AP Microeconomics Notes

Chapter 5: Applications of Demand and Supply- Elasticity

  1.  Basic Concepts
    1. P x Q = TR
      1. ​P- price
      2. Q- quantity demanded
      3. TR- total revenue
      4. Unit Elastic Change
        1. ​proportional change
        2. ex: P increases by 20 percent, Q decreases by 20 percent, so TR stays the same
      5. ​Elastic Change
        1. ​greater than proportional change
        2. ex: P increases by 20 percent, Q decreases by 25 percent, so TR decreases
      6. ​Inelastic Change
        1. ​less than proportional change
        2. ex: P increases by 20 percent, Q decreases by 10 percent, so TR increases
    2. ​​Price Elasticity of Demand
      1. ​Price Elasticity of Demand = (% Change in Q) / (% Change in P)
        1. ​= 1 – unit elastic
        2. ​< 1 – inelastic
        3. > 1 – elastic
    3. ​​Numerical Coefficient of Elasticity (E)
      1. ​Ed = (Change in Q / Change in P) x [ .5(P1 + P2) / .5(Q1 + Q2) ]
    4. ​Price Elasticity of Supply
      1. ​As P increases, Q supplied also increases
      2. Total revenue check useless in the supply case
      3. Es = (Change in Q / Change in P) x [ .5(P1 + P2) / .5(Q1 + Q2) ]
  2. ​​Limits and Degrees of Elasticity
    1. ​Long vs. Short Run
      1. ​The long run demand function for any given product will be relatively more elastic than the demand function in the short run
      2. Long run
        1. ​supply has fully adjusted to demand
        2. ​buyers are more resistant to prices increases for a given product
      3. ​​​Short run
        1. ​buyers have more limited choices because of the relative scarcity of products
    2. ​​Graphically
      1. ​Perfectly elastic demand curve
        1. ​horizontal function (slope of zero)
      2. ​​​Perfectly inelastic demand curve
        1. ​vertical function (slope undefined)
    3. ​​Degrees of Elasticity
      1. ​Depend on the competitive nature of the market
      2. ​​Depend on the nature of the product
        1. ​luxury goods will be more sensitive to price increases than goods that are necessities
  3. ​​​Cross-Elasticity of Demand
    1. ​Ultimate Question
      1. What effect on quantities demanded of one product will a price change in another product have?
      2. ​Ultimate answer gives us clues to:
        1. ​market share
        2. the degree of competition that may extend from one market to another
        3. the related leverage a dominant product in one market may have on products in another
      3. ​Mathematically
        1. ​CPED = (% Change in Quantity Demanded of Product Y) / (% Change of Price of Product X)
        2. CPED – Cross Price Elasticity of Demand
    2. Determinants of Price Elasticity of Demand
      1. ​The period of adjustment
        1. ​“long run vs. short run”
        2. long run is more elastic
      2. ​The ratio of the cost of a particular product to the total budget of the consumer
        1. ​mathematically = ($ Cost of Product A) / ($ Total Budget)
        2. the higher the value, the more elastic the product is
      3. ​Competitive structure of the market and consumer choices
        1. ​as both increase, elasticity increases
    3. ​​Income Elasticity of Demand
      1. ​Mathematically
        1. ​Income Elasticity of Demand = (% Change in Q Demanded) / (% Change in Consumer I)
        2. I – income
      2. ​For normal goods
        1. ​this ratio will have a positive sign
        2. as I increases, Q demanded will increase
      3. ​Meaning of values
        1. ​= 1 – unit elastic
        2. < 1 – inelastic
        3. > 1 – elastic
    4. ​​Price Elasticity of Supply
      1. ​Mathematically
        1. ​Price Elasticity of Supply = (% Change Quantities Supplied) / (% Change Price)
        2. as prices increase, suppliers are willing to produce and sell more
    5. ​Incidence of Tax on Suppliers and Consumers
      1. ​Case 1: Elastic demand function
        1. ​the supplier takes on the higher burden
      2. ​Case 2: Inelastic demand function
        1. ​the consumer takes on more of the incidence of the tax by paying a higher price
        2. supplier has a relatively small reduction in quantities supplied

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How to cite this note (MLA)

Aboukhadijeh, Feross. "Chapter 5: Applications of Demand and Supply- Elasticity" StudyNotes.org. Study Notes, LLC., 12 Oct. 2013. Web. 25 Apr. 2024. <https://www.apstudynotes.org/microeconomics/outlines/chapter-5-applications-of-demand-and/>.

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