Price and income elasticity of demand Flashcards
What happens if PED (Price elasticity of demand) is 0?
Perfectly inelastic.
This means that demand does not change at all when the price changes – the demand curve will be drawn as vertical.
What happens if PED is between 0-1?
(i.e. the percentage change in demand from A to B is smaller than the percentage change in price), then demand is inelastic.
What happens if Ped is 1?
- (i.e. the percentage change in demand is exactly the same as the percentage change in price), then demand is said to unit elastic.
- A 15% rise in price would lead to a 15% contraction in demand leaving total spending by the same at each price level.
What is Ped is bigger than 1?
Then demand responds more than proportionately to a change in price i.e. demand is elastic.
For example a 20% increase in the price of a good might lead to a 30% drop in demand. The price elasticity of demand for this price change is –1.5.
What factors affect Ped?
The number of close substitutes for a good.
The cost of switching between products.
The degree of necessity or whether the good is a luxury.
The % of a consumer’s income allocated to spending on the good.
The time period allowed following a price change.
Whether the good is subject to habitual consumption.
Peak and off-peak demand.
The breadth of definition of a good or service
What is the formula for income elasticity of demand?
% change in quantity demanded/ % change income
What is income elasticity of demand?
Income elasticity of demand measures the extent to which the quantity of a product demanded is affected by a change in income.
Income elasticity of demand
What will happen for most normal products?
A rise in consumer income will result in a rise in demand.
A fall in consumer income will result in a fall in demand.
Income elasticity of demand
What products will income elasticity of demand which is more than 1 effect?
What are some examples?
Affect luxuries.
As income grows, proportionately more is spent on luxaries.
Consumer goods, expensive holidays, Branded goods.
Income elasticity of demand
What goods does income elasticity being less than one but more than 0 affect?
What are some examples?
Necessities.
As income grows, proportionately less is spent on necessities.
Staple groceries, own label goods.
Income elasticity of demand
What happens for inferior goods?
They have an income elasticity of less than one.
As income rises, demand falls- as consumers switch to better alternatives & substitute products become more affordable.
What happens if Ped = 0?
Demand is perfectly inelastic
What are normal products the same as?
Necessities
What elasticities do Normal necessities have?
Income inelastic
Between (0) - (+1)
They have a low but positive income elasticity. Typically necessities such as milk & fruits.
Inferior goods
What is the income elasticity for inferior goods?
YED<0
