hapter 5 PRICE ELASTICITY OF DEMAND AND

SUPPLY

Economics For Today 9th Edition by

Tucker ISBN 130550707X
9781305507074
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Chapter 5
Price Elasticity of Demand and Supply
 CHAPTER IN A NUTSHELL
This chapter introduces the concept of price elasticity of demand. Elasticity can be thought of as
"sensitivity." The price elasticity of demand measures how sensitive the quantity demanded is to
a change in price. Based on the calculation of an elasticity coefficient, demand can be classified
as: elastic, inelastic, unitary elastic, perfectly elastic, or perfectly inelastic. Applications in the
chapter demonstrate the relationship between price elasticity of demand and changes in total
revenue in response to price changes. For example, if the price increases along an elastic segment
of a demand curve, total revenue decreases. Next, the determinants of price elasticity of demand
are discussed. These factors include: availability of substitutes, share of budget, and adjustment to
price over time. The chapter concludes by relating the concept of price elasticity to supply and the
burden of taxation.

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 hapter 5 PRICE ELASTICITY OF DEMAND AND
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 KEY CONCEPTS
Cross-elasticity of demand Price elasticity of demand
Elastic demand Price elasticity of supply
Income elasticity of demand Tax incidence
Inelastic demand Total revenue
Perfectly elastic demand Unitary elastic demand
Perfectly inelastic demand

 LEARNING OBJECTIVES
After completing this chapter, you should be able to:

1. Understand that price elasticity of demand is a measure of consumer responsiveness

with respect to the amount purchased given a price change.
2. Calculate and interpret an elastic, inelastic, unitary elastic, perfectly elastic and perfectly
inelastic demand using the mid-points formula and the total revenue test.
3. Determine those factors which contribute to an inelastic and elastic demand for a
product.
4. Explain why the price elasticity of demand varies along a given demand curve.
5. Illustrate perfectly elastic and inelastic demand curves graphically.
6. Understand that income elasticity of demand is a measure of consumer responsiveness
with respect to the amount purchased given a change in income.
7. Calculate and interpret income elasticity of demand as it relates to determining whether
a product is normal (Ey > 0) or inferior (Ey < 0).
8. Understand that cross-elasticity of demand is a measure of consumer responsiveness
with respect to the amount purchased given a change in the price of a related product.
9. Calculate and interpret cross-elasticity of demand as it relates to determining whether
two products are substitutes (Ec > 0) or complements (Ec < 0).
10. Understand that price elasticity of supply is a measure of producer (seller)
responsiveness with respect to the quantity supplied given a price change.
11. Calculate and interpret an elastic, inelastic, unitary elastic, perfectly elastic and perfectly
inelastic supply.
12. Explain that the greater the amount of time sellers have to respond to a price change the
greater the elasticity of supply.
13. Explain what is meant by a tax incidence and indicate under what conditions consumers
will bear the greatest tax incidence using the concepts of price elasticity of demand and
supply.

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 hapter 5 PRICE ELASTICITY OF DEMAND AND
SUPPLY

THE ECONOMIST'S TOOL KIT

Determining the Incidence of Taxation
Step one: Start with equilibrium in a market before the Step two: Since the supplier must pay the tax, shift the
imposition of a tax that a supplier must pay. supply curve leftward. Note that the vertical distance at
E1 is the amount of the tax per unit.

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 hapter 5 PRICE ELASTICITY OF DEMAND AND
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S2
S After tax
Tax per unit S1
Before tax
Price
per P* Price
unit per P* E1
unit

D
D
Q* Q*
Quantity of good Quantity of good
Step three: Note that the impact of the tax increases the Step four: Determine that the consumers' tax burden
equilibrium price and decreases the equilibrium quantity. equals the new equilibrium price less the original
equilibrium price. The sellers' burden is the vertical
S2 amount of the tax per unit less the consumer's burden.
After tax
S1 S2
Before tax After tax
E2 S1
P 2* Before tax
Price E2
per P1* E1 P 2*
unit Price Buyer’s Burden
per P1* E1
unit Seller’s Burden

Q2* Q1* D
Quantity of good
Q2* Q1*
Quantity of good

***

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 hapter 5 PRICE ELASTICITY OF DEMAND AND
SUPPLY

R
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***

 COMPLETION QUESTIONS
1. The ratio of the percentage change in quantity demanded to the percentage change in price
is called .

2. is a more than 1 percent change in quantity demanded in

response to a 1 percent change in price.

3. is a less than 1 percent change in quantity demanded in

response to a 1 percent change in price.

4. is a 1 percent change in quantity demanded in response to

a 1 percent change in price.

5. An extreme case in which the demand curve is horizontal and the elasticity coefficient
equals infinity is called .

6. An extreme case in which the demand curve is vertical and the elasticity coefficient equals
zero is called .

7. The total number of dollars a firm earns from the sale of a good or service, which is equal
to its price multiplied by the quantity demanded is called .

8. is the ratio of the percentage change in the

quantity demanded of a good or service to a given percentage change in income.

9. is the ratio of the percentage change in the

quantity supplied of a product to the percentage change in its price.

10. The share of a tax ultimately paid by consumers and sellers is called .

11. The ratio of the percentage change in the quantity demanded of a good or service to a given
percentage change in the price of another good or service is called a (an)
.

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 hapter 5 PRICE ELASTICITY OF DEMAND AND
SUPPLY

 MULTIPLE CHOICE
1. If a decrease in the price of football tickets increases the total revenue of the athletic
department, this is evidence that demand is:
a. price elastic.
b. price inelastic.
c. unit elastic with respect to price.
d. perfectly inelastic.

2. If the percentage change in the quantity demanded of a good is greater than the percentage
change in price, price elasticity of demand is:
a. elastic.
b. inelastic.
c. perfectly inelastic.
d. perfectly elastic.

3. Suppose the president of a textbook publisher argues that a 10 percent increase in the price
of textbooks will raise total revenue for the publisher. It can be concluded that the company
president thinks that demand for textbooks is:
a. unitary elastic.
b. inelastic.
c. elastic.
d. perfectly inelastic.

4. If the quantity of tickets to the fair sold decreases by 10 percent when the price increases by
5 percent, the price elasticity of demand over this range of the demand curve is:
a. price elastic.
b. price inelastic.
c. perfectly inelastic.
d. unitary elastic.

5. There is no change in total revenue when the demand curve for a good is:
a. unitary elastic.
b. perfectly inelastic.
c. elastic.

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 hapter 5 PRICE ELASTICITY OF DEMAND AND
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d. inelastic.
e. perfectly elastic.

6. Which of the following is true for a lower price elasticity of demand coefficient?
a. The quantity demanded is less responsive.
b. Few substitutes exist.
c. Many substitutes exist.
d. All of the answers above are correct.

7. The number of CDs purchased increased by 50 percent when consumer income

increased by 10 percent. Assuming other factors are held constant, CDs would be
classified as:
a. social goods.
b. normal goods.
c. Giffen goods.
d. inferior goods.

8. The number of computers bought increased by 20 percent when the price of on-line
services declined by 10 percent. Assuming other factors are held constant,
computers and on-line services are classified as:
a. complements.
b. unrelated goods.
c. substitutes.
d. social goods.

9. If demand price elasticity measures 2, this implies that consumers would:

a. buy twice as much of the product if the price drops 10 percent.
b. require a 2 percent drop in price to increase their purchases by 1 percent.
c. buy 2 percent more of the product in response to a 1 percent drop in price.
d. require at least a $2 increase in price before showing any response to the price
increase.
e. buy twice as much of the product if the price drops 1 percent.

10. If the price elasticity of demand for a product measures .45,

a. this good has many available substitutes.
b. this good must be a nonessential good.
c. this good is a high-priced good.
d. a decrease in price will increase total revenue.
e. this good is demand price inelastic.

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 hapter 5 PRICE ELASTICITY OF DEMAND AND
SUPPLY
Exhibit 1 Supply and demand curves for good X

800 S
W X
600
Price E
per unit 400
(dollars) Y Z
200
D
0 100 200 300 400 500

Quantity of output
(units per time period)

11. As shown in Exhibit 1, the price elasticity of demand for good X between points E and Z
is:
a. 3/13 = 0.23.
b. 3/3 = 4.33.
c. 1/3 = 0.33.
d. 1.

12. As shown in Exhibit 1, the price elasticity of supply for good X between points E and X is:
a. 1/5 = 0.20.
b. 7/5 = 1.40.
c. 1/2 = 0.50.
d. 5/7 = 0.71.

13. As shown in Exhibit 1, assuming good X is a normal good, a decrease in consumer income,
other factors held constant, will move the equilibrium from point E to point:
a. X.
b. Z.
c. Y.
d. W.

14. As shown in Exhibit 1, assuming good X is an inferior good, a decrease in consumer income,
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 hapter 5 PRICE ELASTICITY OF DEMAND AND
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other factors held constant, will move the equilibrium from point E to point:
a. X.
b. W.
c. Z.
d. Y.

15. As shown in Exhibit 1, assuming goods X and Y are substitutes, a decrease in the price of
Y, other factors held constant, will move the equilibrium from point E to point:
a. W.
b. X.
c. Y.
d. Z.

16. In Exhibit 1, the price elasticity of supply for good X between points Y and E is:
a. 1/5 = 0.20.
b. 5/3 = 1.66.
c. 3/5 = 0.60.
d. 1.

17. In Exhibit 1, the price elasticity of supply for good X between points E and X is:
a. 7/5 = 1.40.
b. 1/5 = 0.20.
c. 5/7 = 0.71.
d. 1.

18. If the government wants to raise tax revenue and shift most of the tax burden to the sellers,
it would impose a tax on a good with a:
a. steep (inelastic) demand curve and steep (inelastic) demand curve.
b. steep (inelastic) demand curve and a flat (elastic) supply curve.
c. flat (elastic) demand curve and a steep (inelastic) supply curve.
d. flat (elastic) demand curve and a flat (elastic) supply curve.

19. Suppose that when price is $10, quantity supplied is 20. When price is $6, quantity supplied
is 12. The price elasticity of supply is:
a. 0.5.
b. 0.8.
c. 1.0.
d. 1.5.
e. 2.0.

20. The Smith family buys much more macaroni when someone in the family is laid off. This
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 hapter 5 PRICE ELASTICITY OF DEMAND AND
SUPPLY
means that the Smiths' ___________ is negative.
a. demand curve for macaroni
b. income elasticity for macaroni
c. Engel's law
d. income
e. price elasticity of demand for macaroni

21. The cross elasticity of demand between two goods is 2.5. These goods are:
a. perfect complements.
b. imperfect complements.
c. unrelated.
d. substitutes.
e. inferior.

22. Which of the following statements is true?

a. If the income elasticity of demand is less than zero, the good is an inferior good.
b. Only if the demand curve is vertical will sellers raise the price by the full amount of a
tax.
c. Two goods are substitutes if the cross-elasticity of demand coefficient is positive.
d. A price elasticity of supply coefficient equal to 1.5 means the product exhibits an elastic
supply and a 10 percent increase in the price will increase the quantity supplied by 15
percent.
e. All of the answers above are correct

 TRUE OR FALSE
1. T F If a 10 percent price increase causes the quantity demanded for a good to
decrease by 20 percent, demand is elastic.

2. T F If a 10 percent price increase causes the quantity demanded for a good to

decrease by 5 percent, demand is elastic.

3. T F If a 10 percent price increase causes the quantity demanded for a good to

decrease by 10 percent, demand is unitary elastic.

4. T F If the demand curve for a good is elastic, consumers will spend more on
that good when its price increases.

5. T F Suppose an economist found that total revenues increased for the bus
system when fares were raised. The conclusion is that the price elasticity
demand for subway services over the range of fare increase is inelastic.

6. T F A horizontal demand curve is perfectly elastic.

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 hapter 5 PRICE ELASTICITY OF DEMAND AND
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7. T F If a good has a price elasticity of demand coefficient greater than 1, total

revenue can be increased by raising the price.

8. T F Other factors held constant, if there are few close substitutes for a good,
demand is more elastic for it.

9. T F If demand for a good is price elastic, it must also be income elastic.

10. T F In response to a price change for good Y, if the cross-elasticity of demand

for good Y is positive, good X and good Y are complements.

11. T F If a supply curve has a constant slope throughout its length, it must have a
constant price elasticity throughout its length.

12. T F Applying supply and demand analysis, other factors held constant, the
steeper the supply curve (less elastic), the larger the burden of a sales tax
that is borne by the sellers.

 CROSSWORD PUZZLE
Fill in the crossword puzzle from the list of key concepts. Not all of the concepts are used.

ACROSS DOWN
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 hapter 5 PRICE ELASTICITY OF DEMAND AND
SUPPLY

2. The percentage change in quantity demanded
is less than the percentage change in price.
3. The price multiplied by the quantity demanded.
4. The percentage change in quantity demanded
divided by the percentage change in price.
5. The percentage change in quantity demanded
exceeds the percentage change in price.
1. The percentage change in price causes
an equal percentage change in quantity
demanded.
6. A perfectly ______ demand is a condition
in which a small percentage change in
price brings about an infinite percentage
change in quantity demanded.

 ANSWERS

Completion Questions
1. price elasticity of demand 7. total revenue
2. elastic demand 8. income elasticity of demand
3. inelastic demand 9. price elasticity of supply
4. unitary elastic demand 10. tax incidence
5. perfectly elastic demand 11. cross elasticity of demand
6. perfectly inelastic demand

Multiple Choice
1. a. 2. a 3. b 4. a 5. a 6. b 7. b 8. a 9. c 10. e 11. a 12. d 13. c 14. a 15. c 16. c 17. c 18. c 19. c 20.
b 21. d 22. e

True or False
1. True 2. False 3. True 4. False 5. True 6. True 7. False 8. False 9. False 10. False 11. False
12. False

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 hapter 5 PRICE ELASTICITY OF DEMAND AND
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Crossword Puzzle

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