1.2.4/1.2.5-PED And YED Flashcards
(14 cards)
What is elasticity?
A measure of the responsiveness of demand to a change in a relevant variable such as price or income
What is price elasticity of demand?
PED measures the extent to which quantity demanded of a product/servive is affected by a change in price
How do you calculate PED?
% change in quantity demanded
———————————————
% change in price
Interpreting the co-efficient of PED?
Price elastic=more than 1-Change in demand is more than the change in price
Price inelastic=less than 1-Change in demand is less than the change in price
Unitary price elasticity= exactly 1-Change in demand is equal to change in price
Factors that influence price elasticity of demand
Brand strength-Products with strong brand loyalty tend to be price inelastic
Necessity-The more essential customers deem a product to be the more demand tends to be inelastic
Habit-Products demanded and consumed as a matter of habit tend to be price inelastic
Availability of substitutes-Demand for products that have a lot of substitutes tend to be price elastic
The significance of PED to businesses in terms of pricing
If a business sells a price elastic product then a change in price will have a greater effect on quantity demanded and therefore an impact on revenue
-Overall revenue would increase with a price cut
-Overall revenue would decrease with a price increase
Opposite happens for inelastic products
What is income elasticity of demand?
A measure of the extent to which quantity demanded is affected by a change of income
What is the formula for income elasticity of demand?
% change in quantity demanded
———————————————-
% change in income
What will happen to normal goods as a result of change in income?
For most normal goods an increase in customer income will increase demand (the extent of the change depends on if products necessity or luxury)
Luxury vs necessities in influencing income elasticity of demand
Whether a product is luxury or a necessity may be the main factor influencing YED.
Eg. If the economy goes into recession and income falls then less money ma be spent on luxuries impacting quantity demanded.
Business producing products classed as necessies as find demand is less sensitive to changes in icome
What is the income elasticity for luxuries and necessities?
Luxuries-more than 1
Necessities-less than 1 but more than 0
What income elasticity does inferior goods have?
Negative income elasticity
As income rises customers often switch to better alternatives and substitute products become more affordable so demand falls
Eg. Instant noodles, if income rises people would switch to more nutritious foods which cost more so noodle demand falls
Why is income elasticity of demand significant for a business?
Planning-A business selling mainly inferior goods may find sales increase during recession so this can be used to ensure enough stock is available.A business selling mainly normal goods may see a decrease in demand and during recession so may need to reduce capacity
Product decisions-YED can be used to ensure a business has a range of products eg. If a business mainly sells normal goods they may introduce some inferior goods which will sell better during economic uncertainty
Limitations of elasticities
-Can be challenging to gather reliable data on changes in demand in relation to factors
-Other factors affect demand (so may not be price or income) eg.Customer taste
