4.1.3 What Affects Elasticity of Demand

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En provenance du cours de University of Pennsylvania

Microeconomics: The Power of Markets

notes

University of Pennsylvania

Microeconomics: The Power of Markets

notes

We make economics decisions every day: what to buy, whether to work or play, what to study. We respond to markets all the time: prices influence our decisions, markets signal where to put effort, they direct firms to produce certain goods over others. Economics is all around us. This course is an introduction to the microeconomic theory of markets: why we have them, how they work, what they accomplish. We will start with the concept of scarcity and how specialization according to comparative advantage helps us achieve more than we could alone. Next we model a marked using the tools of Supply and Demand and learn what well working markets accomplish and what their limit are. We end by exploring the impact of government intervention on perfect markets. Examples are taken from everyday life, from goods and services that we all purchase and use. We will apply the theory to current events and policy debates through weekly exercises. These will empower you to be an educated, critical thinker who can understand, analyze and evaluate market outcomes.

À partir de la leçon

Understanding Markets: Elasticities, Market Surplus, Efficiency, and Equity

There is a lot of terminology this week. We will introduce of the concept of elasticity of demand that measures the responsiveness of quantity demanded to a change in the price of a good. We will explore the relationship between change in price and revenue or sales and how elasticities can help us predict whether a decrease in price will increase or decrease revenue. We then introduce other elasticities of note: cross price elasticity, income elasticity and elasticity of supply. We end the week by exploring the great accomplishment of markets: maximizing the size of the pie or the total benefit to society.

4.1.1 Elasticity: Introduction2:20

4.1.2 Elasticity of Demand4:17

4.1.3 What Affects Elasticity of Demand4:39

4.1.4 Perfectly Inelastic and Perfectly Elastic Demand4:21

4.1.5 Elasticity Along a Straight Line Demand Curve3:43

Rencontrer les enseignants

Rebecca Stein
Senior Lecturer
Economics

[MUSIC]

What affects the elasticity of demand?

The most important factors is the number of substitutes that are available for

the good.

Let's take two extreme examples.

The first is frozen peas.

When you go to the grocery store to buy frozen peas,

you see the different brands of peas sitting right next to each other

on the same shelf at the grocery store, at least that's what happens here in America.

So it's very easy to compare the prices, and

although different brands try to market their product as something very special,

in the end, a frozen pea is a frozen pea is a frozen pea, and the substitutes

are very similar to each other, so the consumers are very price sensitive.

If one of the brands tries to increase their price no one's

going to buy that frozen pea, and everyone is going to go to another frozen pea.

On the other hand, firms often try to have sales on their brand in order to

steal customers from somewhere else.

They know that if they lower the price, the quantity

of people who will go to their product is going to be relatively high.

So this means that the demand for

frozen peas is relatively responsive to price or elastic.

A small change in price will cause a big change in terms of quantity demanded.

Let's think of another extreme, the demand for a specific chemotherapy drug.

What will happen if a drug company lowers the price of that drug?

Well, they're definitely not going to encourage me to go ahead and purchase it.

Thankfully, at least now, I don't need that drug,

so I'm not going to buy it just because it's on sale.

Even people who do need a chemotherapy drug are probably going to stick to

the chemotherapy drug that's best for them and that was prescribed to them

by their physician, so they will not be responsive to price.

If the price goes up they probably are still going to stick to

buying that drug if they can afford it, even by paying a lot of money.

And indeed if the price goes down they're not going to rush and

suddenly buy double the does of chemotherapy.

So this means this sort of a good has a very nonresponsive demand curve,

a very low elasticity.

And it's because for

a particular chemotherapy drug there aren't really very good substitutes.

If that's the drug that's good to treat your sickness, that's it,

you're going to stick with that drug.

So again, the most important thing that is reflected

in the elasticities is the number of substitutes.

There a few other things that I want to mention.

One is, what, how big is the expenditure on this good from your general budget?

We usually don't care when a price changes for

something that's a very small amount of our budget.

For example, a package of gum.

And we tend to look at prices a little bit more carefully if they're a big

component of our budget.

So that's another thing that will impact the responsiveness of the demand or

the elasticity of demand.

And the third thing that I want to mention

is the amount of time that you have to adjust.

And this is a very important factor when we think of goods such as gasoline.

If the price of gasoline shoots up, in the short run we don't have much choice, we

cannot change our behavior, we will just purchase the gasoline at the higher price.

But if that price hike is sustained for a period of time,

people will start changing their behavior.

They'll start buying more efficient, fuel efficient cars.

They might decide to move, physically move to a location that's closer

to their workplace so they don't have to spend so much on gasoline.

So the more time has elapsed from a change in price,

the more responsive people will be in terms of changing their behaviors and

therefore, in terms of the quantity demanded.

So let's summarize the things that affect the elasticity of demand.

Number one, and most important, is the availability of substitutes.

But it's also important whether or not this is a small share or a big share of

your budget and whether or not you have time to adjust to this change in price.

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