Flashcards in Chapter 3: Elasticity Deck (79)
When is a product price inelastic?
When it has few substitutes and the quantity demanded of the product is very insensitive to changes in price.
When is a product price inelastic?
When there are other firms that can offer a much cheaper price for the same product and the quantity demanded of that product is very sensitive to changes in price.
What would be the result of an increase in the price of a price elastic product?
It would lead to a more than proportionate fall in the quantity demanded.
What does price elasticity of demand measure?
The responsiveness of quantity demanded to a change in price.
What is the formula for price elasticity of demand?
% change in quantity demanded/ % change in price
Why are results negative for PED?
Demand curves slope downwards therefore we expect to see that as price rises, the quantity demanded falls.
What are the ranges for PED?
0 = perfectly price inelastic, 1 = price elastic and infinity is perfectly price elastic.
What is the shape of a perfectly price inelastic demand curve and why is this the case?
A vertical line as no matter how much price rises or falls, the same quantity is always sold. The quantity demanded is completely insensitive to changes in price.
What is the shape of a perfectly price elastic demand curve and why is this the case?
A horizontal line as this shows the firm can sell as much as it wishes at a given price. However, a rise in price leads to demand falling to zero.
What is the result of an increase in price of a product that is price inelastic?
There will be a less than proportionate fall in the quantity demanded.
What are the features of a unitary product?
The demand curve is a rectangular hyperbola, the total revenue stays unchanged at every point on the demand curve, a change in price always leads to a proportionate change in the quantity demanded.
What is the definition of total revenue?
A firm's total earnings from a given quantity of sales.
How will a price increase impact revenue?
Revenue too will increase providing that the product is price inelastic.
What is total revenue equal to?
Price x quantity
How is revenue illustrated on the demand curve?
It is shown by the area underneath the demand curve.
When does 'maximisation of total revenue occur'?
When the PED is -1.
What varies along any straight line demand curve and what does this mean?
Elasticity and this means that if a firm continued to increase its price, it will not experience ever-increasing rises in total revenue.
What are the factors affecting PED called?
Determinants of PED.
How can the number and closeness of substitutes impact PED?
If there are few substitutes for a product then these products are price inelastic so firms can afford to increase prices and still expect an increase in revenue.
Why do some firms spend a huge amount of money on marketing and branding?
They want to make consumers believe that their product is unique and original, this can create the perception that there are no real substitutes. Successful branding can alter the PED for a product and make it less elastic.
How does the proportion of income for which a good accounts affect PED?
Firms are able to increase the prices of items that already had low prices as they account for such a small proportion of a person's income.
How does the influence of habit impact PED?
Addictive goods tend to be price inelastic, these products are fairly insensitive to changes in price meaning that the government can afford to tax them without firms losing a large amount of revenue.
What does income elasticity of demand measure?
The responsiveness of demand to a change in income.
What can firms use PED to predict?
The effect of a change in price on total revenue and expenditure on a product, the price volatility (variation) in a market following changes in supply, the effect of a change in an indirect tax on price and quantity demanded, businesses can use this information as part of a policy on price discrimination, usually a business will charge a higher price to consumers whose demand for the product is price inelastic.
What is the formula for income elasticity of demand?
% change in quantity demanded / % change in income
Why is a positive sign expected for income elasticities?
We expect that with more income, people will tend to buy more of a commodity.
What is a normal good?
A good for which as incomes rise, demand rises too.
When are goods income elastic?
When demand for some goods is very sensitive to changes in income.
What will make a perfectly income inelastic product?
If the demand for a product is completely insensitive to changes in income. The income elasticity of demand would be equal to zero throughout it's range.