slide 19Slide 20Slide 21Slide 22Slide 23Slide 24Slide 25Slide 26Slide 27Slide 28Slide 29Slide 30Slide 31Slide 32Slide 33Slide 34Slide 35Slide 36Slide 37Slide 38Slide 39Slide 40Slide 41Slide 42Slide 43Slide 44Slide 45Slide 46Slide 47Slide 48Slide 49Slide 50Slide 51Slide 52Slide 53Slide 54Slide 55Slide 56Slide 57Slide 58Slide 59Slide 60Slide 61Slide 62Slide 63Slide 64Slide 65Slide 66Slide 67Slide 68Slide 69Slide 70Slide 71Slide 72Price Elasticity of DemandOverheadsHow much would your roommate payto watch a live fight?How does Showtime decide howmuch to charge for a live fight?What about Hank and Son’s Concrete?How much should they charge per square foot?Can ISU raise parking revenue by raising parking fees?Or will the increase in price drive demanddown so far that revenue falls?All of these pricing issues revolve around the issue of how responsive the quantity demanded is to price.Elasticity is a measure of how responsiveone variable is to changes in another variable?The Law of DemandThe law of demand states that whenthe price of a good rises,and everything else remains the same, the quantity of the good demanded will fall.The real issue is how far it will fall.QD h(P, ZD)The demand function is given byQD = quantity demandedP = price of the goodZD = other factors that affect demandThe inverse demand function is given byP h 1(QD, ZD)P g(QD, ZD)To obtain the inverse demand function wejust solve the demand function for Pas a function of QExamples QD = 20 - 2P2P + QD = 202P = 20 - QDP = 10 - 1/2 QDSlope = - 1/2Examples QD = 60 - 3P3P + QD = 603P = 60 - QDP = 20 - 1/3 QDSlope = - 1/3The slope of a demand curve is given by thechange in Q divided by the change in POne measure of responsiveness is slopeQD h(P, ZD)slopeΔQDΔPFor demandThe slope of an inverse demand curve is given bythe change in P divided by the change in QP g(QD, ZD)slopeΔPΔQDFor inverse demandQD = 60 - 3PExamplesSlope = - 1/3Slope = - 3P = 20 - 1/3 QDQD = 20 - 2PExamplesSlope = - 1/2Slope = - 2P = 10 - 1/2 QDWe can also find slope from tabular dataQ P0 102 94 86 78 610 5Q PslopeΔQDΔP 21 2Q P0 101 9.52 93 8.54 85 7.56 77 6.58 69 5.510 511 4.512 413 3.514 315 2.516 217 1.518 119 0.520 0Demand for HandballsQ P0 101 9.52 93 8.54 85 7.56 77 6.58 69 5.510 511 4.512 413 3.514 315 2.516 217 1.518 119 0.520 0Demand for Handballs012345678910110 2 4 6 8 10 12 14 16 18 20 22QuantityPricePQ P0 101 9.52 93 8.54 85 7.56 77 6.58 69 5.510 511 4.512 413 3.514 315 2.516 217 1.518 119 0.520 0Demand for Handballs012345678910110 2 4 6 8 10 12 14 16 18 20 22QuantityPriceQPQ = 2 - 4 = -2Q = 2 - 4 = -2P = 9 - 8 = 1P = 9 - 8 = 1slopeΔPΔQD 12Problems with slope as a measure of responsivenessSlope depends on the units of measurementThe same slope can be associated withThe same slope can be associated withvery different percentage changesvery different percentage changesExamples QD = 200 - 2P2P + QD = 2002P = 200 - QDP = 100 - 1/2 QDslopeΔPΔQD 12Q P0 1001 99.52 993 98.54 985 97.56 977 96.58 969 95.510 9511 94.512 9413 93.514 93Consider data on racquetsLet P change from 95 to 96 P = 96 - 95 = 1 Q = 8 - 10 = -2QPA $1.00 price change when P = $95.00 is tinyGraphically for racquetsDemand for Racquets8890929496981001020 2 4 6 8 10 12 14 16 18QuantityPriceLarge % change in QSmall % change in PSlope = - 1/2Graphically for hand ballsLarge % change in Q Large % change in PSlope = - 1/2Demand for Handballs012345678910110 2 4 6 8 10 12 14 16 18 20 22QuantityPriceP P = 7 - 6 = 1 Q = 6 - 8 = -2So slope is not such a good measureof responsivenessInstead of slope we use percentage changesThe ratio of the percentage change in one variableto the percentage change in another variableis called elasticityelasticityεD%ΔQD%ΔPΔQDQDΔPPThe Own Price Elasticity of DemandOwn Price Elasticity of Demandis given byThere are a number of ways to computepercentage changesInitialInitial point method for computingThe Own Price Elasticity of DemandOwn Price Elasticity of DemandεD%ΔQD%ΔPΔQDQDΔPPPrice Elasticity of Demand (Initial Point Method)P Q6 85.5 95 104.5 114 12εD(8 10)8(6 5)6(8 10)86(6 5)QP 2861 128 1.5FinalFinal point method for computingThe Own Price Elasticity of DemandOwn Price Elasticity of DemandPrice Elasticity of Demand (Final Point Method)P Q6 85.5 95 104.5 114 12εD(8 10)10(6 5)5(8 10)105(6 5)QP 21051 1010 1.0εD%ΔQD%ΔPΔQDQDΔPPThe answer is very differentThe answer is very differentdepending on the choice of the depending on the choice of the base pointbase pointSo we usually useSo we usually useThe midpointThe midpoint method for computingThe Own Price Elasticity of DemandOwn Price Elasticity of DemandΔQD Q1 Q0or Q0 Q1Elasticity of Demand Using the Mid-PointεD%ΔQD%ΔPΔQDQDΔPPQD12(Q1 Q0)For QD we use the midpoint of the Q’sSimilarly for pricesSimilarly for pricesΔP P1 P0or P0 P1P 12(P1 P0)For P we use the midpoint of the P’sε (Q1 Q0)12(Q1 Q0)(P1 P0)12(P1 P0)(Q1 Q0)(Q1 Q0)(P1 P0)(P1 P0)εD%ΔQD%ΔPΔQDQDΔPPPrice Elasticity of Demand (Mid-Point Method)Q P8 69 5.510 511 4.512 4(Q1 Q0)(P1 P0)(P1 P0)(Q1 Q0)(Q1 Q0)(Q1 Q0)(P1 P0)(P1 P0)εD%ΔQD%ΔPΔQDQDΔPP(8 10)(6 5)(6 5)(8 10)( 2)(1)(11)(18) 2218 119Classification of the elasticity of demandInelastic demandWhen the numerical value of the elasticity of demand is between 0 and -1.0, we say that demand is inelasticinelastic. %ΔQD%ΔP< 1%ΔQD< %ΔPClassification of the elasticity of demandElastic demandWhen the numerical value of the elasticity of demand is less than -1.0, we say that demand is elasticelastic. %ΔQD%ΔP> 1%ΔQD> %ΔPClassification of the elasticity of demandUnitary elastic demandWhen the numerical value of the elasticity of demand is equal to -1.0, we say that demand is unitary elasticunitary elastic. %ΔQD%ΔP 1%ΔQD %ΔPClassification of the elasticity of demandPerfectly elastic - D = - Perfectly inelastic - D =
View Full Document
Unlocking...