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Tutorial 3

The document discusses factors that affect demand and supply, price elasticity of demand including definitions, total revenue, cross elasticity and income elasticity. It also provides examples and practice questions related to these economic concepts.

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11 views

Tutorial 3

The document discusses factors that affect demand and supply, price elasticity of demand including definitions, total revenue, cross elasticity and income elasticity. It also provides examples and practice questions related to these economic concepts.

Uploaded by

3456123
Copyright
© © All Rights Reserved
Available Formats
Download as PDF, TXT or read online on Scribd
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Factors that affect the demand (shift the demand curve):

1. The prices of related goods


Substitutes: a good can be used in place of another good. Example: Coke and Pepsi
Complements: a good used together with another good. Example: lenses and frame
2. Expected future prices and income
3. Normal good: A good is a normal good if demand rises as income rises.
4. Inferior good: A good is an inferior good if demand falls as income rises
5. Population/ Number of buyers
6. Preferences/ Tastes

Factors affecting supply (shift of supply curve)


1. Prices of factors of production/ input
2. Expected future price
3. Number of producers
4. Technology

Exercise:
To show these scenarios on the graph:
During the epidemic, a fifth of office worker continue to work from home.
Many potential buyers may want to spend more on improving their living condition.
Residents received handouts from the government (wage subsidies, welfare benefits)
It is difficult to find workers to build new houses.
Price Elasticity of Demand
a. Definition:
a unit-free measure of responsiveness of the quantity demanded to a change in price, holding all else constant
Mathematically:
x
%x x = x Px = 1 Px
 x, p = =
x
%Px Px Px x slope of inverse demand function x
Px
𝒙𝟏 +𝒙𝟐
𝒙 = Average quantity = 𝟐

𝑷𝟏 +𝑷𝟐
𝐏𝐱 = Average price = 𝟐

Price elasticity of demand is unit free, only magnitude matters (absolute value)
Value of price elasticity of demand: 0 ≤ 𝜀𝐷 ≤ ∞

𝜀𝐷 = 0 Perfectly inelastic demand


𝜀𝐷 < 1 Inelastic demand
𝜀𝐷 = 1 Unitary elastic demand
𝜀𝐷 > 1 Elastic demand
𝜀𝐷 = ∞ Perfectly elastic demand

Price elasticity of demand along a linear demand curve


Elasticity is not equal to the slope of the demand curve. Along a linear demand curve, the slope is constant
but the elasticity moving downward along the curve.
b. Total revenue and Elasticity

Inelastic demand P ↑  TR ↑, P↓  TR ↓
Unitary elastic demand P ↑  TR remains unchanged, P ↓  TR remains unchanged
Elastic demand P ↑  TR ↓, P↓  TR ↑

c. Cross Elasticity of Demand


It measures the proportionate change in the quantity of x demanded in response to a proportionate change in
the price of some other good (y)
x
%x x = x Py ε x,p y  0 Substitute s
 x, p = =
x
%Py Py Py x
Py ε x,p y  0 Complement s

d. Income Elasticity of Demand


It measures the proportionate change in quantity demanded in response to a proportionate change in income
x ε x,I  0 Normal good
%x x = x I
 x,I = =
%I I I x ε x,I  0 Inferior good
I
Practice Questions

1. If a 5 percent fall in the price of chocolate sauce increases the quantity demanded of chocolate sauce by 10
percent and increases the quantity of ice cream demanded by 15 percent, calculate the
a) Price elasticity of demand for chocolate sauce.

b) Cross elasticity of demand for ice cream with respect to the price of chocolate sauce.

c) The change in your expenditure on chocolate sauce.

2. Why sometimes wheat farmers throw away part of their output when facing a good harvest?

3.
MC practice question 53)
A straight-line demand curve with negative slope intersects the horizontal axis at 200 tons per week. The
point on the demand curve at which the price elasticity of demand is 1 corresponds to a quantity demanded
A) of 0 tons.
B) of 100 tons.
C) of 200 tons.
D) that would be negative if a negative quantity demanded were possible.

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