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Economic Chapter 7-4

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Chapter 7: Elasticity

1

What you will learn in this chapter
1. Define and measure elasticity of demand and elasticity of supply. 2. Determine the relationship between demand elasticity and total revenue. 3. Understand the factors that determine elasticity of demand and elasticity of supply.

Punchline
• Imagine that some event drives up the price of gasoline (think about two examples) • How would consumers respond to the higher price? • By how much would consumption of gasoline fall?

Answer to the gasoline question
• Many studies have examined consumers’ response to gasoline prices. • Consumption responds more in the long run than it does in the short run. • A 10% increase in the gasoline prices reduces gas consumption by about 2.5% after a year and about 6% after five years.

Roadmap
1. Elasticity of demand 2. Measurement of price elasticity 3. Elasticity and total revenue 4. Determinants of price elasticity of demand 5. Other demand elasticity measures 6. Elasticity of supply 7. Determinants of price elasticity of supply

Elasticity of demand
• The price elasticity of demand is a measure of how much consumers respond to changes in price. • Total revenue that one receives from selling a good is the price of the good times the quantity sold: TR = P*Q

• Seller’s dilemma: raise or lower the price?
• Can be solved by knowing the elasticity of demand.

Measurement of price elasticity
• Problem: we cannot measure consumers’ responsiveness to changes in price by looking at absolute currency changes in price and absolute changes in quantity demanded. • Solution: measure a relative response. In other terms, compare the percentage change in the quantity demanded to the percentage change in the price.

Measurement of price elasticity
This comparison is expressed by the following formula: ������ ������ %������ℎ������������������������ ������������ ������������

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