EC120 Lecture Notes - Lecture 4: Demand Curve

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1 Nov 2017

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E = % change in quantity demand / % change in price. E = % change in quantity supplied / % change in price. Price elasticity of demand: close alternatives - food is elastic because there are many substitutes, definition of the market. Elasticity of demand for food will be lower for wheat: time horizon. Demand for gas in the short-term is inelastic. Does not work for competitive firms - won"t sell if they change price. An inelastic demand curve will gain a lot of revenue by increasing price, and lose little sales. When demand is inelastic and we raise the price, total revenue goes up. Revenue is maximized at unit elastic point - b/c demand becomes more elastic as price increases. Inelastic - increasing price increases revenue: unit elastic - increasing price, no effect on revenue, elastic - increasing price lowers revenue. A tax on gasoline will lead to an increase in consumers pay.

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Discussion #1

The law of demand states that a fall in the price of a good raises the quantity demanded, and the increase in price leads to a decrease in quantity demanded. The price elasticity of demand measures the responsiveness of the quantity demanded to a change in price. Demand for a good is said to be elastic if the quantity demanded responds substantially to changes in the price, and the percentage change in quantity demanded is greater than the percentage change in price. Demand is said to be inelastic if the quantity demanded responds only slightly to changes in the price, which indicates that the percentage in price is greater than the percentage in quantity demanded.

However, the extent of responsiveness of quantity demanded to a change in price depends on the nature of a particular good or service in the market. The price elasticity of demand partly depends on the availability of close substitutes. When a large number of substitutes are available, consumers respond to a higher price of a good by buying more of the substitute goods and less of the relatively more expensive good. In addition, goods or services that are considered necessities tend to have less elastic (more inelastic) demand, whereas goods or services that are considered luxuries have more elastic (less inelastic) demands.

Explain why the demand for the good or service provided by the organization you work for is elastic or inelastic. How does this influence pricing decisions?
Provide examples on how the availability of close substitutes affects price elasticity of demand.
Give specific examples of necessities or luxuries, and explain how they affect price elasticity of goods or services.

Please answer ALL bulletins and place the answers under the correct bulletin.

Step 1
Analyze gasoline price hike statistics in the following scenario.
In June 2008, the U.S. retail gas price jumped from $3 to $4 a gallon.

This is a 33% increase in price from January 2008.

During that time, the total quantity of gasoline purchased fell by 3%.

Supplies of gasoline produced also decreased from 1 million barrels to 800,000 barrels.

No viable substitute has been created to replace gasoline.

Step 2
Calculate the price elasticity of gasoline.
In a one- to two-page (250-500-word) paper, address the following. Be sure to show all work.

Calculate the price elasticity of demand for gasoline.

Calculate the elasticity of supply using the information provided.

Calculate the changes in consumer and producer surplus.

Because there is no viable substitute for gasoline at this time, what can you say about the cross-elasticity and income elasticity of supply and demand for gasoline?

Is the demand for gasoline elastic, inelastic, perfectly elastic or inelastic, or unit elastic?

5. The demand curve for a product is given by Qdx = 1,000 - 2Px + .02Pz where Pz = $400. (Hint: If you're not comfortable with the calculus alternatives, compute Q at the given prices, then again with a 1% increase in price. Then figure percentage change in Q over the percentage change in P, %Q/%P).

a. What is the own-price elasticity of demand when Px = $154? Is the demand elastic or inelastic? What would happen to the firm's revenue if it decided to charge a price below $154?

b. What is the own-price elasticity of demand when Px = $354? Is the demand elastic or inelastic? What would happen to the firm's revenue if it decided to charge a price below $354?

c. What is the cross-price elasticity of demand between good X and good Z when Px = $154? Are good X and good Z substitutes are complements?

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EC120 Lecture Notes - Lecture 4: Demand Curve

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