Micro topic 3: Slope and elasticity (2016)Apunte Inglés
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Introduction to microeconomics
Topic 3: Slope and Elasticity of demand and supply
The concept of elasticity
Elasticity: How much one variable responds to changes in with respect to a variation of another
variable. Numerical measure of the responsiveness of Qd or Qs to one of its determinants, where
Qd and Qs are short form for quantity demanded and quantity supplied.
In general, if the price rises: - The quantity demanded falls (slope<0) The quantity supplied rises (slope>0) Elasticity and demand To determine the quantity of an increase or decrease in demand, we use a certain type of elasticity: the price-elasticity of demand.
It measures the degree of variation of quantity demanded with respect to price fluctuation. This means, elasticity tells us the percentage change in quantity demanded caused by a change in the price of 1 percent (as we move along the demand curve).
*What determines demand price elasticity? -Price elasticity is higher when close substitutes are available. (Demand is more sensible).
-Price elasticity is higher for narrowly defined markets. (A narrow defined market, as black T-shirts, is much more sensible than a wider one, as clothes).
-Price elasticity is higher for luxuries than for necessities. (If it is a necessity, demand will be insensible).
-Price elasticity is higher in the long run than in the short run, because in the long run, people are able to change habits. If they were not able to do so, they would have to pay the expensive price.
To calculate the price- elasticity of demand: If we consider (P,Q) and (P’,Q’) two points of the curve, from the previous equation we obtain that: Percentage change in price: 100𝑥 𝑃′ −𝑃 𝑃 Percentage change in quantity: 100𝑦 = 100𝑥 𝑄 ′ −𝑄 𝑄 𝛥𝑃 𝑃 = 100𝑥 𝛥𝑄 𝑄 1 Topic 3 Introduction to microeconomics Computing the variations in a single formula and simplifying, we obtain: 𝑝 𝛥𝑞 𝐸𝑑 = 𝑞 𝛥𝑝 It can be seen that the second division is the formula of the inverted slope; we can obtain the final formula: 𝑃 1 𝑄 𝑠𝑙𝑜𝑝𝑒 Depending on the result obtained, demand can be elastic if it’s smaller than -1, which is that the quantity demanded decreases proportionally more than the percentage in which price increases; or inelastic, if elasticity is between 0 and -1, which happens when the quantity demanded increases proportionally less than the percentage at which price changes.
-perfectly inelastic demand price-elasticity = 0 (The form is completely vertical) demand doesn’t decrease at any proportion when price increases a concrete percentage.
-perfectly elastic demand price-elasticity = -∞ (The form is completely horizontal) every percentage change in the price would eliminate all the demand.
-isoelastic demand price-elasticity = 1 demand decreases in the same proportion of the percentage increase of price.
Elasticity and supply To determine the quantity of an increase or decrease in supply, we use a certain type of elasticity: the price-elasticity of supply.
It measures the degree of variation of quantity supplied with respect to price fluctuation. This means, elasticity tells us the percentage change in quantity supplied caused by a change in the price of 1 percent (as we move along the demand curve).
*What determines supply price elasticity? It basically depends on the capacity sellers to alter that good’s production. Therefore, manufactured goods, as televisions, comics or clothes have a more elastic supply because their production can be modified relatively easily; chalets by the beach, however, have an inelastic supply.
In a long-term, supply can be modified more easily and, therefore, supply is more elastic for bigger temporal horizons.
The formula to calculate the Price-elasticity is the same as for the demand elasticity, so only data has to be changed. Depending on the obtained result, demand will be elastic if it’s greater tan one, inelastic if it’s smaller tan 1, isoelastic if it’s equal to 1, and perfectly inelastic if it’s 0 or perfectly elastic if it’s infinite.
2 Topic 3 Introduction to microeconomics Elasticity and total income Thanks to Price-elasticity, we can calculate what is the total income if the price of a good increases or decreases.
To do that, only demand elasticity must be taken into account. If the price of a good decreases and the demand is elastic, the quantity demanded increases at a higher proportion than the reduction of price, and total income increases. This means, price and total income are inverse proportional if demand is elastic.
However, if the price of a good decreases and the demand is inelastic, the quantity demanded increases in a minor proportion than the price reduction and the total income decreases. This means, price and total income are directly proportional if demand is inelastic.
Slope Slope: The change in quantity demanded (or supply) when price increases by one unit. (the sensitivity of demand to price changes).
Calculation of the slopes 𝛥𝑃 - With differences: 𝑆= - With derivatives: 𝑠= 𝛥𝑄 ⅆ𝑃 ⅆ𝑄 The slope depends on the units in which we measure price and quantity.
Economists usually measure the sensibility by estimating the percentage change of one variable to another.
Relationship between slope and elasticity The more horizontal the curve, the greater the change in quantity.
The more vertical the curve, the lesser the change in quantity.
DIFFERENCE BETWEEN SLOPE AND ELASTICITY The elasticity changes along the curve, but the slope remains constant.
The slope measures the ratio of changes but the elasticity measures the ratio of percentage changes.
(In the slope: you decrease 10 units.
In the demand: you decrease 10%) 3 ...