1.2 How markets work- Elasticity

Question 1

Elasticity is

Answer 1

How responsive supply and demand is to changes in price and income

Question 2

Price Elastic is

Answer 2

When the change in demand is greater than the change in price

Question 3

Price inelastic is

Answer 3

When the change in demand is less than the change in price

Question 4

Elastic is

Answer 4

When the changes in price or income affect demand

Question 5

Inelastic is

Answer 5

When the changes in price and income doesn’t affect demand
-Usually necessary goods

Question 6

1.Perfectly inelastic
2.Inelastic
3.Unitary elastic
4.Elastic
5.Perfectly Elastic

Answer 6

1. Zero
2. Less than 1
3. 1
4. More than 1
5. Infinity

Question 7

Equation of PED- Price elasticity of demand

Answer 7

%change in quantity demand / %change in price

Question 8

Equation of YED- Income elasticity of demand

Answer 8

%change in quantity demand / %change in income

Question 9

Equation of XED- Cross Price elasticity of demand

Answer 9

%change in quantity demand of good A / %change in price of good B

Question 10

Equation of PES- Price elasticity of supply

Answer 10

%change in quantity supplied / %change in price

Question 11

Percentage change is

Answer 11

Change / original x100

Question 12

What affects the price elasticity of demand (5)

Answer 12

1. Number of substitutes
2. Time- (we will find away around the product or price if it is always inelastic/ The more time the more elastic a product gets)
3. Whether it is necessity or luxury
4. The % of consumers income allocated to spending on the good
5. The cost of switching between products

Question 13

Revenue calculation

Answer 13

Selling price x Quantity

Question 14

When a good/service is elastic should you put prices up or down

Answer 14

You should put prices down
Decrease price - Increase demand

Question 15

When a good/service is inelastic should you put prices up or down

Answer 15

Put prices up
Price increases - demand increases/stays the same

Question 16

Limitations of price elasticity of demand

Answer 16

• You can only drop your price to a certain amount otherwise you will lose profit
• Values are based on estimates
• The Info that can be used to calculate can become outdated
• The elasticity will change overtime so the calculation will only be useful in the short term

Question 17

Uses of price elasticity of demand

Answer 17

• Helps firms to determine the optimum price to charge
• Helps firms to decide if they should increase or decrease prices
• Can only be used to calculate the impact of a change of price on sales revenue
• Helps a firm decide on non-price strategies for increasing demand

Question 18

Factors affecting price elasticity of demand

Answer 18

1. Availability of close substitutes
2. Cost of switching suppliers
3. Breadth of definition of product
4. Degree of necessity
5. Time frame when making a choice
6. Brand loyalty
   7.Percentage of income spent on a product
   8.Habitual demand

Question 19

(YED)normal luxury goods
-YED number
-What happens to the product as incomes rise

Answer 19

-Income elasticity of demand exceeds +1
-As incomes rise, the proportion
of a consumer’s income spent on that product will go up.

Question 20

(YED)normal necessities
-YED
-What happens to the product as incomes rise

Answer 20

-income elasticity of demand is positive but less than 1
–As income rises, the share or proportion of their budget on these products will fall

Question 21

(YED)inferior goods
-What happens to the product as incomes rise

Answer 21

-As income rises, demand declines and so too will the share of income spent on inferior products.

Question 22

(YED)Normal goods
-What happens to the product as incomes rise

Answer 22

-Income rises, more is demanded at each price
i.e. there is an outward shift of the demand curve

Question 23

(YED)Inferior goods

Answer 23

-As incomes rise, demand falls

Question 24

(YED)Luxury good

Answer 24

-As incomes rise, demand rises

Question 25

Cross elasticity of demand (XED) measures

Answer 25

-Responsiveness of demand for good X following a change in the price of good Y (a related good).

Question 26

(XED)Substitutes:

Answer 26

Substitutes have a positive cross price elasticity of demand. An increase in the price of one product will lead to a rise in demand for its substitute, as consumers swap away from the more expensive good. A high value suggests both products are close substitutes.

Question 27

(XED)Complements:

Answer 27

When there is a strong complementary relationship, cross elasticity will be negative. An increase in the price of Good T will lead to a contraction in demand for T and a fall in demand for a complement, good S.

Question 28

(XED)Unrelated products:

Answer 28

Unrelated products have zero cross price elasticity of demand

Question 29

Uses of XED

Answer 29

helps classify goods as complementary or substitutes -helps determine price point

Question 30

YED measures...

Answer 30

How responsive quantity demanded is to changes in income.

Question 31

Price elasticity of supply measures

Answer 31

How responsive quantity supplied is to changes in price

Question 32

The higher the number of PES

Answer 32

the more price elastic the supply is

Question 33

What is price elasticity of supply affected by

Answer 33

-availability of producer substitutes -TIME BASED FACTORS: -Many substitutes = high elasticity -Few substitutes = inelastic -The longer it takes to make the product more inelastic supply -The shorter it takes the more elastic -High capacity = inelastic supply -Low capacity = elastic supply -If it is hard to stock then PES is inelastic

Question 34

What are the uses of PES

Answer 34

-firms want to be able to respond quickly to changes in price and demand -to do so they need to make their supply as elastic as possible -they will then take measures to improve the elasticity of their supply

Question 35

Limitations of PES

Answer 35

-values are based of estimates -info used to calculator PES may become outdated -other factors may shift the supply curve cancelling the QS affect -PES ignores any cost data -the elasticity is likely to change over time so the calculation is only useful in the short term